You’ll hear a lot of investors brag about cash flow, but in all actuality, it doesn’t tell you all that much.

For example, if we told you one of our investors had a property where cash flowed $10,000 a month we bet you’d be pretty impressed, right?

But what if we told you that the property owner had $1,000,000 tied up in that property to generate that $10,000 a month?

Much less impressive. You could get that kind of return by putting your money into a savings account.

Cash on cash return takes cash flow one step forward; it’s the amount of cash flow you make after expenses divided by how much money you’ve invested in a property.

CoC Return = Annual Cash Flow / Cash Invested

While CoC is an easy number to calculate, it begins to lose meaning if you use creative financing…which is where we come in!

In our experience, the Internal Rate of Return (IRR) is one of the best tools for comparing different real estate projects to determine which will likely yield the highest returns. Although IRR can be complex to calculate and understand, it’s worth the effort because it gives you a comprehensive look at the long-term profitability of an investment.

In simple terms, IRR is the rate at which a project’s future cash flows (income and expenses) balance out with the initial investment cost, resulting in a net present value (NPV) of zero. In other words, it tells you the annual growth rate you can expect over the investment’s lifespan.

Example:

Let’s say you invest $100,000 in a property that you plan to hold for five years. Over these five years, you receive cash flows of $20,000 each year, and at the end of the fifth year, you sell the property for $150,000. When you calculate the IRR, it shows an annual return rate of approximately 15%. This means that, over the life of this project, your investment grows by an average of 15% each year.

IRR is valuable because it accounts for both the timing and amount of cash flows, allowing you to compare investments on equal footing. Our team can help you navigate these calculations and use IRR to find the most promising opportunities for your portfolio.

Ding, ding, ding! We have a winner! Return on equity in real estate blends the simplicity of cash-on-cash returns with the long-term planning benefits of IRR by taking your overall return on investment given the amount of equity you have in a property into account.

In addition to cash flow, ROE measures the fact that your loan balance is decreasing over time, as well as any appreciation of your property.

With that said, how do you calculate return on equity? (Keeping in mind that “equity” refers to the amount of cash you would put in your pocket if you sold your property today.)

Return on Equity (ROE) = Total Annualized Return / Equity

So we need to know 2 things:

1. Equity
   • Equity = Total Value – Total Debt
2. Total Annualized Return
   • Total Annualized Return = Cash Flow + Principal Pay Down + Appreciation