Investing
What is cap rate?
Cap rate is net operating income divided by purchase price, expressed as a percentage. It is the unlevered annual yield of a property.
Its value is comparability: because financing is excluded, two properties can be compared even when one is bought with cash and the other with a loan. Its weakness is that it depends entirely on the honesty of the expense figures underneath it.
- What this is
- A plain explanation of capitalization rate and how to use it correctly.
- Who it is for
- Investors comparing properties, and anyone reading a listing that quotes a cap rate.
- The problem
- Cap rates in listings are frequently calculated on understated expenses, making weak properties look competitive.
- What happens next
- Recalculate the cap rate yourself from verified expenses before you rely on the one advertised.
The formula, and what belongs in it
Cap rate equals net operating income divided by price. Net operating income is effective gross income minus operating expenses, where operating expenses exclude the mortgage, depreciation and income tax.
A property with $60,000 of net operating income at a $750,000 price is an eight percent cap rate. Remove a $9,000 maintenance and reserve allowance from the expenses and it becomes a nine and two-tenths percent cap rate for the same building — which is exactly how advertised cap rates get inflated.
Reading market cap rates
Cap rates are lower where buyers expect growth and stability, and higher where they price in risk or stagnation. A low cap rate is not automatically a bad buy, and a high one is not automatically a good one.
Compare within a market and a property class. A four-unit building in a strong suburb and a four-unit in a declining rural town do not belong in the same comparison.
Where cap rate breaks down
It is a poor tool for single-family rentals, which are priced by owner-occupant demand rather than by yield, and it ignores loan terms, capital needs and value-add potential entirely.
It is also a snapshot. A property at a strong cap rate today with leases expiring below market next year is telling you about the past.
Do the math
Cash Flow and Cap Rate Calculator
The three numbers that decide an acquisition, with break-even occupancy.
Open the cash flow and cap rate calculator →Common questions
How do you calculate cap rate?
Divide annual net operating income by the purchase price. A property earning $48,000 net operating income at $600,000 has an eight percent cap rate.
Is a higher cap rate better?
A higher cap rate means more income per dollar of price, which usually means more risk — weaker location, older building, or less stable tenancy. Higher is better only when the added risk is one you have priced.
Does cap rate include the mortgage?
No. Cap rate is deliberately unlevered so properties can be compared regardless of how each buyer finances them.
What is a good cap rate for residential rentals?
Typically five to ten percent depending on market and property class. Judge it against comparable local sales rather than a national figure.
How do cap rates affect property value?
Value equals net operating income divided by market cap rate, so rising cap rates reduce values even when income is flat. This is why increasing net operating income is the most reliable way to build value.
Why is the listed cap rate often wrong?
Listings frequently exclude vacancy, maintenance, capital reserves and management, and use current rather than reassessed taxes. Always rebuild the number from verified figures.
Want this answered for one property?
Property Intelligence™ applies this to a specific address using public records, uploaded documents, comparable sales and professional review — and states plainly what is known, what is missing and what to do next.
Related reading
Part of these decisions
Last reviewed August 3, 2026. Educational information, not financial or legal advice.