Cap rate (short for capitalization rate) is the yearly profit a rental home earns, shown as a percent of its price. It is a quick way to compare two rentals.
Why beginners like it
When you are new to rentals, every property can feel like a maze of numbers. Cap rate gives you one clean percent you can say out loud and compare across homes in seconds. It treats every property the same way, so a small home and a big home can sit side by side and you can still tell which earns more for its price. Think of it as the rental version of a miles-per-gallon sticker — one honest number that lets you line up your choices.
The formula
Cap rate = yearly net operating income ÷ price.
Net operating income (NOI) is the rent you collect in a year minus the yearly running costs — things like property tax, insurance, repairs, and management. It does not subtract your mortgage payment, because cap rate measures the property itself, not your loan.
A worked example
Imagine a home priced at 200,000.
- Yearly rent: 24,000 (that is 2,000 a month).
- Yearly running costs: 8,000 (tax, insurance, repairs, management).
- Net operating income: 24,000 − 8,000 = 16,000.
Cap rate = 16,000 ÷ 200,000 = 0.08, or 8%.
That means, before any loan, the property earns about 8% of its price each year.
What is a good cap rate?
It depends on the area and the home. A higher cap rate means more income for the price, but it can also signal more work or more risk. A lower cap rate often means a steadier, easier property. There is no single magic number — use cap rate to compare similar homes, not to judge a home on its own.
One quick warning
Cap rate ignores your mortgage. Two buyers can get the same cap rate but very different monthly cash flow depending on their loan. So use cap rate to compare deals, and use cash flow to plan your budget. Also remember that the costs you plug in are estimates — if you guess too low on repairs or vacancies, your real cap rate will be lower than the one on paper.
How Underlisted helps
You do not have to do this by hand. Cap rate is one of our free calculators — plug in the price, rent, and costs, and we do the division for you. Pair it with the Deal Score on any listing to see both the value of the home and the income it could bring. You can check any home free.
Takeaway: cap rate = yearly net income ÷ price. It is the fastest way to compare two rentals on equal footing.