Become a Bonafide Real Estate Investor II: Understanding Cash on Cash Return

The world of real estate has a lot of rules and calculations to use on your way to investing success. However, knowing to regard or disregard these calculations will give you the most opportunities moving forward.

Welcome back to the Become a Bonafide Real Estate Investor Series (Part 1). Here, we attempt to learn as much about the overall real estate markets to become better investors. It is important to remember that even if you only have one home, you can still be a real estate investor—real estate is a mindset.

Now, back to cash on cash return. Cash on cash return is a calculation real estate investors use to see their rate of return (as a percentage) for a particular property. I like to think of it as the dividend yield of the real estate world. 

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How do you calculate cash on cash return? The first number you’ll need to obtain is the cash flow of a particular property. Some investors will exclude taxes, but I take the income I can actually deposit in the bank. 

For example, if my mortgage (principal, interest, taxes, and insurance) and property management fees were $1,500/month, and I received $1,800 from my tenant, my cash flow is $300. That would be $3,600 annually ($300×12).

Next, you’ll need to determine the amount of cash you invested into the property. This number is usually your down payment, which is why having a low (or no) down payment is such a huge wealth generator. In the articles “Maximum Leverage” and “Maximum Leverage 2,” I wrote some ways to reduce the amount of your down payments.

For the above example, we will say the house costs $250,000, and we could put down $25,000. We could then do the calculation for cash on cash return. The equation is the annual cash flow dividend by cash invested. (cash flow/ cash invested).

In our example, it would look like this. $3,600/$25,000 for a percentage of 14.4%. That is a considerable percentage and one you are not likely to see as a pure investor. It would be hard to get a 10% down payment and a low-interest rate when buying an investment property.

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How to use cash on cash return. It is essential to state that cash on cash return is just a number. Being able to crunch the numbers is vital for real estate investors. But being able to improve the numbers is even more valuable. Let’s look at some ways to enhance our cash on cash return. 

1) Use the BRRRR method. The book “Buy, Renovate, Rent, Refinance, Repeat” is about improving a distressed home and keeping it as a rental property. You would use the After Repair Value (ARV) to calculate your potential cash on cash return when you start to rent the property.

However, it’s possible to have no money down in the home or even make money from the investment and continue to keep it as a rental. I gave an excellent example in the article “Renovate & Rent VS. Fix & Flip.”

The idea is to find a distressed property, pay cash for the home and renovations, and when you refinance the house, you’ll get all your money back plus additional cash. Most normal investors (me included) will never get to this level because it requires an all-star team of professionals to find and leverage these deals. However, it is something to strive for as you search for deals. 

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2) House Hacking. House hacking is a great way to improve your cash on cash return. Remember, I said that buying a home as an investor is difficult because you’ll pay higher down payments and interest rates?

That’s why you can buy homes as your primary residence. If you have access to the VA Loan, you can buy a property for zero down. Then you get a couple of roommates and achieve mortgage positive, meaning you’ll receive a positive return on your primary residence. 

You’ll receive an error when you do the cash on cash return math because you have no money invested in the property. This scenario is called an infinite return and something you should always strive for in any investment. 

Inflation vs. Rents

I first learned about an infinite return from reading “Rich Dad’s Guide to Investing.” It means that you have zero money invested in the asset, yet it still provides cash flow. It’s a powerful concept that goes hand in hand with cash on cash return. It is also the reason I started writing books because they are free to create and provide me with cash flow. 

3) Adding value. You may not achieve significant cash on cash return at first, but don’t fret. There are many ways to continue to add value to your property. You can add RV hookups to the property to get some extra income. 

How about adding a billboard or some form of advertising element? Maybe you can rent storage or a parking space. Thinking like this can truly bring out the value in most properties. The book “40 Ways to Increase the Net Income of Your Rental Property” is a great resource to begin to brainstorm ideas. 

Real Estate is a Mindset (Beginner)

Conclusion. In the end, cash on cash is just a number, albeit an important one. Run the initial numbers and see what you have. If it is a crappy number to start with, go with your gut. But if it has potential, then figure out some ways to improve the number. 

There are plenty of ways to increase rents by upgrading floors, renovating bathrooms, etc. You’ll just have to look at the return on investment of these additions and see how they affect your cash on cash return. 

Life is full of surprises, as is real estate investing. However, by looking at the numbers, working to improve them, and being honest with the situation, you’ll make it far in the world of real estate.

I highly recommend the book “Buy, Renovate, Rent, Refinance, Repeat” because it covers all of these topics plus much more. To read more from me, please follow me on Twitter and my Facebook Page—real estate investing can be for everyone. Enjoy and Happy Investing. 

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