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Cap or Capitalization rates are the means used to calculate the sale price of (smaller) income generating property. A cap rate can also be used to generate the sale price for business. Cap rates differ depending on the type of property, business and where it’s located. It is the most common ratio used in the market place to help investor find properties that are priced well. The ratio is an expression between the annual net operating income and it’s present worth (Sale Price).
Let’s run through an example.
Let’s say that you’re analyzing the property that has three 1 bedroom units and is generating net operating income of $1800 per month and is listed for $400,000. Here’s how we would calculate the cap rate
Cap Rate = Annual Net Operating Income / Sale Price
Cap Rate = (1800 * 12) / 400000
Cap Rate = 0.054 or 5.4%
