Do you factor loan pay down in your cash on cash returns?
Real Estate Agent / Investor · Chicago, IL · Member since 2016 · 13 posts · 2 votes
You can include it in separate analysis, but it is not included in CoCR because it is not a cash inflow it is still an outflow. it is also imaginary wealth, since equity can disappear in an instant if the market takes a downturn.
as a side note, I hope you are including all expenses when you say you have a return of $1000 a month....your profit is most definitely not simply the difference between rent and mortgage payment.
@Peter Milic Thats a good question. IMO I do think you can do a 1 year, 5 year, 10 year and so on ROI and include the following factors. Appreciation, tax depreciation, principle balance being paid down and cash flow. So for example if you sold the property in 5 years taking all the above into consideration (also include cost to sell the property) then you can come up with a true ROI. Also keep in mind you pay capital gains tax on the gain when you sell and the cash flow each year you pay passive income tax rates so you can also factor that into your equation. You may need an accountant for that one. LOL
It's 400 a month. That extra payment is cash going the wong way. Equity isn't involved in CoCR...it isn't cash. You're going backwards.
You can include it in separate analysis, but it is not included in CoCR because it is not a cash inflow it is still an outflow. it is also imaginary wealth, since equity can disappear in an instant if the market takes a downturn.
as a side note, I hope you are including all expenses when you say you have a return of $1000 a month....your profit is most definitely not simply the difference between rent and mortgage payment.
@Peter Milic Thats a good question. IMO I do think you can do a 1 year, 5 year, 10 year and so on ROI and include the following factors. Appreciation, tax depreciation, principle balance being paid down and cash flow. So for example if you sold the property in 5 years taking all the above into consideration (also include cost to sell the property) then you can come up with a true ROI. Also keep in mind you pay capital gains tax on the gain when you sell and the cash flow each year you pay passive income tax rates so you can also factor that into your equation. You may need an accountant for that one. LOL
Correct, but the question was about Cash on Cash Returns. CoCR only involves cash...for the first year only. So the more he comes out of pocket to with his own cash to pay down the principle, he is lowering his CoCR since that new flow of cash is going to wrong way.
On a side note, the only thing you are accomplishing by using your own cash to pay down a loan, is reducing your CoCR, and reducing the amount of interest you end up paying on the loan...at the end of the loan term. All you are doing is exchanging your cash, and its ability to grow through investments, for equity, and its possibility of going down as much as it is going up,
Keep the cash in hand, and use it forward, not backwards. Let the tenants pay off your mortgage (they do such a nice job of it for you).
Joe Villeneuve Thank you for your help. I just want to explain, I'm not paying down the principal out of $1000 cash flow that I get or with my own money, I get a $1000 in cash flow and my mortgage is PI, not interest only, so so far out of $1700 payment $1100 was going for the interest and $600 for the principal roughly.
Grant Cardone calculates COCR based on a interest only loan, that's why I was wondering.
Thank you
You lost me...but even so, it doesn't matter where the source of the funds are coming from as long as they come from you.
Joe Villeneuve Thank you for your help. I just want to explain, I'm not paying down the principal out of $1000 cash flow that I get or with my own money, I get a $1000 in cash flow and my mortgage is PI, not interest only, so so far out of $1700 payment $1100 was going for the interest and $600 for the principal roughly.
Grant Cardone calculates COCR based on a interest only loan, that's why I was wondering.
Thank you
The type of loan doesn't matter. CoCR is the easiest, simplest, REI analysis there is.
Cash, only cash, no cash substitutes, for the first year only.
Cash out (coming to you) = CoCR%
Cash in (going away from you to the deal)
If the $$$$ are not in actual cash, they are not included.
@Peter Milic Cash-on-cash returns don't include the portion of the mortgage payment that goes to principal. That's the simple answer. But since you're a commercial real estate broker and might have bought a piece of commercial real estate the longer term answer gets a little more fun. If you have a 5 year fixed rate with a balloon payment your cash-on-cash return is going to get materially better (assuming interest rates are the same) in 5 years when the loan resets with a new balance and, therefore, a new mortgage payment. If you're paying $2,000/month on a mortgage payment today and with a lower loan balance in 5 years that payment drops to $1,500/month you now that extra $500/month towards your cash-flow. So while that doesn't materially change your cash-on-cash return *today* it will over time. That's a little different than with a 30 year fixed where "the payment is the payment" over 30 years unless you refinance. Side note, I don't know if my little diatribe on looking at returns with a commercial property and the mandated loan reset is "generally accepted" but it does have implications (for me) in how I look at principal payments "working" for me. Others will wholeheartedly disagree...or at least I'm guessing they will...
