CAPITALIZATION RATE
Back to GlossaryDefinition
A real estate valuation metric equal to a property’s net operating income divided by its current market value.
Summary
The Capitalization Rate (Cap Rate) is a fundamental real estate investment metric that helps investors evaluate the profitability and risk of income-producing properties. Think of it as a percentage that tells you how much annual income a property generates relative to its purchase price. A higher cap rate typically indicates either higher returns or higher risk, while a lower cap rate suggests lower returns but potentially more stable investments. Cap rates are commonly used to compare different properties and make investment decisions.
Usage Context
Critical for real estate investment analysis, property valuation, portfolio management decisions, and comparing investment opportunities across different markets and property types.
Common Confusions
- Thinking cap rate includes mortgage payments (it doesn't - it's based on all-cash purchase)
- Confusing cap rate with cash-on-cash return when financing is involved
- Believing higher cap rates are always better without considering risk factors
- Using gross income instead of net operating income in calculations
- Assuming cap rates remain constant over time
