Cash on cash (COC) return is the annual return you earn on the cash you invested in a property. It’s expressed as a percentage and provides a straightforward way to assess the profitability of a real estate investment based on the actual cash flow generated.

How to Calculate Cash on Cash Return

Let’s break down the calculation with a practical example:

1. Purchase Price: $200,000
2. Down Payment: $40,000
3. Closing Costs: $5,000
4. Total Cash Invested: $40,000 (down payment) + $5,000 (closing costs) = $45,000

Now, let’s consider the rental income:

5. Monthly Rent: $1,200
6. Annual Rent: $1,200 * 12 = $14,400

The formula for cash on cash return is:

COC Return=(Annual Pre-Tax Cash Flow/Total Cash Invested)×100

Using our example:

(14,400/45,000)$\times 100\; =\; 32\%$

In this case, the return is approximately 32%, which is an excellent return on investment.

The table below shows how different down payments (total cash invested) on a $500,000 house will change.

Why It Matters

• Ease of Comparison: COC return allows investors to easily compare different properties based on their profitability. This metric strips away the complexities of other financial calculations and focuses on the return generated from the cash actually invested.
• Investment Decision-Making: A higher cash on cash return indicates a more profitable investment, helping investors prioritize properties that offer better returns.
• Realistic Evaluation: Unlike some other metrics that consider overall property value appreciation, cash on cash return focuses on the actual cash flow, providing a realistic view of an investment’s performance.

Real Estate Investment vs. CDs and Money Market Accounts: Which is Better?

You might be looking at the Cash on Cash return for a 60% down payment on the $500,000 property and see that the return is only 4.8%. Currently CD and money market accounts are offering rates above 5%.

Scenario: Investing in Real Estate

Imagine you purchase a $500,000 property with a 60% down payment, which means you invest $300,000 upfront. This property generates $1,200 per month in rental income, totaling $14,400 per year.

Key Points to Consider:

• With your $300,000 investment, the annual rental income gives you a cash on cash return of 4.8%.
• Appreciation: Historically, real estate values tend to appreciate at around 3% per year. In this case, your property could increase in value by about $15,000 annually.
• Depreciation: Real estate investments allow for annual depreciation deductions, which can reduce your taxable income, providing a tax benefit.

Scenario: Investing in CDs or Money Market Accounts

Alternatively, you could invest your $300,000 in a CD or money market account that offers a 5% annual return.

Key Points to Consider:

• Guaranteed Return: Your $300,000 investment would earn you $15,000 in interest each year.
• Safety: These accounts are generally considered low-risk and provide a fixed return.

Comparing the Two Investments

Real Estate:

• Total Gain: Combining rental income and property appreciation, your total annual gain could be around $29,400.
• Tax Benefits: Depreciation can reduce your taxable income, further enhancing your net gain.

CD or Money Market Account:

• Total Gain: You earn a straightforward $15,000 per year, but this interest income is fully taxable.