A capitalization rate demonstrates the relationship between the ________ income of a property and its sales price.

• A. Gross Operating Income
• B. Net Operating Income
• C. Net Operating
• D. Potential Gross Income

Answer: (C)

The thing being tested is how the cap rate uses income to value a property. A capitalization rate is the ratio of a property's net operating income to its sales price, so it shows how much value is tied to the income the property actually produces. Net operating income is the income remaining after operating expenses, before debt service and taxes, and it’s this figure that goes into the cap rate calculation: Cap rate = NOI / Sales price. Because the relationship hinges on that actual income figure, the option that expresses the income component as Net Operating Income is the best fit. The phrase in that choice is essentially the same concept in context, even if written briefly as Net Operating. Gross operating income or potential gross income aren’t the amounts used in this particular relationship, since they don’t reflect the property’s income after operating expenses.