Cap rate or Capitalization rate calculations assist the real estate investor to analyse the property and its value. Interpreting the cap rate results paves a way to determine whether the property is overly priced or not. Performing this calculations and analysing results helps you invest on the real estate that returns back things better in your future. This is the key reason why it is considered mandatory by real estate brokers. If you are interested in making real estate investment and wondering to perform cap rate calculations, do not worry you can find more info in this article.
What Is Capitalization Rate?
Capitalization rate is mainly carried out in real estate and to refer the rate of return from the property invested. It is mainly based on Net Operating Income (NOI) generated by property. You can also refer the capitalization rate is also a return metric sourced to evaluate potential return on investment or payback of capital.
How to Calculate Capitalization Rate?
Sourcing a simple formula can assist you calculate the capitalization rate without any fuzz. The formula is dividing Net Operating Income (NOI) with current market value of the asset.
If you haven’t understand what Net Operating Income is annual income the property generates and the cost of managing and paying tax are deducted to determine the Net Operating Income. Current market value of the asset is the assessment of the asset in market place.
Significance of Calculating Capitalization Rate:
Calculating capitalization rate assist you compare different investment opportunities. It also express the time it procures to recover an investment in a property. If there is any potential risk involved on investing on the property, it alerts you. In general, higher capitalization rate implies the risk is low in investing on the property and low capitalization rate indicates that higher potential risks involved in investing on certain property.
One thing every real estate investor should understand is, capitalization rates shouldn’t be considered alone. All the other metrics of real estate investments should also be considered while considering cap rates.
There are few things that can significantly change capitalization rate such as varying income generated from property, expenses needed by the property as well as current market valuation of the property. Swifts in real estate trends has the potential to affect income generated from property. It may goes up or falls down which is totally subjective to the current situation. Your property need some money such as maintenance works. It is mandatory to maintain the property to keep its value and it is mandatory to spend on maintenance if there is any. Current market value is another thing, yes depends on market trends and other situations, a significant change in capitalization value are experienced.
I hope this article passed the light about capitalization rate, how to calculate it and understand it better. Seeking professional helps are also worth considering to calculate capitalizing rate. Make use of it to make well informed decision in real estate investment.