All Forum Posts by: Samuel Cieszynski
Samuel Cieszynski has started 1 posts and replied 2 times.
Post: ROI - Does loan paydown lower returns?
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The numbers I used are solely for illustrative purposes.
The point I am trying to make is that leverage can increase your returns but as you pay back principal you're leverage decreases. Since CoCROI is calculated at the very beginning when leverage is at a maximum it gives you inflated results. By the time you pay back your loan you will only be earning the equivalent of a Cap Rate, since your no longer leveraged.
Cash flow, appreciation and loan pay down seem to be touted as positives. I agree with cash flow and appreciation but loan pay down seems to me to lower returns as it literally means you are deleveraging.
Post: ROI - Does loan paydown lower returns?
- Posts 2
- Votes 0
Cash on Cash ROI seems to be a popular metric but to me it seems deceptive. It appears to give you a temporary boost based on finding good financing. However as the loan is paid off your return becomes lower and lower approaching the cap rate.
For example if your cap rate is 7%, and you find financing at 5% you get a "boost" (maybe your CoCROI lends somewhere around 9%). You're basically making 2% on the money you borrowed (the money is earning 7%, but you are only paying 5% for it). However as you pay down the loan that starts to disappear. So your CoCROI starts shrinking with the very first mortgage payment and levels out at the cap rate.
Therefore using CoCROI will give you a higher return than you will eventually end up collecting.
It seems to make more sense to evaluate a property based on Cap Rate and treat financing separately. If you can make a little extra of the financing thats great, but it doesn't make sense to me to include it in the valuation a property. I'd treat it as a separate issue.
Consequently, paying down the loan lowers your return.... am I missing something?