Cap Rate
Capitalization rate — the ratio of a property's net operating income to its market value.
Definition
Capitalization rate (cap rate) is one of the most important metrics in real estate investing. It equals the property's Net Operating Income (NOI) divided by its current market value or purchase price. Cap Rate = NOI ÷ Property Value.
Cap rate represents the expected return on a property assuming an all-cash purchase (no financing). A 7% cap rate means an all-cash investor would earn a 7% annual return. Cap rates are used to compare properties across different markets and price points without the distortion of financing.
Cap rates vary significantly by market, property type, and quality. Class A apartments in gateway cities (NYC, SF) might trade at 3–4% cap rates reflecting high demand and lower perceived risk. Class C rentals in secondary markets might cap at 9–10%. Lower cap rates mean higher prices relative to income — the market is pricing in lower risk or higher future growth.
Critical distinction: cap rate is NOT the same as cash-on-cash return. Cap rate ignores financing; cash-on-cash accounts for your actual mortgage payment and measures your return on the cash you invested.
Related Terms
Net Operating Income (NOI)
A property's total income minus all operating expenses, before mortgage payments and taxes.
Cash-on-Cash Return
Annual pre-tax cash flow divided by total cash invested, expressed as a percentage.
Cash Flow
The money left over each month after all property-related income and expenses are accounted for.
Gross Rent Multiplier (GRM)
A quick valuation metric: purchase price divided by gross annual rents.
Value-Add
A property investment strategy that generates returns by improving the property to increase its income and value.
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Also in "C"
Closing Costs
Fees and expenses paid at settlement when a real estate transaction is finalized.
Comparable Sales (Comps)
Recent sales of similar properties used to estimate the market value of a subject property.
Contract Assignment
Transferring the right to purchase a property from a buyer (assignor) to a third party (assignee) for a fee.