@Peter Milic Cash-on-cash returns don't include the portion of the mortgage payment that goes to principal. That's the simple answer. But since you're a commercial real estate broker and might have bought a piece of commercial real estate the longer term answer gets a little more fun. If you have a 5 year fixed rate with a balloon payment your cash-on-cash return is going to get materially better (assuming interest rates are the same) in 5 years when the loan resets with a new balance and, therefore, a new mortgage payment. If you're paying $2,000/month on a mortgage payment today and with a lower loan balance in 5 years that payment drops to $1,500/month you now that extra $500/month towards your cash-flow. So while that doesn't materially change your cash-on-cash return *today* it will over time. That's a little different than with a 30 year fixed where "the payment is the payment" over 30 years unless you refinance. Side note, I don't know if my little diatribe on looking at returns with a commercial property and the mandated loan reset is "generally accepted" but it does have implications (for me) in how I look at principal payments "working" for me. Others will wholeheartedly disagree...or at least I'm guessing they will...
Taking a step further...or backwards, the term CoCR should never be used on commercial property. Use the term "CAP RATE" instead...and never use the term CAP RATE on a residential property.
If 1000 is your "cash" flow/month and at the same time your mortgage is having a principal paydown netting another 600/mo...
Answer: Your Cash on Cash return is $1000
The "Principal Paydown" isn't calculated in your Cash, but it is amazing!!!
Call it a "bonus".
Notes:
1) The rents going to your mortgage, principal as well as interest, do count toward your "Cap Rate".
2) you also are getting Tax "Depreciation" as well as Property "Appreciation" which are two other "bonuses" that don't get calculated into your "Cash on Cash Return"
...I am thinking about taking some of those "Quotes" out... nah
@Peter Milic Cash-on-cash returns don't include the portion of the mortgage payment that goes to principal. That's the simple answer. But since you're a commercial real estate broker and might have bought a piece of commercial real estate the longer term answer gets a little more fun. If you have a 5 year fixed rate with a balloon payment your cash-on-cash return is going to get materially better (assuming interest rates are the same) in 5 years when the loan resets with a new balance and, therefore, a new mortgage payment. If you're paying $2,000/month on a mortgage payment today and with a lower loan balance in 5 years that payment drops to $1,500/month you now that extra $500/month towards your cash-flow. So while that doesn't materially change your cash-on-cash return *today* it will over time. That's a little different than with a 30 year fixed where "the payment is the payment" over 30 years unless you refinance. Side note, I don't know if my little diatribe on looking at returns with a commercial property and the mandated loan reset is "generally accepted" but it does have implications (for me) in how I look at principal payments "working" for me. Others will wholeheartedly disagree...or at least I'm guessing they will...
Taking a step further...or backwards, the term CoCR should never be used on commercial property. Use the term "CAP RATE" instead...and never use the term CAP RATE on a residential property.
Hey Joe, I'd like to pick your brain.
In my experience in commercial property investing, we always use Capitalization Rate, Cash on Cash Return, and Debt Coverage Ratio as the 3 most important numbers to look at when buying a commercial multi family building.
The "holy trinity" as it's called in this industry is: 8%Cap - 12%CoCR - 1.6 DCR
When you say you should never use it on a commercial property, what do you mean?
@Peter Milic Cash-on-cash returns don't include the portion of the mortgage payment that goes to principal. That's the simple answer. But since you're a commercial real estate broker and might have bought a piece of commercial real estate the longer term answer gets a little more fun. If you have a 5 year fixed rate with a balloon payment your cash-on-cash return is going to get materially better (assuming interest rates are the same) in 5 years when the loan resets with a new balance and, therefore, a new mortgage payment. If you're paying $2,000/month on a mortgage payment today and with a lower loan balance in 5 years that payment drops to $1,500/month you now that extra $500/month towards your cash-flow. So while that doesn't materially change your cash-on-cash return *today* it will over time. That's a little different than with a 30 year fixed where "the payment is the payment" over 30 years unless you refinance. Side note, I don't know if my little diatribe on looking at returns with a commercial property and the mandated loan reset is "generally accepted" but it does have implications (for me) in how I look at principal payments "working" for me. Others will wholeheartedly disagree...or at least I'm guessing they will...
Taking a step further...or backwards, the term CoCR should never be used on commercial property. Use the term "CAP RATE" instead...and never use the term CAP RATE on a residential property.
Hey Joe, I'd like to pick your brain.
In my experience in commercial property investing, we always use Capitalization Rate, Cash on Cash Return, and Debt Coverage Ratio as the 3 most important numbers to look at when buying a commercial multi family building.
