What Is Cap Rate, How to Calculate It (And Why It Matters for Investment Properties)

By Tovah Hommes, Sales Representative, Jennifer Gale Team, Gale Group Realty Brokerage

What is Cap Rate, how to Calculate it (and why it matters for investment properties)

If you’ve ever looked at a rental property listing and seen the term “cap rate”… you’re not alone if you thought: okay cool… but what does that actually mean?

Cap rate (short for capitalization rate) is one of the most important tools investors use to quickly evaluate whether a rental property is likely to be a good investment — and it can help compare properties side by side without getting lost in the details.

What Is Cap Rate?

Cap rate is basically the return a property would generate in one year based on the income it produces — if you bought it with cash (no mortgage).

It’s one of the fastest ways to answer the question:

✅ How hard will this property work for my money?

Cap rate helps investors compare:

  • duplex vs triplex

  • condo vs townhouse

  • turnkey rental vs fixer-upper

  • different neighbourhoods and price ranges

The Cap Rate Formula

Here’s the simple formula:

Cap Rate = Net Operating Income (NOI) ÷ Purchase Price

Then multiply by 100 to make it a percentage.

Step 1: Calculate Your Net Operating Income (NOI)

This is the property’s income after operating expenses, but before mortgage payments.

NOI includes:

Income

  • rental income

  • parking income

  • laundry income

  • storage fees

Expenses

  • property taxes

  • insurance

  • utilities (if landlord-paid)

  • maintenance & repairs

  • property management (even if you self-manage, investors often include it)

  • snow removal / lawn care

  • condo fees (if applicable)

  • vacancy allowance (recommended)

🚫 NOI does NOT include:

  • mortgage payments

  • interest

  • down payment

  • land transfer tax

  • renovations (unless you're building it into your operating costs)

Example: How to Calculate Cap Rate

Let’s say you’re looking at a duplex.

Income:

  • Unit 1: $2,000/month

  • Unit 2: $1,800/month

Total monthly income: $3,800
Total annual income: $3,800 x 12 = $45,600

Expenses (annual):

  • Property taxes: $4,200

  • Insurance: $1,500

  • Utilities: $2,400

  • Maintenance reserve: $2,000

  • Vacancy allowance: $2,000

Total expenses: $12,100

✅ Net Operating Income (NOI) = $45,600 – $12,100 = $33,500

Now assume purchase price is $650,000

Cap Rate:

Cap Rate = $33,500 ÷ $650,000 = 0.0515
Cap Rate = 5.15%

So this property has a 5.15% cap rate.

Why Cap Rate Matters

1. Cap rate helps you compare properties quickly

If you’re choosing between two rentals, cap rate gives you a fast “apples to apples” comparison.

For example:

  • Property A: 3.8% cap rate

  • Property B: 5.2% cap rate

All else equal, B produces more income relative to price.

2. Cap rate makes sure you’re not buying based on emotions

Investment properties should be purchased based on the numbers — not just the finishes.

Cap rate forces you to ask:

  • what is the property actually earning?

  • are the rents realistic?

  • do the expenses make sense?

3. It helps investors spot overpriced listings

If a listing price jumps but rents don’t, the cap rate drops.

That can be a sign the seller is pricing based on hype rather than performance.

4. Cap rate is how commercial and multi-residential is priced

With larger investment properties, the cap rate becomes even more important because many are valued based on their NOI.

Higher NOI = higher value
Higher cap rate demanded by investors = lower value

What Is a “Good” Cap Rate?

This varies a TON depending on:

  • interest rates

  • rent prices

  • property condition

  • neighbourhood

  • tenant profile

  • long-term appreciation expectations

In general:

  • lower cap rate often means a “safer / more premium” property (or a high appreciation market)

  • higher cap rate often means stronger cashflow, but sometimes more risk or more work

There isn’t one “perfect cap rate.” The best cap rate is the one that matches your investing goals:

  • cashflow now?

  • appreciation long term?

  • a balance of both?

Important: Cap Rate Has Limits (Don’t Rely on It Alone)

Cap rate is super useful — but it doesn’t tell the full story.

Cap rate doesn’t factor in:

  • mortgage payments

  • interest rates

  • down payment size

  • your cash invested

  • renovation budget

  • appreciation potential

That’s why serious investors also look at:

  • cash-on-cash return

  • monthly cashflow

  • debt coverage ratio

  • market rents and vacancy trends

  • property condition / expected capital repairs

Cap rate is like the “first filter”… not the final answer.

Final Thoughts: Cap Rate = A Must-Know Tool for Investors

Whether you’re buying your first duplex or adding your fifth property, cap rate is one of the most important tools for evaluating investment properties.

It helps you:
✅ understand return
✅ compare listings
✅ avoid overpriced purchases
✅ buy with confidence

If you’re thinking about buying a rental and want help running the numbers (rent estimates, expenses, cap rate, cashflow), I’m happy to help you evaluate it properly.

 
 

Tovah Hommes is a licensed Real Estate Agent in Ontario with over 10 years of experience in real estate investing and property management throughout Woodstock and Oxford County. Known for her professionalism and deep understanding of the local rental market, Tovah helps clients and investors create lasting value through efficient property management and smart real estate strategies.

Tovah Hommes
Sales Representative
The Jennifer Gale Team
Gale Group Realty Brokerage Ltd.
(519) 614-4568

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