Cap Rate: Defined And Explained

Mar 7, 2024

5-minute read

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Possibly two real estate agents talking about something with a view of commercial real estate buildings from the window.

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If you’re a real estate investor or are thinking about becoming one, you’re probably interested in finding good deals on investment properties you can flip or rent. When you know a market well, it may be easy to see that a property is a winner. But as you begin to grow your holdings, you’ll need a more sophisticated system based on metrics.

The capitalization rate (cap rate) is a metric that's very important to real estate investors. They use it to help evaluate properties and find good deals. Let’s take a look at what cap rates are, what they tell you and how to calculate them.

What Is A Cap Rate In Real Estate?

Cap rate is a measurement used to estimate and compare the rates of return on multiple commercial or residential real estate properties. In this article, we’ll focus on residential rental real estate – specifically one- to four-unit multifamily homes – held for commercial or investment purposes.

Cap rates are calculated by dividing a property’s net operating income (NOI) by its current market value.

Cap rates can provide valuable insight into a property. But the cap rate isn’t the only metric used to evaluate a real estate investment. Investors will also want to consider other factors such as:

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