Cash On Cash Return
I'm new at this, but I do keep reading (even on a reply to one of my other posts) about cash on cash return of 20%. I don't want to sound dumb but how does that work and what does it actually mean in newbie term's
To keep it simple I buy a $1,000,000.00 property putting $200,000.00 down with a gross yearly rent of $100,000.00 this would give you a 50% cash on cash return.
ok so it doesn't have to do with net just gross rents recieved. I bought a condo with 20,000 down and it rents for 750 a month so cash on cash would be 9000 gross rents to 20,000 down or 45%. I feel like that seems good, some people only want 20%. I think it seems weird because you still have the note to pay for which makes my net rent 2040 which is 10% are sure you don't go by net rents????
technically Michael is not right-- his 50% cash on cash only works if th $100,000 is NET income, not gross.
Cash-on-cash is the rate of return on your downstroke and other out of pocket costs not re-imbursed by your mortgage. Unfortunately it is often misunderstood or misused.
Lets take a building that has $10,001 net operating income before debt as an example. Lets assume that I paid $100,000 to purchase the building. If I borrow the entire $100,000 from a bank at 10% interest and have no cash in thedeal then my cash-on-cash rate of return is infinite even though I only put $1.00 in my pocket at the end of the year.. If I put 20 % down or $20,000 and borrow the balance at 10% then my cash-on-cash rate of return is only 10% even though I put $2,001 in my pocket. So my rate of return looks much bigger due to the extra leverage.
So cash-on-cash returns can be very decieving as the down-payment gets smaller because all that leverage can come back to haunt you if the building has greater expenses. If instead of $10,001 net before debt the building makes $9,999 then my cash on cash is a negative infine return in the 100% financed deal and still 10% in the deal where I put 20% down.
The other problem withthis calculation is that frequently active real estate investors calculate cash-on-cash returns without regard to the value of their time managing the property and then compare that rate of return with the rate of return of some passive investment as if those were the same thing.
Returning to the example above. Lets say that I could have put the $20,000 in a bank CD and got 5% (clearly not the case in this low interest enviornment but it makes the numbers easy to calculate). 5% of $20,000 is $1,000 so it looks like I doubled my rate of return by investing in the building rather than a cd.
But there is a difference. I don't need to shovel the walk in front of the bank to get the 5% roi on the CD. I don't have to harrass the tenant if he doesn't pay the rent, I don't have to call the plumber to get the toilet fixed. So my rate of return is not comparable in the two investments.
very inciteful, thank you all