Updated · Part of the CRE investment glossary
How cash-on-cash return works
Cash-on-cash return looks at one year of cash. At the property level, take net operating income (NOI), subtract debt service and capital reserves, and divide by the total cash equity put into the deal. At the investor level, divide the distributions an investor received in the year by the capital that investor contributed.
Because debt service sits in the numerator, leverage moves the result. Cheap debt can raise cash-on-cash above the cap rate; expensive debt can push it below. That makes it a useful check on how a financing structure affects investors’ yield from year to year.
The formula
For a single year:
Cash-on-cash return = annual pre-tax cash flow ÷ total cash invested
- Annual pre-tax cash flow: NOI minus debt service and reserves funded from operations, or cash distributed to equity.
- Total cash invested: down payment plus closing costs, fees, reserves and upfront capex funded with equity.
- Sale and refinance proceeds are left out; they belong in IRR and the equity multiple.
Worked example
A sponsor buys a property for $4,000,000 with a $3,000,000 loan at 6% interest-only. Closing costs and reserves add $200,000, so equity is $1,200,000. Year 1 NOI is $260,000.
Debt service is $3,000,000 × 6% = $180,000, leaving $80,000 of pre-tax cash flow. If cash flow grows to $90,000 in year 2 and $102,000 in year 3, cash-on-cash rises with it, and the three-year average is $272,000 ÷ 3 ÷ $1,200,000 = 7.56%.
| Year | NOI | Debt service | Pre-tax cash flow | Cash-on-cash |
|---|---|---|---|---|
| 1 | $260,000 | $180,000 | $80,000 | 6.67% |
| 2 | $270,000 | $180,000 | $90,000 | 7.50% |
| 3 | $282,000 | $180,000 | $102,000 | 8.50% |
Cash-on-cash vs cap rate, IRR and equity multiple
The cap rate is NOI divided by property value, before any debt: $260,000 ÷ $4,000,000 = 6.5% here. Cash-on-cash is after debt service and on equity only. IRR and the equity multiple cover the whole hold, including the sale. A deal can show a low cash-on-cash and a strong IRR when most of the return comes at exit, as in many value-add plans.
Cash-on-cash also appears in waterfalls. Some agreements set a hurdle on it: for example, the GP’s split increases only after investors have received a stated cash-on-cash return in a year. When it is used that way, the agreement’s definition of cash flow and of the capital base decides the number, not the pro forma.
Common mistakes
Two deals quoting the same cash-on-cash may not be measuring the same thing:
- Leaving closing costs and reserves out of the denominator: in the example, $80,000 ÷ $1,000,000 would show 8.0% instead of 6.67%.
- Mixing property-level cash flow with investor distributions: cash held back as reserves is not distributed.
- Counting return of capital as yield: a refinance distribution that returns capital is not cash-on-cash.
- Using the current year’s equity after a refinance without saying so: the base changes the number.
- Reading it as total return: it says nothing about appreciation or the sale.
General information, not legal, tax or investment advice. Your operating agreement, offering documents, counsel and CPA govern your deal.