Cap Rate Calculator
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Cap Rate Definition, Formula, and Example
Cap Rate Definition, Formula, and Example
The cap rate (short for capitalization rate) is a simple way to measure how much money a property earns compared to its price. It’s calculated by dividing the annual profit (after expenses) by the property’s price and turning that into a percentage.
For example, if a property earns $10,000 per year and is valued at $200,000, the cap rate is 5%.
This percentage helps investors quickly compare properties. A higher cap rate means better potential returns but might come with more risk. A lower cap rate usually means the property is safer or in a more desirable area but gives lower returns. It’s a handy tool for evaluating real estate investments.
Net Operating Income (NOI):The property's total income from operations (e.g., rent) minus operating expenses (e.g., maintenance, property taxes, insurance), excluding financing costs like mortgage payments.
Property Value or Purchase Price:The market value or the amount paid for the property.
What is a good Cap Rate in real estate?
It depends on where the property is located, but generally, 2-4% is the average cap rate of a rental property. On the other hand, short-term rentals have a 4-10% cap rate on average. A 3% cap rate with 3% annual property value appreciation gives you about a 7% annual return.
To evaluate a good cap rate, you need to consider the property's appreciation factor, risks, and opportunity cost.
Typically, a 7% cap rate is considered a high cap rate. If you are running a short-term rental, a 20% cap rate is what the top 10% of short-term rental listings are achieving.
Cap Rate vs Rental Yield
If you are a realtor, it's good to use cap rate as a return metric rather than rental yield, so that buyers can understand the return rate regardless of their financing situation.
Cap rate is based on the current market value of the property. Rental yield is calculated using purchase price.
Cap rate doesn't consider mortgage fees (financing fees), unlike rental yield.