Often called a ‘cap rate’, it’s a lot less complicated than many are led to believe. Put in the simplest terms, if you buy a real estate investment property for cash, just divide the Net Operating Income (NOI) by the price you paid. The resulting percentage will be your capitalization rate.
NOTE: Don’t confuse cap rate if cash on cash return. That’s another post altogether.
The NOI is what’s left after all vacancies and operating costs. Do NOT count what’s known as ‘capital expenditures’ as operating costs. If you repair something, or spend money maintaining it, it’s an operating expense. If, however, you don’t repair the stove/oven in a unit, you replace it with a new one, that’s a capital expenditure. Capital expenditures are NOT operating expenses, and therefore CANNOT be taken in the year spent against that year’s income. They must be depreciated over time.
Anywho, back to NOI.
Gross Scheduled Income (GSI) — minus Vacancy and ‘credit’ losses — minus all Operating Expenses — = NOI.
If you have loan payments, you want NOI to be more than your annual payments (debt service). NOI minus debt service = Cash Flow (CF).
Soooooo . . . NOI/Price Paid = Capitalization Rate
If NOI is $10, and you paid $110 for the property — $10/$110 = 9.1% Cap Rate.
I’d love to talk with you. Gimme a call at 619 889-7100 if for no other reason than you’re a kind person, and I need a fix. Or, click on the Contact BawldGuy button up top and do your best Mark Twain impression. 
Have a good one.
Related posts:
About BawldGuy
Recent Comments