A property sold for a cash-equivalent price of $800,000 and has annual NOI of $64,000. What overall capitalization rate does the sale indicate?
Correct Answer
B) 8.0%
64000÷800000×100 = 8; reciprocal rate multiplier=1÷0.08=12.5. Common errors: reporting the price ÷ NOI multiplier as if it were the rate gives 12.5%; misplacing the decimal (×1,000 instead of ×100) gives 80.0%; misplacing the decimal (×10 instead of ×100) gives 0.8%.
Why This Is the Correct Answer
Option B is correct because $64,000 ÷ $800,000 = 0.08, or 8.0%. The overall rate is annual NOI divided by the cash-equivalent price.
Why the Other Options Are Wrong
Option A: 0.8%
Option A, 0.8%, misplaces the decimal by multiplying 0.08 by 10 instead of 100. The correct conversion is 0.08 × 100 = 8.0%.
Option C: 12.5%
Option C, 12.5%, is the price-to-NOI multiplier ($800,000 ÷ $64,000 = 12.5) labeled as a rate. The rate is the reciprocal, $64,000 ÷ $800,000 = 8.0%.
Option D: 80.0%
Option D, 80.0%, misplaces the decimal by multiplying 0.08 by 1,000 instead of 100. The correct overall rate is 8.0%.
Rate and multiplier are reciprocals
NOI ÷ price gives the rate; price ÷ NOI gives the multiplier; one is 1 divided by the other.
How to use: Use the reciprocal check to catch an answer that reports the multiplier as a rate.
Exam Tip
Typical overall rates are single or low double digits; an 80% or 0.8% result signals a decimal error.
Common Mistakes to Avoid
- -Dividing price by NOI and calling it a rate
- -Misplacing the decimal when converting to a percent
- -Using a sale price that was not adjusted to cash equivalency
Concept Deep Dive
Analysis
This question tests extracting an overall capitalization rate from a sale by dividing NOI by price. The key is to put NOI on top and convert the decimal to a percent correctly.
Background Knowledge
A market-derived overall rate is net income before recapture divided by the cash-equivalent sale price. Rates from actual comparable sales are the preferred source of capitalization rates.
Real-World Application
An appraiser verifies a cash-equivalent sale of a retail building at $800,000 with NOI of $64,000. The extracted 8.0% rate is added to the cap rate data set for the subject.
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