Real Estate Deal Analysis & Advice

The Ultimate Analysis: Cash on Cash Return vs. Overall Return

Expertise: Business Management, Commercial Real Estate, Landlording & Rental Properties, Real Estate Deal Analysis & Advice, Mortgages & Creative Financing, Personal Development, Real Estate Investing Basics
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There’s been quite a bit of interest and discussion in the BiggerPockets Forums about the differences between the cash on cash return and the overall return, which one is more important and what makes for a good return in the context of rental properties or apartment buildings.

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Let’s discuss each in turn.

What’s the Difference Between the Cash on Cash Return and the Average Annual Return?

Zillow ranked Oklahoma City as the Top Area Where Mom-and-Pop Landlords Make the Most Money.

Assuming you bought an average house for $120,000 in 2009, put 20% down and financed the rest at 4.5% over 30 years, Zillow says that the spread between the rental income and your mortgage payment is a gross profit of $536 per month. Deduct from that $100 of property taxes and $30 insurance, and you're left with $406, which we'll call our monthly cash flow. Note that for underwriting purposes, you should also include other expenses, like a home warranty, maintenance & repairs, leasing costs and a vacancy factor, but for the purposes of this exercise, we'll leave those off.

Related: Cash on Cash Return: What It Is and Why It Can Be Deceptive

In any event, our annual cash flow is $406 x 12 = $4,777. (You can follow along and check my math with the BiggerPockets Rental Property Calculator.)

What was the cash you invested to close on the house? You had to put 20% down, pay 3% in closing costs, and you did $2,500 in light renovations to get the house rent ready. In all, you had to come up with $30,100 in cash to buy this house.

Your cash on cash return (or COCR for short) is the annual cash flow divided by the cash you invested to buy the house. So: $4,777 / $30,100 = 16%

Let’s talk about the overall return. Let’s assume that you could resell the house in 2 years for $140,000 because you bought it right, and the property appreciated a little bit as well. When you sell you’ll have to pay 3% closing costs, 6% commissions, pay off the mortgage and deduct the cash you initially invested. After punching all of this into a spreadsheet, you’re left with a net profit of just under $2,849.

But in addition you had 2 years of cash flow totaling $4,777 x 2 = $9,614, and if you add that to the profit from the resale, your total profit is $12,463. The overall return is then your total profit ($12,463) divided by the cash you invested ($30,100) which is 41%. Since you held the property for two years, your average annual return is 41% divided by 2 which is 20.5%.

So you’re making about a 16% return on your money each year (the COCR), and your overall return after you sell the whole thing after two years is 21% per year.

Which is More Important: the Cash on Cash Return or the Average Annual Return?

It depends on what you’re looking for.

Related: Return on Investment (ROI) Versus Cash on Cash Return (CCR)

If you’re looking for income to replace your job, you’ll likely want monthly cash flow. You’re going to look for a high cash on cash return, and you may OK with the lack of any upside (as long as the property value isn’t going down!). It looks like you’re headed to Oklahoma City!

If you’re good on the income side, you may be happier with compounding your money by appreciation. This means you could buy in hotter areas, where the cash flow is minimal but the appreciation potential is enormous. Check out San Francisco! Or flip some houses!

The nice thing about commercial real estate in particular is that you can build value in ANY market, as long as you can increase the net operating income of the property. You could buy an apartment building at a fair market valuation on current financials and then increase the rents and decrease expenses. Doing so increases the value of the building, sometimes substantially.

What’s a “Good” Return?

This is a difficult question to answer because it depends on you, your investors and the kind of deals you’re doing.

For example, your friend and family investors may be happy with a 10% average annual return, but a more sophisticated investor may not consider anything below 20%. In this case, you may be looking for stable, high-yield commercial property for maximum cash flow, but with no or little upside. Or perhaps you’re a developer who will face 2 years of negative cash flow, but you’re projecting a much bigger upside.

Based on conversations with other apartment building investors and the BP Forums, it appears that a 10% cash on cash return for this asset class is something to strive for. If you can't achieve that on day 1, then get there as soon as possible thereafter. Investors typically like an 8% preferred cash on cash return plus some upside equity.

A Healthy Mix of Cash Flow and Upside

On the single family houses, I always loved the lease option strategy. You buy a house under market (but not crazy under market), put a lease option buyer in there who pays you an upfront option fee and possibly a higher-than-market rent to get some rent credits, and then he buys it at a higher price than you bought it WITHOUT any broker commissions. What a fantastic model if you're into single family houses!

