Understanding Cap Rate, Cash-on-Cash Return, and ROI
Master the key metrics that professional investors use to evaluate property performance
Understanding financial metrics is crucial for making informed real estate investment decisions. This guide breaks down the three most important metrics every investor should know.
Build alternative scenarios with BetCalc Pro probability tools and keep the fractions straight using FracKit while you benchmark deals.
Cap Rate (Capitalization Rate)
📊 What is Cap Rate?
Cap rate measures the annual return on investment based on the property's net operating income, assuming you paid cash (no mortgage).
Example: A $300,000 property generating $24,000 NOI has an 8% cap rate
How to Calculate Cap Rate
Step 1: Calculate Net Operating Income (NOI)
• Annual Gross Rental Income: $36,000
• Minus Operating Expenses: -$12,000
= Net Operating Income: $24,000
Step 2: Divide by Property Value
• NOI: $24,000
• Property Value: $300,000
• Calculation: 24,000 ÷ 300,000 = 0.08
= Cap Rate: 8.0%
✅ What's a Good Cap Rate?
- 4-6%: Low cap rate (premium markets, lower risk, slower appreciation potential)
- 6-8%: Average cap rate (balanced risk/reward)
- 8-10%: Good cap rate (strong cash flow, higher potential returns)
- 10%+: High cap rate (excellent cash flow, but may indicate higher risk or declining area)
Important: Cap rate does NOT account for mortgage payments, so it's useful for comparing properties but not for calculating actual cash flow.
Cash-on-Cash Return (CoC)
💵 What is Cash-on-Cash Return?
CoC measures your annual pre-tax cash flow relative to the actual cash you invested (down payment + closing costs).
Example: $6,000 annual cash flow on $60,000 invested = 10% CoC return
How to Calculate Cash-on-Cash Return
Step 1: Calculate Total Cash Invested
• Down Payment (20%): $60,000
• Closing Costs: +$9,000
• Repairs/Upgrades: +$6,000
= Total Cash Invested: $75,000
Step 2: Calculate Annual Pre-Tax Cash Flow
• Annual Rental Income: $36,000
• Minus Operating Expenses: -$12,000
• Minus Mortgage Payment: -$15,600
= Annual Cash Flow: $8,400
Step 3: Calculate CoC Return
• Annual Cash Flow: $8,400
• Total Cash Invested: $75,000
• Calculation: 8,400 ÷ 75,000 = 0.112
= CoC Return: 11.2%
✅ What's a Good CoC Return?
- 5-8%: Acceptable return, better than most savings accounts
- 8-12%: Good return, typical target for investors
- 12-15%: Excellent return, strong performing property
- 15%+: Outstanding return (verify assumptions are realistic)
Total Return on Investment (ROI)
🎯 What is Total ROI?
Total ROI accounts for ALL sources of return: cash flow, appreciation, mortgage paydown, and tax benefits over time.
Components of Total ROI
1. Cash Flow
Monthly/annual rental income minus all expenses including mortgage
2. Appreciation
Increase in property value over time (typically 3-5% annually)
3. Mortgage Paydown
Equity built as tenants pay down your loan principal
4. Tax Benefits
Deductions for interest, depreciation, expenses, and more
5-Year ROI Example
Annualized: ~33% per year
Cap Rate vs CoC vs ROI: Which to Use?
| Metric | Best For | Accounts For |
|---|---|---|
| Cap Rate | Comparing properties quickly | Property performance, not financing |
| CoC Return | Measuring cash flow performance | Actual cash invested & mortgage |
| Total ROI | Long-term wealth building analysis | All profit sources over time |
Pro Tip: Use all three metrics together! Cap rate for quick screening, CoC for cash flow analysis, and Total ROI for long-term decision making.
Calculate These Metrics Instantly
Use RentWise's calculators to analyze properties with all three metrics automatically.
Disclaimer: This article is for educational purposes only. Consult with qualified financial professionals before making investment decisions.