Rate of Return

Rate of return measures what an investment gained or lost over a period, expressed as a percent of the money put in. Cap rate is one specific rate of return: the first-year operating income on an all-cash purchase, before financing, taxes and any change in value.

Other return measures add what cap rate leaves out. Cash on cash return adds the loan and measures income against the cash you put in. Total return adds appreciation. Internal rate of return adds timing and the eventual sale.

Using the right one matters. A property with a 5.78% cap rate can show a negative cash on cash return at a 7.25% mortgage rate and still produce a healthy total return if values rise. Each figure answers a different question, and the cap rate answers only what the property earns on its price.