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What is a CAP Rate ?

A CAP Rate, or better known as Capitalization Rate, is the rate of return provided by the cash flow, before debt service of an investment property. The formula is:

Net Operating Income / Fair Market value = Cap Rate

For example, if an investor purchased a property for $400,000 and his NOI on the property is $40,000, then his Cap Rate is 10%.
 

What is Market Cap Rate ?

Market Cap Rate is the "average" rate for a market area. This value is typically what an investor would use to calculate a market value of a potential property. The Investor of course would need the true NOI value for the property to complete the calculation. The formula would be:

Net Operating Income / Cap Rate = Fair Market Value

For example if the local market area had a Cap Rate of 9.5 for duplexes. And the NOI on the property was $40,000 then the Fair Market value would be $421,052 (rounded would be $420,000). Thus, the investor would know if the asking price was high or low, based on the Cap Rate method of valuation.

Can I Flip a duplex like a regular house ?

If you mean, buy a duplex, fix it up and then sell it within less than 12 months. Yes you can, BUT the tax bite will take a good percentage of your profits. Remember, and I'm quoting from the IRS web site. "almost everything you own or use for personal, pleasure, or investment is a capital asset" and is subject to capital gain taxes.

Also, any profits you make within a "less than 12 month period" is taxed as regular income. Any profits you make on a property held for more than 12 months is considered long term capital gains and taxed at the straight 15% for 2008 (2009 is expected to change to 20%). Also flipping many properties within a 12 month period opens you up to "dealer status" as classified by the IRS and that's another whole ball game with different tax rates and tax codes.

What is a 1031 Tax Exchange ?

Also know as 1031 reinvestment Plans or a Starker Exchange, the number (1031) is arrived from the Internal Revenue Service Code number. Without getting in a full blown explanation and all the details involved using a 1031 tax Exchange on a property, a short definition would be: A way to defer capital gains on the sale of a property by exchanging it with a similar property used for the business or investment, thereby creating a "Tax Free" sale of the first property in order to buy the second property.

Actually there are 5 classes of property that fall into this tax regulation. See more about 1031 tax Exchanges.

Also, there are many requirements that must be followed when using a 1031 Plan and it is highly suggested to use a professional company or Lawyer who specializes in this type of transactions, in order to satisfy the IRS requirements of a "Tax Free" sale.