cap rate calculation. Do people include closing costs or not?

7 Replies

Survey I guess. When you calculate your cap rate (NOI - net operating income / Purchase Price) do you include your closing costs and initial repairs in your calculation or do you just go with the actual purchase price and leave those costs out?

Cap rates have some flaws, but they are one of the good measurements of real estate return.

It is fair to include closings costs into the purchase price, to determine your cap rate.  They are real costs related to the purchase price.   You'll probably throw in your attorneys fees, survey, title insurance, transfer taxes, recording fees, etc..  Luckily your closing statement nicely summarizes that number for you.  It shouldn't skew your return much, unless you are buying a very low end priced property.

@Lewis Christman
As Brian mentioned cap rates are a tool as part of initial due diligence but are greatly flawed and you will want to run an analysis of what your levered IRR is (assuming you are taking a loan) to determine you true rate of return

I have a large spreadsheet that I believe works well (would love to see how others do the analysis).  Sometimes I go back and forth with including closing (and initial repairs) costs or leaving it out.   I wanted to see how others do it.

@Chris Seveney I agree with what you said.  How do you analyze a property? Do you have a spreadsheet you are willing to share?  Also per my original question.  If you do calculate the cap rate do you include the closing costs and initial repair? leave those out?

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@Lewis Christman

Sometimes it's like pulling teeth to get an answer to a specific question, isn't it? LOL

Let me give this a try... so this is IMO. The cap rate formula calls for NOI divided by "Purchase Price" but note that sometimes people use "Cost" or "Value" in place of "Purchase Price". Regardless of what it's called, IMO cap rate calls for all costs associated with 1. acquiring the property and 2. placing the property in service as a normally operating business.

- Do you include closing costs - survey, title, recording fees? Yes. Why? Because you wouldn't be able to acquire the property without paying these costs.

- I'm assuming initial repairs are known repairs that need to be made to get the property to operate normally . Do you include these costs? Yes. Why? Because you wouldn't be acquiring a normally operating business without paying these costs.

The term "Purchase Price" is probably the source of confusion here because it is ambiguous. If you think of it as "Acquisition" price in a sense that you are acquiring a functioning business then you would probably have a better idea of what costs to include and what not to include in the "Cost" or "Purchase Price" of your "Acquiring" the property . Hope this helps.

Cheers... Immanuel

@Immanuel Sibero yes sometimes it is a challenge.  I have ready several posts that just go off the rails and never actually answer the persons question.  All great info but sometimes you want it short and sweet and right to the point.

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