Cash on cash return is an investment term that gives the percentage ratio of the money you get before tax to your total investment. It is only used on investment that is expected to give profit. The formula is used as a quick test to set the ground for further review or analysis of investment. It can tell an investor if the returns are satisfactorily high.

Some of the investors have used the formula to identify if a property is overpriced. By applying it in a calculation, an investor can judge if the returns promised or indicated are realistic. This will inform the decision to buy or not. It can tell instant equity of the property without having to rely on professional valuation.

An example is a property whose value is given at 1.2M dollars with a down payment of 300,000. The amount of rent collected from every month is given at 5,000 dollars. When calculating the percentage, you will be required to take the income of the entire year, which is 60,000 and divide it by the annual investment of 300,000. This will give you a figure of 20 percent which is your annual return on investment.

The calculations are based on raw figures obtained from an income flow before tax. Such figures do not represent the real situation because each investor has individual tax obligations. These obligations influence investment decisions made regarding any property. Some investors defer the taxes through the capital cost allowance.

There are crucial property factors that are not considered by the formula. They include appreciation and depreciation. The calculation considers capital returns as income which is erroneous. It gives a deceptive figure and raw assumptions that are not the real situation on the ground. There are other obligations to fulfill with rent collection before counting profits.

Every investment environment has risks that are not factored in the calculation. They include natural calamities, economic changes like inflation and occurrences that are unforeseen. This will affect the value of your investment and how much income comes out of the venture. The formula disregards such factors.

Cash on cash return percentages are based on simple interest calculations. Compound interests are more attractive to investors focusing on long term returns. Calculations after tax are more accurate because necessary adjustments have been made. These calculations have factored the important changes like expected losses and depreciation. They can be reliably used in complex investment calculations.

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