I work with investors often and list and sell investment property all the time. I will often run ads indicating 25% cash on cash return, etc. I always get calls or emails asking me how I figured the return. Often I am told my numbers are wrong.
I always figure the cash on cash return using the power of leverage with typical financing terms. Cash on cash return is the number one measure of investments most investors should be looking at in my opinion. Its not cap rate, its not Gross rent Multipliers, its the same measure Warren Buffet likes to use. I like to use realistic numbers and never assume a purchaser is paying cash. By taking a loan and using leverage your cash on cash return is increased. Here is an example.
Typical 2 Family purchase: (using round numbers for ease of calculations)
Sale price:$100,000
Rents:$1,200 (600/unit/month)
Taxes:$3,000 ($250 Month)
Insurance: $600 (50/Month
Water/Sewer: 480 (40/month)
Tenants pay their own heat and electric.
If a buyer pays cash the returns are as follows: $14,400 total income less $5,280 in operating expenses. Results in a net income of $9,120. $9,120 net income on $100,000 cash equals a 9.12% cash on cash return.
Now lets assume the investor buys the same property with 20% down and finances the remainder with a bank. Typical investor rates right now are at 6%. Therefore, payments on the $80,000 loan would be $479.64 or $5,755 a year.
Net income now would be $3,364. ($9,120-$5,755) However, keep in mind on this example the investor has only invested $20,000 of his own money. In this case his cash on cash return is $3,364/$20,000 or 16.8%. Remember, In this example, the investor still has $80,000 in the bank to be used for other deals.
Leverage when used effectively can allow you to build a larger portfolio of properties and significantly boost your returns. If you have questions call or visit me online at Albany NY Rental property
