Capitalisation Rate
Annual return on a property from net operating income.
Formula
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Example
NOI=$24k, V=$400k: CR = 6%
How it works
The capitalisation rate, or cap rate, compares a property’s yearly net operating income to its market value, then expresses that relationship as a percentage. It works because it shows how much income the property produces each year for every dollar invested in the asset, before financing costs and taxes. A higher cap rate usually means either stronger income relative to price or a lower property value for the same income stream.
When to use it
Use this when evaluating income-producing real estate such as apartments, offices, retail units, or industrial buildings. It is especially useful for comparing properties, estimating value from income, or judging whether a purchase price seems reasonable.
Worked example, step by step
Given: NOI = $36,000 per year, V = $600,000 Step 1: Write the formula CR = (NOI / V) × 100 Step 2: Substitute the values CR = (36,000 / 600,000) × 100 Step 3: Divide CR = 0.06 × 100 Step 4: Convert to a percentage CR = 6% Final answer: The capitalisation rate is 6%.
Common mistakes to avoid
- Using gross rent instead of net operating income
- Including mortgage payments or financing costs in NOI
- Forgetting to convert the result into a percentage
Did You Know?
Investors use cap rate to compare properties the way stock investors use earnings yield.
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