When investing in rentals, you should ensure you are purchasing the right properties that will give you the highest returns you expect. One way to achieve this is by knowing the capitalization rate (cap rate) before you make an offer.
Now, if you do not like dealing with numbers, you can take advantage of a capitalization rate calculator real estate investors use today to make things easier for you. This tool will be very helpful in determining an investment property’s profitability as easily as 1-2-3.
In this article, you will learn everything about this essential tool to make a wise decision for every investment that you make.
What Is Cap Rate
If you are new to investing in rental properties, it is best to first understand what “cap rate” is before using a rental cap rate calculator.
In real estate, this metric is usually expressed as a percentage that tells you the expected annual return on investment (ROI) if the property were to be rented out immediately. In other words, it shows you how much income you can expect to generate from your rental property after accounting for all expenses.
Here is the general formula for calculating the cap rate: Net Operating Income (NOI) / Purchase Price = Cap Rate.
For example, you are looking at a rental property that costs $200,000 and is expected to generate $24,000 in annual rent. The cap rate for this property would be 12% ($24,000/$200,000). This means that for every dollar you invest in this property, you can expect to generate a 12% return each year.
While the cap rate is a helpful metric, it is important to keep in mind that it is only an estimate. There are many other factors that can affect the actual return you will earn on your investment, such as vacancy rates, repairs, and capital expenditures.
Nonetheless, the cap rate is still a valuable tool for real estate investors because it allows you to compare different properties side by side and make an informed decision about which one is the better investment.
Why Use a Cap Rate Calculator
Investing in a rental property without knowing its income potential is like going to a casino and placing all your chips on black without knowing the odds.
Now, if you use a cap rate calculator, you can take the guesswork out of calculating the income potential of a property by inputting all the necessary information, such as the purchase price, expected rent, and operating expenses.
In addition, a good rental property calculator will also allow you to adjust for different variables, such as vacancy rates and capital expenditures. This way, you can see how these factors will affect your ROI.
By using a capitalization rate calculator, you can be sure that you are making a wise investment decision based on accurate data.
How to Use a Cap Rate Calculator Online
To effectively use a cap rate calculator online, you should first understand the terms that are used in the tool.
- Purchase Price: This is the cost you expect to pay for the property.
- Expected Rent: This is the amount of rent you expect to receive from tenants each month.
- Operating Expenses: These include all the monthly expenses associated with owning and operating the rental property, such as property taxes, insurance, and repairs.
- Vacancy Rate: This is the percentage of time that your units are expected to be vacant.
- Net Operating Income: This is your expected monthly income from the property after accounting for all operating expenses and vacancies.
Now that you know what all the terms mean, you are ready to use a cap rate real estate calculator.
Once you have these determined in a rental property, you can input the numbers into the calculator, and it will work its magic to give you its cap rate.
What Is the Ideal Cap Rate for a Rental Property
Generally speaking, there is no “ideal” cap rate for a rental property. It all depends on your investment goals, risk tolerance, and current market conditions.
For example, if you are looking for a safe investment with minimal risk, you may be willing to accept a lower cap rate.
On the other hand, if you are looking for a higher return on your investment, you may be willing to accept a higher level of risk and go for a property with a higher capitalization rate.
But according to Fortune Builders, a good cap rate for a rental property is somewhere between 5% and 10%. This means that it is smart to look for properties with income potential within this range.
So, what does a 7.5 cap rate mean? This means that your investment will be safe and generate a decent return. Buying a property with this cap rate would be a good start for any real estate investor.
5 States with Good Rental Property Cap Rates
Now that you know how to utilize a capitalization rate calculator real estate investors use and what a good cap rate is, you should be able to start looking for the best rental properties available. Here are the states that you can look into.
1. Texas
With a healthy rental property market, Texas is a great state to invest in. Properties here have an average cap rate that runs from 6% to 8%. Some of the best cities in Texas for rental properties are Houston, Austin, and San Antonio.
Aside from high cap rates, Texas also has one of the fastest-growing populations in the US. This means that the demand for rental homes in the state is also on the rise. You will have the peace of mind that your property will not go vacant for long periods of time.
2. California
This is another state with a booming rental market. The average cap rate in California is around the same as in Texas, running from about 6% to 8%, which means an investment will be good here.
However, it is important to note that the rental market in California is very competitive. This is because the state has a high cost of living, which drives up the rental rates. So, if you are thinking of investing here, make sure that you have the capital to compete with other investors.
3. Michigan
Population growth is always a good sign for rental property investors. This is because it indicates that there will be more people looking for places to live in. And, this is exactly what is happening in Michigan.
The state has an annual population growth rate of 0.43%. This, combined with the low cost of living and high average cap rates, makes Michigan a great place to invest in rental properties.
4. Georgia
Georgia is another state with a healthy rental market. The average cap rate here is around the same as in Texas and California, running from about 6% to 8%.
Another thing that makes Georgia a great place to invest in rental properties is its lack of state income tax. This means that your ROI will be higher since you will not have to pay taxes on the income you earn from your rental property.
5. South Carolina
Last but not least, we have South Carolina. This state has an average cap rate of around 7%. And like Michigan, South Carolina also has a strong population growth rate. This means that there will be more people looking for places to rent in the future.
So, if you are thinking of investing in rental properties, these are some of the best states to consider. Just remember to use an investment property cap rate calculator so you can find the best deals available.
Conclusion
Investing in rental properties is a huge decision to make. That is why you should only choose those which will give you value for your money.
With a capitalization rate calculator real estate investors use today, you will be able to find a property that is not only safe but also has the potential to generate high rental income.
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