Capitalization rate: Also known as CAP RATE, is a good way to compare your investment opportunities. However, since many factors go into evaluating a real estate investment it should not be the lone factor in your decision. CAP RATE allows you evaluate the rate in which you see a return on your investment, or in other words, allows you to roughly place a value on a property when deciding between possible investments. Cap Rate is obtained by using the following formula:
Annual Net Operating Income: Is the amount left after the total expenses is subtracted from your total income.
Cost: Is the purchase price or current value of the property.
For example, if you buy a property that generates $120,000 per year and pay $800,000 for it, the cap rate is 120,000/800,000 = 15%
Most investors seek a cap rate from between 7-9%, but this is subject to the markets you are investing in.
Again, this should not the sole factor in the purchase of a investment property, and new investors should seek experienced advice before you start.