OfflineIf you are looking to purchase investment property, you are going to see the term CAP rate, or real estate capitalization rate, used quite frequently. Fortunately, CAP rate is easy to calculate and easy to understand.
The first step to calculating CAP rate, or capitalization rate, for investment real estate, is to determine the sales price. If you have already purchased the property, then you would simply use the total price you paid for the home including closing costs, etc. If you have not yet purchased the investment property,then use the asking price plus the amount you plan to pay for closing costs, etc.
The second step to figuring the CAP rate for an investment property, is to determine the yearly Net Operating Income (or NOI) for the property. In order to do this, take the monthly rent that you plan to receive for the property and multiply by 12 months. Then take the monthly operating expenses for the property and multiply by 12 months. Subtract the operating expenses from the rent total to obtain the Net Operating Income or NOI. (Remember, when calculating expenses, you need to total all expenses associated with renting the property, including maintenance, HOA fees, reserve fund, management fees, property taxes, homeowners insurance, etc.)
As an example: If you expect to receive $1500/month in rent, your total yearly rent will be $1500 x 12 = $18,000. If your monthly operating expenses are $300/month, then your yearly expenses will total $300 x 12 = $3,600. Subtract the expenses from the rent for a yearly Net Operating Income (NOI) of $18,000 - $3,600 = $14,400. The final step in calculating CAP or capitalization rate for a property is simply to divide the Net Operating Income (NOI) by the sales price. As an example: If you have a yearly Net Operating Income (NOI) of $14,400, and you purchased the property for $150,000, then you have a CAP rate of $14,400/$150,000 = .096 or just over 9% CAP Rate.
Randy Bailiff
Dean Graziosi Investment and Life Coach
I have definitely bookmarked this one!! Simple and explanatory.
Shirley
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very useful to have some helpful tools here for commercial property!
bookmarked it too!
Valerie
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If you have a mortgage pmt that you are paying monthly would that be counted into your expenses?
Karen
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Randy,
Thank you very much for a straight forward and very clear explanation of the term CAP Rate.
This term is most closely associated with Commercial Property, and I certainly have much less experience with that and therefore did not have a good understanding of how to calculate a CAP Rate. It is really simple when you explain that it is just the NOI / Purchase Price; and you also provided a clear method of calculating NOI.
I am very comfortable in calculating ROI which is more commonly associated with SFHs vs. Commercial Property. They are similar terms; but calculated slightly differently.
Just for the edification of others, ROI (Return on Investment) is your monthly Cashflow (CF) x 12 months / Purchase price. For example a SFH with $350 per month CF (after all expenses) and a purchase price of $39,000 would be:
$350
x 12 = $4200 annual Cashflow
$4200 / 39,000 = 11% Return on your Investment (i.e. the $39,000 you spent to buy the property).
Thank you; thank you Randy!
--Walter
Walter,
This is basically the exact same calculation as Randy's is it not?
Karen
No one has specifically answered my question.
Karen
"You're never too old to be what you were meant to be!"
www.deangraziosi.com/real-estate-forums/investing-journals/59128/day-for...
"Shining Like a Star & Dancing on Sunshine"
"Shoot for the moon! Even if you fall short, you'll still land among the stars!"
Mortgage payments are not an expense that is deducted from your gross rental income to determine an NOI.
CAP rates are used to determine a rate of return on your investment and your loan on a property (if you have one) is already considered as a part of your investment. Deducting the mortgage costs on a monthly basis would throw off the rate of return on your investment.