Cash-on-Cash Return (COC) 

In the same way there are multiple measures of income, for example Cash Flow (financing dependent income) and NOI (financing independent income) there are multiple measures when it comes to returns as well. As mentioned before, the theoretical return on the fully paid property (or financing independent rate of return) is known as the Cap Rate. In addition to this, there is the real rate of return - in other words, the non theoretical return. Since this return is directly related to the amount of cash you put into the investment, it is known as the Cash-on-Cash or COC return. 

As an example, we went over the fact that putting $100 into a savings account would give you a return of $4 per annum - also known as a 4% ROI. The COC is the same measure, except it relates to the return you would get from putting that $100 into a property instead of a savings account. 

This is how the COC is calculated: 

COC = Cash Flow divided by Investment Basis 

In the example we used, the annual Cash Flow is $11,621 while the cash that we had to invest in advance on the property was $98,000 - which includes the closing costs and improvements as well as the down payment. So, in this case, the COC is: 

COC = Cash Flow divided by Investment Basis 

= $11,621 / $98,000 

Which comes to a COC of 11.86% 

Since the COC is directly comparable to the return on a savings account, it is clear that in this case the property offers a better return than the savings account. In addition to this, although there is a lot more energy and time involved in the property investment, the return is higher than that of a diversified stock portfolio. 

Although it is naturally up to you what rate of return you require when purchasing a property, it is clear that if the COC is less than 10% it is probably not worth it, and you may, in that case, be better off investing that money in the stock market, which requires a lot less work. 

However, it's important to not make any final decisions based only on the COC since there are other aspects to consider that will affect your bottom line other than the COC. 

Total ROI 

The other key financial considerations to take into account, that will affect the performance of a property are as follows: 

Tax Considerations. You may lose or gain money on taxes, depending on your individual situation. 

Property Appreciation. It is not always possible to predict this, but if you are able to, it is worth taking into consideration. 

Equity Accrued. Since your tenants are paying off your property for you, it is worth taking this into account. 

There is an important difference between Total ROI and COC. COC refers only to the financial impact of Cash Flow on your return; Total ROI takes into account all of the factors that will affect your bottom line. Calculating Total ROI: 

Total ROI = Total Return / Investment Basis 

Total Return is the combination of: Cash Flow; Appreciation; Taxes; and Equity Accrual. 

Let's look at the following example of a Total Return calculation. 

We'll say the appreciation on the value of the property this year is 2%, based on the improvements that we'll be making after the purchase. This means the appreciation figure will be $8,360. 

The equity accrued in the first year of the mortgage comes to $3,251. 

For this example, we'll assume that there are no tax breaks or extra tax due if we own this property. 

So, the calculation of the Total Return of this property for the year is: 

Total Return = $11621 + $8360 + $3251 + $0 = $23,232 

Which makes the Total ROI: 

Total ROI = Total Return / Investment Basis 

= $23,232 / $98,000 

Total ROI: 23.71% 

Not bad! 

SUMMARY OF FINANCIAL ANALYSIS 

It's important to bear in mind that although we have all of the data we need in order to assess the value of the property, the assessment only refers to the first year of ownership. The return on your investment may increase or decrease over subsequent years due to changes in the variables. For example, expenses may rise due to inflation, while accrued annual equity will increase. Rental rates may decrease or increase according to the market, and your tax situation may change. 

Although it is not possible to predict the future, it is a good idea to use trend data or demographic data that indicate inflation and the direction of the market etc, in order to extend your analysis a couple of years further. 

As an example, this is a full financial analysis of this specific property, using a spreadsheet I've created which enables you to easily put together a financial model for the property of your choice. You can either click on the link or paste it into the address bar of your browser: http://www.biggerpockets.com/renewsblog/wp-content/uploads/2010/06/analysis.jpeg 

You can see from the example that if the revenue increases by 3% per annum due to rental rates rising, and operating expenses increase as predicted by 2% per year due to an increase in cost of services and inflation etc. the cash flow will also increase each year, along with the rates of return. If you were to carry out a more in-depth analysis, taking into account factors such as taxation issues, including deductions you would probably receive on the interest portion of your loan, you would find that your return could be even better.