Big Artie and Little Artie and Cash on Cash Return

I had lunch with my pal Big Artie the other day. His son Little Artie, recently home from college, joined us.

Big Artie has been investing in real estate lately and he wanted to tell me about his latest potential acquisition that he planned to do in partnership with Little Artie.

“It’s a two family just off the highway,” Big Artie told me, “It also has garages and a barn which could mean extra income.”

“How much?” I asked.

“$125,000,” said Big Artie.

I raised an eyebrow. “That sounds like a good deal.”

So we sat with Little Artie and went through the numbers:

20% down is $25,000. We guessed about $10,000 would be needed to make some repairs and replace a furnace, so a total of $35,000 in cash would be needed.

Rent is currently $1,000 per unit per month or $24,000 per year. There is some upside. Good.

The taxes are about $6,000 per year, but we thought we could get this expense down to $4,000 based on the purchase price. We figured the annual debt service would be about $6,000 per year and about $4,000 per year would be needed for repairs, maintenance and miscellaneous expenses. Based on these estimates the cash flow would about $10,000 per year.

We finished lunch and drove over to the property. When we got out of our cars I asked Little Artie, “Did they tell about cash on cash return in your finance class?”

“No,” he replied.

“O.k., what is $10,000 divided by $35,000?” He fumbled for a moment, the said, “about 29 percent.”

I said, “A 29 percent first year return? Where else are you going to get that? Welcome to real estate investing!”

Little Artie’s eyes lit up. Big Artie smiled.

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