The Capitalization Rate, commonly referred to as the “Cap Rate”, is a metric that helps investors determine the potential return on real estate. The calculation for the Cap Rate is Net Operating Income (NOI) of the property divided by the Market Value. 

NOI ÷ Market Value = Cap Rate

You can also flip the formula around and use it to calculate the estimated market value of an existing property by dividing the NOI by the Cap Rate. 

NOI ÷ Cap Rate = Market Value

The Many Uses of Capitalization Rate

The capitalization rate can help a buyer determine the investment risk on a property. Cap rates can be used to compare the price of a property against comparable properties that have sold recently. This can tell the buyer if they are getting a good price on the subject property. It can also be used to estimate the market value of an existing property for an owner who wants to refinance the property. Please note that the capitalization rate is just one element to help make investment decisions and should not be the only factor.