Cap Rate Calculator

What is a cap rate?

The capitalization rate is the net operating income of a property divided by its price or value. A building producing $180,000 of NOI priced at $3,000,000 trades at a 6% cap rate. It measures the unlevered annual yield, so a lower cap rate means a higher price for the same income.

What the cap rate tells you

The capitalization rate is net operating income divided by price. It answers a simple question: if you paid all cash for this building, what percentage of the price would come back to you each year from operations? A $3,000,000 building producing $180,000 of NOI is trading at a 6% cap rate.

Because it ignores financing, the cap rate lets you compare buildings on equal terms. Two properties with different loans, different owners and different tax situations can still be lined up side by side by the yield their operations produce. That is why brokers quote it, appraisers lean on it and buyers use it to decide in minutes whether a deal is worth a closer look.

How the calculator works

There are two ways to use it, depending on what you have in hand:

If you know the NOI, enter the price and the NOI. The calculator divides one by the other.
If you only know the rents, leave NOI at zero and fill in gross annual rent, vacancy and operating expenses. The calculator subtracts the vacancy allowance and expenses to build NOI first, then divides by the price.
Enter a unit count to see price per unit, which is the quickest cross-check against recent sales.
Enter a target cap rate to see what the same income is worth at the rate you expect to buy or sell at, and how much NOI the building would need to justify its current price at that rate.

A worked example

A 24-unit building is listed at $3,600,000. The rent roll shows $432,000 of gross annual rent. Allowing 6% for vacancy and credit loss leaves $406,080. Operating expenses — taxes, insurance, utilities, repairs, payroll and management — run $190,000, so NOI is $216,080.

$216,080 ÷ $3,600,000 = a 6.0% cap rate, or $150,000 per unit. If comparable buildings in the submarket are trading at 6.5%, the same income supports about $3,324,000. To justify the asking price at 6.5%, the building would need roughly $234,000 of NOI — about $18,000 more than it produces today. That gap is the negotiation.

What is a good cap rate?

There is no single good number. A cap rate is the market’s price for risk, and it moves with location, building age, condition, tenant base and interest rates. Newer buildings in deep, high-growth metros tend to trade at lower cap rates because buyers expect steady income and appreciation. Older buildings, smaller markets and properties with deferred maintenance or high vacancy trade at higher cap rates to compensate buyers for the work and uncertainty ahead.

The useful comparison is against similar buildings that sold recently in the same submarket, and against the cost of debt. When cap rates sit close to or below mortgage rates, leverage stops adding to returns in the early years and buyers lean on rent growth or a value-add plan to make the numbers work. When cap rates sit well above borrowing costs, leverage helps from the start.

Going-in, stabilized and exit cap rates

Underwriters use the same formula at three points in a deal, and mixing them up is a common source of bad decisions.

Going-in cap rate: current or next-twelve-month NOI divided by the purchase price. This is what the building yields the day you buy it.
Stabilized cap rate: projected NOI after renovations, lease-up or management changes, divided by the all-in cost including the improvements. It shows what the business plan is expected to produce.
Exit cap rate: the rate assumed when the building is sold at the end of the hold. Conservative underwriting usually assumes an exit cap rate at or above the going-in rate, because the building will be older and rates may be higher.

Mistakes that distort the cap rate

A cap rate is only as honest as the NOI behind it. Watch for these:

Pro forma NOI presented as actual. Ask for the trailing twelve-month operating statement and compare.
Missing expenses, such as management the owner does personally or a property tax bill that will reset after the sale.
Debt service or capital expenditures inside the expense line. Neither belongs in NOI.
One-time income, such as an insurance payout, included in the year’s revenue.
Comparing a cap rate on actual income with one built on projected income from a different deal.

Common Questions

How do you calculate a cap rate?

Divide net operating income by the property’s price or value, then multiply by 100. A building with $150,000 of NOI priced at $2,500,000 has a cap rate of 6%.

Does a higher cap rate mean a better deal?

Not necessarily. A higher cap rate means more income per dollar of price, but it usually comes with more risk, an older building, a weaker location or more work required. A lower cap rate can be the better investment if the income is more secure and likely to grow.

Should mortgage payments be included?

No. The cap rate measures the property’s unlevered yield, so debt service is left out. To see the return on your own cash after the loan, use the cash-on-cash return calculator.

Why do cap rates change when interest rates change?

Buyers compare property yields with what they can earn elsewhere and what they pay to borrow. When borrowing costs rise, buyers usually need higher cap rates — lower prices for the same income — for deals to pencil, and the reverse tends to happen when rates fall.

What cap rate should I use to value my building?

Use the cap rates at which comparable buildings in your submarket have recently sold, adjusted for differences in age, condition and income quality. Brokers and appraisers track these, and our apartment building value calculator shows how much a half-point move changes the result.