Let’s talk about CAP Rate.
What is a CAP RATE? In its simplest form, Cap Rate is the return on your investment if you had paid all cash for your property…
I’ll give you an example…
Let’s say you have a property and you paid 1 million dollars, all cash. And this property generates $100,000 in annual income. That would be a %10 percent return….At $1,000.000 purchase price and $100,000 in income, this property would essentially be at a “10 cap”
Ok, simple enough right? …But what affects cap rate? Why do some properties trade at “5 cap” and some are at a “12 cap”?
This has to do with the desirability of the area or its perceived risk…
I’ll give you an example…
Properties in San Francisco might be selling for as low as “4 or 5 cap” whereas properties in Sacramento might be in the “6-8 cap” range. This is because of the desirability factor…Nothing against Sacramento mind you, but San Francisco properties sell for a higher price which translates into a lower “Cap Rate”.
The lower the cap rate, the more expensive the property is in relation the income it generates…
One other factor that affects cap rate would be its perceived risk….
As an example…Maybe a property in a nicer part of town would have a lower cap rate than the same property in a bad part of town…The cap rate would be higher in the bad part of town meaning the property would sell for less money relative to the income it generates….this is because in the more challenging parts of town your risk for being there must be rewarded by higher income.
Our company looks for properties with a high enough cap rates to produce good returns for our investor yet, still in good parts of town…This balance can be hard to find and we look at hundreds of properties before we select the right one with higher caps rates and lower perceived risk…
We also look for properties where there is room to increase the cap rates of our properties over time by having them professionally managed to optimize income and reduces expenses…
I hope this little explanation helps clear up some questions regarding CAP RATES.
Give us a call at 510-863-1447 to to find out you can invest in apartment buildings!
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