On the apartment building side, I like the combination of some cash flow, adding value over 3-5 years and doing a cash-out refinance that returns part or all of the cash initially invested (taking the risk off the table and allowing you to reinvest the money) and then holding it indefinitely.

As Minh Le put it in a BiggerPockets Forum post, “There is no right or wrong answer. Cash-flow gets you off the rat race while appreciation builds your wealth.” And Troy Fisher wrote “we all have different End Games, and you’ve got to plan and dream to your own.”

What kind of returns are you looking for? What are you actually getting?

Leave a comment below!

Michael Blank is a leading authority on apartment building investing in the United States. He’s passionate about helping others become financially free in 3-5 years by investing in apartment building deals with a special focus on raising money. Through his investment company, he controls over $30MM in performing multifamily assets all over the United States and has raised over $8MM. In addition to his own investing activities, he’s helped students purchase over 2,000 units valued at over $87MM. He’s the author of the best-selling book Financial Freedom With Real Estate Investing and the host of the popular Apartment Building Investing podcast Apartment Building Investing podcast.
    Replied over 6 years ago
     Im confused about the lease to own and charging a higher-than-market rent to get some rent credits as I thought federal reforms a few years ago now prohibit s this
    Danny Duran
    Replied over 6 years ago
    What’s a typical upfront option fee for lease option tenant buyer?
    jeffrey gordon
    Replied over 6 years ago
    had a quick read of your number projections. what are you projecting as net cash flow % before Mortgage PITI? In my experience anything under 50% is a big reach. The entire strategy depends upon that Net income before and after PITI, if you overstate that not much point in cash on cash or total cash calculating in my mind.
    Michael Blank Rental Property Investor from Northern Virginia, VA
    Replied over 6 years ago
    Hi Jeffrey … I typically underwrite deals using expenses of 50% of income for properties where the tenants pay for their own electric and gas, 55% if not. However, I’ve seen larger properties (75+) run at 60% because of the additional pay roll overhead required, so 55% may not be conservative enough …
    Frankie Woods
    Replied over 6 years ago
    Great article as always Michael. I have been searching for 20% CoCR, but it has been very difficult. I have been able to get near the 15% mark though. It’s nice to see a range to shoot for. Thank you for the article!
    Jeff M. Investor from Flagstaff, Arizona
    Replied over 5 years ago
    Hello. This is my first question as I joined BP today. I think I’ve got the concepts but not the terminology. Question: Why not use the amount of rent that goes to pay down principal as a factor in NOI or ROI? For example, on a $100,000 cash outlay I have $1,000 per month positive cash flow. This is $12,000 cash on cash or 12% right? But I also happen to have a 15 year low interest loan and pay $1,000 per month towards principle. By my way of thinking, this principle payment is the same “affect” as cash on my net worth and adds another 12% annual to my return. Am I missing something fundamental or is it just a matter of how we each want to look at it to meet our management style and goals? My goal is to own legacy properties outright so I have passive income when I am a geezer with a gold club. Thanks! Glad I found this community!
    Cody Steck Residential Real Estate Agent from Salt Lake City, UT
    Replied over 4 years ago
    I know that cash flow and equity as well as just about anything else can be negotiated in a partnership on a deal but what is an average breakdown for these things after you pay the cash investor his preferred return? For instance, I have a deal I am looking at that requires 30k down. I want a partner to put up the money for the down payment and take an 80% ownership while I take 20%. The property will cash flow $5,400/year, so his 8% preferred return works out to $2,400/year. What would be a typical or realistic split for the other $3,000 in yearly cash flow? Does he then get 80% due to his ownership stake while I take the remaining 20%? Any thoughts are greatly appreciated.
    Michael Blank Rental Property Investor from Northern Virginia, VA
    Replied over 4 years ago
    Cody – if your investor is getting an 8% pref AND 80% equity, then yes, that is correct.
    Llewelyn A. Investor / Broker from Brooklyn, NY
    Replied over 3 years ago
    Hi Michael… Awesome Video Walk Through. This is very similar to the way I analyze deals using the Internal Rates of Return and all the pro-forma projections over a future time frame. Unfortunately, this type of analysis will only cause very few investors (I would say less than 10% of BP Readers) to actually sit and try to understand all of such a sophisticated analysis. I’ve been trying for about a Decade and I still can’t try to get CoCR minded people to open up their minds to these more sophisticated calculations. It’s made my Partners and I millions, but unfortunately, it will fall on a lot of deaf ears. Thanks for making this video. I’ll keep a link to it when ever I try to talk to those that don’t understand IRR.