Word Watch · Term 28 of 30 · 0:55
Capitalization rate
ProductionIllustrated Click2CE lesson; AI-assisted production with Sarah narration
In brief
In a direct-capitalization example, value equals annual net operating income divided by the capitalization rate.
Example
$30,000 NOI divided by 6% gives $500,000. At the same NOI, an 8% rate gives $375,000.
TranscriptRead along, or select a timestamp to jump there
- Capitalization rate connects annual net operating income with property value.
- For direct capitalization, value equals net operating income divided by
- the capitalization rate.
- Use our example:
- thirty thousand dollars of annual net operating income divided by
- zero point zero six equals five hundred thousand dollars.
- Convert six percent to a decimal before dividing.
- Hold income steady and raise the rate to eight percent.
- The indicated value falls to three hundred seventy-five thousand dollars.
- Also remember that net operating income is calculated before debt
- service; do not subtract mortgage payments to find it.
- Quick check:
- with the same income, does a higher cap rate produce
- a higher indicated value?
- No.
- A higher rate produces a lower indicated value when income
- stays the same.
