What Is Cap Rate? Capitalization Rate Explained
The capitalization rate (cap rate) measures a rental property’s annual return independent of financing. It is Net Operating Income (NOI) divided by price, expressed as a percentage.
Try the Cap rate calculatorThe formula
Cap rate = annual Net Operating Income (NOI) ÷ purchase price. NOI is your annual rent minus operating expenses — taxes, insurance, management, maintenance, and vacancy — but before any mortgage payment.
Because it excludes the loan, cap rate lets you compare two properties on equal footing regardless of how each is financed.
What counts as a good cap rate
There is no universal number. Cap rates run lower in expensive, high-demand markets and higher in cheaper or higher-risk ones — a 4% cap in a prime metro and an 8% cap in a secondary market can both be reasonable for what they are.
Use cap rate to compare similar properties in the same market, and pair it with Cash-on-Cash (CoC) return once financing is in the picture. A market-level cap rate is a starting point; a full Comparative Market Analysis (CMA) refines it with real comparable rents.
Frequently asked questions
Does cap rate include the mortgage?+
No. Cap rate is unlevered — it is based on Net Operating Income before debt service, so financing does not affect it. That is what makes it useful for apples-to-apples comparison.
Is a higher cap rate always better?+
Not necessarily. A higher cap rate often comes with higher risk — softer demand, older stock, or thinner appreciation. Read it alongside the market and your strategy, not in isolation.