Side-by-side comparison
| Cap rate | Cash-on-cash return | |
|---|---|---|
| Formula | NOI ÷ purchase price | Annual cash flow ÷ cash invested |
| Financing | Ignored (unleveraged) | Included (after debt service) |
| Best for | Comparing properties | Evaluating a financed deal |
| Based on | Full purchase price | Only the cash you invest |
A worked example
Suppose a property is priced at $400,000 and produces $28,000 of net operating income. Its cap rate is 7.0% ($28,000 ÷ $400,000).
Now finance it with 25% down ($100,000) at 7% interest over 30 years. Annual mortgage payments are roughly $23,950. After a $2,000 annual capital reserve, cash flow is about $2,050. Add $12,000 of closing costs to the down payment and total cash invested is $112,000. The cash-on-cash return is about 1.8% ($2,050 ÷ $112,000) — lower than the cap rate because debt, reserves, and acquisition costs all reduce the return on cash.
When to use each
- Screening deals? Use cap rate to compare properties on equal footing. Try the cap rate calculator.
- Deciding how to finance? Use cash-on-cash return to see how the down payment and rate change your return. Try the cash-on-cash return calculator.
- Still learning the ranges? Read what is a good cap rate.
Frequently asked questions
What is the difference between cap rate and cash-on-cash return?
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Cap rate is net operating income divided by purchase price and ignores financing. Cash-on-cash return is annual pre-tax cash flow divided by total cash invested, including the down payment, closing costs, and upfront repairs or reserves. Cap rate compares assets; cash-on-cash evaluates a financed deal.
Should I use cap rate or cash-on-cash return?
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Use cap rate to compare properties on equal footing regardless of financing, and use cash-on-cash return to judge how a specific loan structure affects your return. Most investors look at both: cap rate to screen deals, and cash-on-cash to decide how to finance the one they choose.
Can cash-on-cash return be higher than the cap rate?
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Yes. When the property's cap rate is higher than the cost of the loan, leverage amplifies returns and cash-on-cash return exceeds the cap rate. When borrowing costs are higher than the cap rate, leverage drags returns down and cash-on-cash falls below it.
Does cap rate or cash-on-cash return include the mortgage?
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Only cash-on-cash return includes the mortgage. Cap rate is calculated before debt service, while cash-on-cash subtracts annual mortgage payments and capital reserves from net operating income to estimate the cash flow used in the return.
This guide is for educational purposes only and is not financial or investment advice.