How a cash out refi can generate 92% cash on cash returns

[Mark Ferguson]

I did a cash out refi one year after purchasing a long term rental and cash on cash is nwo almost 100%. http://investfourmore.wordpress.com/2013/07/14/how-a-cash-out-refinance-can-generate-92-cash-on-cash-returns/

[Dion DePaoli]

That doesn't make sense. You can not borrower your return.

You purchased the asset or $33k. You then pulled a loan with cash out and recieved $26k. Great! But you don't have that money back, you have that money borrowed. The $26k came from a loan, that needs to be paid back.

When you purchased the property for $33.5K and then pulled out $26k, you took on new debt. That debt cost you money in interest and the $26k is within the new principal balance of the loan. You would have to put the $26k to work and generate return that exceeds the interest rate in order for that to considered return.

While the future gain might be similar to the $26k, until the asset is liquidated you can't realize the gain. The money is not yours, it is the banks, you borrowed it. Another simple test for this rational is did you report the $26k as income (or plan to)? I suspect "No". Therefore, it is not your return.

You have a property with a loan at $102k. You now have $34k in equity. Previous to the refinance you had $64k in equity. You pulled out $26k through the refinance. But you have not 'realized' the $26k, you borrowed it. When you sell the house for $134k, you will realize the difference between the debt and RE Value, which will be your $34k. That is your gain on sale in the future, not now. If you took the $26k and made money from it, that money would also be income but not the $26k. It get's paid back. The bank doesn't give you $102k and only want $72k back. That would be income.

The post title is misleading and not proper accounting. We don't want newbies running around getting cash out loans thinking they are making money, when in fact they are not.