The "holy trinity" as it's called in this industry is: 8%Cap - 12%CoCR - 1.6 DCR
When you say you should never use it on a commercial property, what do you mean?
If you compare CoCR and CAP, they are basically the same thing, with the differences specific to where they are used. Neither includes "virtual" return terms and rationalizations (appreciation, tax savings, etc...), but CoCR is just cash. Cash in vs Cash out in the first year after acquisition. It's a measure of how fast you get your initial cash investment back, in the form of cash. Since Commercial REI involves more than that, I've always been taught to use CAP instead instead of CoCR for Commercial.
CAP rate is used for commercial as a way of comparing "apples to apples"...well, actually Red Delicious to Macintosh. The Capitalisation Rate allows the Commercial REI to compare the use of their cash investment in a Multi, or NNN, or Office, or etc...
Now, having said all of this, there is no rule that says you can't use CoCR for Commercial, but to me it's buried in the CAP Rate anyway. However, (you're going to love this one), I do use CoCR in the way I invest in Commercial...because I invest in commercial using the same system I use for SFR.
Your cashflow is $12000 per year ($1000 per month). Your cash on cash return is a ratio (percentage) calculated as
COCR = (Annual Cashflow) / (initial cash outlay) x 100%
For most of us with residential rental proprety, the initial cash outlay is the amount of money we had to bring to the settlement table to complete the purchase. For some it also includes the amount of out of pocket money used to rehab/make ready.
Example. if your downpayment and closing costs that you paid in cash totalled $48000 then your $12000 annual cashflow divided by $48K gives you a cash on cash return of 25%. If you paid $240K cash for the property and own it free and clear, then your $12K annual cash flow after all expenses are paid gives you a 5% COCR which is equal to your return on investment and is also equal to your CapRate. In this instance, $12K is also your Net Operating Income.
Adam Adams great answer Adam, thank you so much!
This is my first 5+ property so I'm trying to figure out if I made a good deal or not.
I new some stuff when I was buying it but not everything.
So far looks like my cap rate will be around 7.5 and I'm happy with that, but my COCR is only around 8%. I've put 25% down and had to invest more money to fix it.
they said on the podcast once not to pay what property will be worth in the future, I think I that that's what I did, but I'm happy, it's a perfect location for me and I self manage for some extra money, and the loan is getting payed off, all in all not to bad I think.
Thanks again!
Peter, the principal paydown is part of what they call IRR (internal rate of return). this is the number that includes everything you are making.
Hope this helps!
-Adam Adams
Joe, respectfully, CoCR and Cap Rate are definitely not "basically the same thing".
1) Cap rate measures the rate at which you capitalize your investment back based on the purchase price and the net operating income (not including debt service). Gross income and Gross expenses (besides debt service) based on purchase price.
2) Cash on Cash Return measures Cash invested in acquisition vs Net cash back in your pocket after ALL expenses (including debt service) and has NOTHING to do with the purchase price.
Please Note: The ONLY reason I am correcting you is because there are a lot of new people reading these and the last thing I want is for a new person to think CoCR and CAP are "basically the same thing".
I believe every investor should be looking at CAP & CoCR & IRR & DCR when underwriting a potential investment opportunity, furthermore I believe every investor should know the difference between them.
Joe, respectfully, CoCR and Cap Rate are definitely not "basically the same thing".
1) Cap rate measures the rate at which you capitalize your investment back based on the purchase price and the net operating income (not including debt service). Gross income and Gross expenses (besides debt service) based on purchase price.
2) Cash on Cash Return measures Cash invested in acquisition vs Net cash back in your pocket after ALL expenses (including debt service) and has NOTHING to do with the purchase price.
Please Note: The ONLY reason I am correcting you is because there are a lot of new people reading these and the last thing I want is for a new person to think CoCR and CAP are "basically the same thing".
I believe every investor should be looking at CAP & CoCR & IRR & DCR when underwriting a potential investment opportunity, furthermore I believe every investor should know the difference between them.
I can't argue with you on your statement, however if you look closely at mine you'll see why I way they are basically the same thing. It's based on those differences, specifically their uses....residential vs. commercial. In the end, they are both measures of the same thing...getting your seed money back to be able to move forward again...all within the first year. However, one is a commercial measure and the other residential.
The basic difference between the two is based on how the two types of RE are purchased. Commercial is rarely all cash...and residential more often than not can be.
I do love the fact that you use CoCR for both commercial and residential...so do I. I use the same system for both. I only use CAP Rate for commercial though, as I originally stated...CAP Rate is a Commercial analysis term/method.