The capitalization rate, or “cap rate,” equals Net Operating Income (NOI) divided by a property’s current market value or purchase price, expressed as a percentage. It shows the unleveraged return before financing costs.
Cap rate helps novice and seasoned real estate investors, agents, students and homebuyers quickly compare income-producing properties by standardizing returns across varying price points.
While cap rate measures unlevered yield, metrics like IRR factor in time value of money and cash flow timing, and cash-on-cash return incorporates financing effects.
By using NOI and property value, cap rate creates an apples-to-apples comparison for deals ranging from single-family rentals to large commercial assets.
Comparing a property’s cap rate to local market averages reveals if the expected return aligns with risk tolerance and investment goals.
Sales-comparison ignores income potential and expense structure, whereas cap rate focuses on actual cash flow performance.
Project annual rent plus ancillary fees (parking, laundry, etc.).
Deduct property taxes, insurance, maintenance, management fees and vacancy loss to calculate NOI.
Use the appraised value, recent sale price, or current purchase offer.
Cap Rate = (NOI ÷ Property Value) × 100.
Higher cap rates often signal higher risk or less desirable locations. Lower cap rates usually reflect premium assets in stable markets.
Cap rates vary by property class, neighborhood quality and stage of real estate cycle.
High leverage can boost cash-on-cash return even on low cap rate deals, so always analyze metrics together.
Multifamily often trades at 4–6%, single-family rentals at 8–12%, depending on location.
Retail: 5–7%; Office: 6–8%; Industrial: 5–6.5%, tied to tenant credit and lease term length.
New York City: ~4%; Dallas: ~6.5%; Miami: ~5.5%; Chicago: ~6%.
Consult CoStar, CBRE reports, local brokerage market briefs and public assessor records.
Higher interest rates typically push cap rates up as borrowing costs rise.
Strong employment markets drive lower cap rates due to steady demand.
Newly built or well-managed properties command lower cap rates versus older assets.
Higher vacancies and weaker tenants increase risk, resulting in higher cap rates.
Cash-on-cash measures actual equity return after financing, while cap rate excludes debt.
IRR projects total return over the holding period, considering sale proceeds and cash flows.
GRM = Purchase Price ÷ Gross Rent; quick screening tool without expense detail.
Use cap rate for yield, cash-on-cash for leveraged returns, and IRR for long-term performance.
Cap rate reflects current income; it doesn’t project price growth or depreciation benefits.
Minor changes in expense estimates can significantly shift cap rate results.
Some include reserves or management fees differently; always verify NOI components.
Combine cap rate with market analysis, financing terms and strategic goals.
Jane negotiates a lower price to target a 9% cap rate or requests seller credits for deferred maintenance.
Always stress-test NOI, verify local benchmarks and factor in capex reserves.
Not necessarily—higher rates often accompany greater risk or weaker markets.
Debt service impacts cash-on-cash return but not cap rate; analyze both to understand leveraged yield.
No. Cap rate measures current income return, not future property value growth.
Review local sales comps, brokerage reports and consult appraisers to gauge typical cap rates.
Cap rate standardizes income returns, aids comparison, and highlights risk but should be one of multiple metrics.
Use online cap rate calculators, Excel templates and brokerage tools for quick analysis.
Explore industry blogs, Real Estate Finance books and data from CoStar, CBRE and local MLS.
Pair cap rate with cash flow analysis, market trends and financing scenarios to build robust deal models.
