A Terminal Capitalization rate, also known as a terminal cap rate, is a measure used in commercial real estate valuation to estimate the future value of a property. It is the projected rate of return that an investor would expect to receive in the final year of ownership. It is used to estimate the terminal value of a property, which is the present value of all future cash flows after the forecast period.The terminal capitalization rate is calculated as the ratio of net operating income (NOI) to the terminal value of the property.The formula is as follows: -Terminal Cap Rate = Net Operating Income (NOI) / Terminal ValueFor example, let's say a commercial property has an expected net operating income of $100,000 in the final year of ownership and a terminal value of $1,000,000. The terminal capitalization rate would be:Terminal Cap Rate = $100,000 / $1,000,000 = 0.1 or 10%The terminal capitalization rate is used in combination with other methods, such as the discounted cash flow analysis, to estimate the overall value of a commercial property. A higher terminal cap rate is generally considered to be more favorable, as it indicates a higher rate of return for the investor.However, it's important to note that the terminal cap rate is only a projection and it may not reflect the actual return that an investor will receive.
