How Loan Terms Move Cash on Cash Return

Cash on cash return does include the mortgage. The payment comes out of annual cash flow before you divide, and the down payment sits inside the cash invested figure you divide by. So yes, it includes debt service. That is why two people can buy the same investment property at the same price, collect the same rent, and report returns four points apart.

The nine ways to raise the return on a rental cover price, rent, expenses and financing together. This page takes only the financing part apart and prices each loan term against one deal.

Where the loan lands in the formula

The standard example on this site, financed:

• Price $500,000, 25% down, $15,000 of closing costs, $10,000 of make-ready work
• Cash invested $150,000
• Rent $5,200 a month, 5% vacancy, $6,000 of taxes, $2,400 of insurance, 18% of collected rent for maintenance, reserves and management
• Net operating income $40,210
• Loan $375,000 at 7.25% over 30 years, payment $2,558 a month, $30,698 a year
• Cash flow $9,512, cash on cash return 6.3%

The whole payment comes out, principal included. That is worth saying plainly, because the principal share is not a cost in the usual sense. It buys equity. Cash on cash return subtracts it anyway, because the money left your account this year. Change the rate, the term or the structure and you change that subtraction, which changes the percentage.

One point of rate is worth about two points of return

Rate	Monthly payment	Annual cash flow	Cash on cash
6.25%	$2,309	$12,506	8.3%
7.25%	$2,558	$9,512	6.3%
8.25%	$2,817	$6,403	4.3%

Same price, same rent, same expenses. Only the interest rate moved. A point of rate is about $3,100 a year on a $375,000 loan, and $3,100 against $150,000 of cash is 2.1 points of return.

The multiplier is your loan divided by your cash. Here that is 2.5 to 1. Put less down and the ratio rises, so each point of rate hits harder. Put more down and it hits softer. This is why rate shopping on a leveraged rental is not a rounding exercise. A quarter point is real money.

Buying the rate down works the same way, with one wrinkle. A discount point on this loan is $3,750 at closing, which raises cash invested to $153,750. A point usually buys about a quarter point of rate, though the exchange varies by lender and by day. At 7.00% the payment drops to $2,495 and cash flow rises to $10,271, so the return goes from 6.3% to 6.7%. Payback on the point is a little under five years. Good trade if you hold, poor one if you sell or refinance soon.

A shorter term can wipe the cash flow out

Term moves the number more than rate does, and investors underrate it. Here is the same $375,000 at 7.25% under four structures:

Structure	A year of payments as a share of the balance	Monthly payment	Annual cash flow	Cash on cash
Interest only	7.25%	$2,266	$13,022	8.7%
30 years	8.2%	$2,558	$9,512	6.3%
20 years	9.5%	$2,965	$4,635	3.1%
15 years	11.0%	$3,424	-$876	-0.6%

The 15-year loan does not make the property worse. It makes the measure worse. You are paying down $14,000 or so of principal in the first year instead of about $4,000, and every dollar of that is equity you keep. Cash on cash return counts none of it. An amortization schedule shows the split year by year, and it is the honest answer to why a short term looks so bad here.

There is a lending limit too. At 15 years the payments are $41,086 against $40,210 of net operating income, a debt service coverage ratio of 0.98. Investment property lenders generally want coverage above 1.0, often somewhere in the 1.15 to 1.25 range, though the minimum varies by lender and program. The 30-year version covers at 1.31. The 20-year covers at 1.13. So the shortest term on that table may not be an approvable loan on this rent.

What an interest-only period does

An interest only loan on $375,000 at 7.25% costs $2,266 a month, $27,188 a year. Cash flow rises to $13,022 and the return to 8.7%, up 2.4 points. Nothing about the building changed. You simply stopped paying principal.

Two things to hold onto. The payment resets. After a ten-year interest-only period the balance amortizes over the remaining 20 years, which is the $2,965 payment and the 3.1% return already in the table. And during the interest-only years the cash is real but no equity is building, so your exit leans on price and on being able to refinance.

Notice that the interest-only row is the only one where a year of payments falls below the property’s 8.0% cap rate. That line is the difference between borrowing that lifts your return and borrowing that drags it down, worked through in the guide on borrowing and cash on cash return.

An adjustable rate behaves like a milder version of the same bet. The early payment is lower, the return looks higher, and the reset is the part you have to underwrite rather than hope about. Run the post-reset payment before you sign, not after.

Run your own loan

The wider set of inputs a full underwriting model takes, including appreciation and taxes, is listed in the glossary entry on the property investment calculator. For the financing question alone, the cash on cash return calculator on this site’s home page takes loan amount, rate, term and an interest-only option, so you can run one property at two rates or two terms and read both percentages side by side. The simple tab skips the property detail if you already know the totals: $12,000 of annual cash flow on $150,000 invested is 8%.