What Is a Cap Rate in Real Estate?


Quick Answer

Cap rate is short for capitalization rate and is a rate of return on real estate that is purchased as investment property. The cap rate is based on the amount of income that an investment property is expected to generate and is used to estimate an investor's return on investment.

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Full Answer

To calculate the cap rate, the yearly income that a property generates is divided by the total value of the property. Frequently the total value of the property is initially considered to be the purchase price when calculating cap rates; however, if the value goes up over time after purchase, the cap rate goes down and becomes less favorable. Cap rate is useful for estimating returns on potential investments and then deciding which one to buy.

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