Do You REALLY Know What A CAP Rate Is

Dated: November 3 2017

Views: 270

"10% CAP Rate!" advertises the listing... but do agents REALLY know how to accurately calculate a CAP rate? The simple definition is, "A 10% cap rate will give you 10% return on the value of the property over a single year after all costs EXCEPT a mortgage."

Here's a perfect example: A single family house costs $100,000 and rents for $1,500 per month. Taxes are $150 per month ($1800 annually) and insurance costs $125 per month ($1500 annually). The owner pays utilities of $100 per month ($1200 annually) AND give the tenant a $25 monthly discount for taking care of the lawn ($300 annually). The owner should also expect the property to be vacant for about 1 month per year (vacancy rate) so we'll need to deduct a full $1500 off of the total income.

$1500 * 12 months = $18,000 total income

-$1500 (vacancy) = $16,500

-$1800 Taxes = $14,700

-$1500 Insurance = $13,200

-$1200 Utilities = $12,000

-$300 Lawn care = $11,700

$11,700 is the Net Operating Income (NOI)

$11,700 / $100,000 (purchase price) = 11.7% CAP Rate


Many agents stop short of adding all of the expenses or fail to take into account vacancy rate. Others forget expenses or take a mortgage into account.


Now, if you need a mortgage, that's fine, but don't say the property has a low CAP rate if you're including the mortgage, just expect a lower rate of return for using someone else's money.


Hope this was helpful!


Chase


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