Cap rate (capitalization rate) is the most fundamental metric in real estate investing. It measures a property's yield independent of financing — which is why it's used by professional investors, appraisers, and lenders to compare properties across markets.
How to Calculate Cap Rate
Cap Rate = Net Operating Income (NOI) ÷ Property Value
Example: A property generates $18,000 in NOI per year and sells for $250,000. Cap Rate = $18,000 ÷ $250,000 = 7.2%
What Is a Good Cap Rate in 2025?
Cap rate benchmarks vary significantly by market and property type:
- Class A markets (NYC, LA, SF, Seattle): 3-5% cap rates. Low yield, strong appreciation play.
- Class B markets (Phoenix, Denver, Nashville, Austin): 5-7% cap rates. Balanced yield and growth.
- Class C markets (Memphis, Kansas City, Cleveland, Birmingham): 7-10%+ cap rates. High yield, lower appreciation.
For most buy-and-hold investors targeting cash flow, 6-8% is the target range in 2025. Higher cap rate = more income relative to price, but often signals more risk, a weaker rental market, or a tertiary location.
Cap rate vs. cash-on-cash: Cap rate ignores financing. Cash-on-cash return includes your mortgage — it's the metric that actually matters for leveraged investors. A 7% cap rate property might deliver only 4% cash-on-cash after today's mortgage rates. Always calculate both. Use the free analyzer to get both instantly.
Cap Rate Limitations — What It Doesn't Tell You
Cap rate doesn't account for: your financing terms and debt payments, appreciation potential, neighborhood trajectory, property condition, or future rent growth. It's a useful screening metric, not a complete analysis. Always run full cash flow analysis before making an offer.
Cap Rate vs. GRM vs. Cash-on-Cash — Which Metric Should You Use?
Use cap rate to compare properties and markets objectively. Use GRM (gross rent multiplier) for very quick initial screening. Use cash-on-cash return to evaluate the actual return on your invested capital. Use all three — they tell different parts of the story. Our free property analyzer calculates all three simultaneously.
