A cap rate, short for capitalization rate, is a formula used to assist in the analysis of commercial real estate. It’s formula is:
Cap Rate = Net Operating Income (NOI) ÷ Price
Net operating income can be defined simply as income – expenses but not including financing. Price refers to the purchase price or the property’s current value.
Cap rate is useful precisely because it does not include financing. Every investor may opt for different loan products or get different terms so cap rate allows us to make apples to apples comparisons.