How to Calculate Cap Rate Formula

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Capitalization Rate (Cap Rate) Calculator

Include property taxes, insurance, maintenance, and management fees. Do NOT include mortgage payments.
Net Operating Income (NOI):
Capitalization Rate:
function calculateCapRate() { var marketValue = parseFloat(document.getElementById('marketValue').value); var grossIncome = parseFloat(document.getElementById('grossIncome').value); var opExpenses = parseFloat(document.getElementById('opExpenses').value); if (isNaN(marketValue) || isNaN(grossIncome) || isNaN(opExpenses) || marketValue <= 0) { alert("Please enter valid positive numbers for all fields. Market value must be greater than zero."); return; } var noi = grossIncome – opExpenses; var capRate = (noi / marketValue) * 100; document.getElementById('noiResult').innerHTML = "$" + noi.toLocaleString(undefined, {minimumFractionDigits: 2, maximumFractionDigits: 2}); document.getElementById('capRateResult').innerHTML = capRate.toFixed(2) + "%"; document.getElementById('resultWrapper').style.display = 'block'; }

How to Calculate Cap Rate: The Essential Formula for Real Estate Investors

The Capitalization Rate, or "cap rate," is a fundamental metric used in real estate to evaluate the profitability and return potential of an investment property. It represents the yield of a property over a one-year time horizon assuming the property is purchased with cash.

The Cap Rate Formula

To calculate the cap rate, you divide the property's Net Operating Income (NOI) by its current market value or purchase price. The formula is expressed as:

Cap Rate = (Net Operating Income / Current Market Value) × 100

Step-by-Step Calculation Guide

  1. Determine Gross Income: Sum up all annual rental income and miscellaneous fees collected from the property (e.g., parking, laundry).
  2. Calculate Operating Expenses: Total all costs required to keep the property running, such as property taxes, insurance, repairs, utilities, and property management. Note: Do not include mortgage interest or principal payments.
  3. Find the Net Operating Income (NOI): Subtract the total operating expenses from the gross income.
  4. Divide by Property Value: Divide the NOI by the current market value or the price you are paying for the property.
  5. Convert to Percentage: Multiply by 100 to get the percentage.

Realistic Example

Imagine you are looking at a commercial building with the following financials:

  • Purchase Price: $1,200,000
  • Annual Rent: $120,000
  • Operating Expenses: $40,000

First, calculate the NOI: $120,000 – $40,000 = $80,000.

Next, apply the cap rate formula: ($80,000 / $1,200,000) = 0.0666.

The resulting Cap Rate is 6.67%.

Why the Cap Rate Matters

The cap rate serves as a quick tool for comparing similar investment opportunities. A "good" cap rate depends on the asset class and location. Generally, a higher cap rate indicates a higher potential return but often carries higher risk, whereas a lower cap rate indicates a safer, more stable investment in a high-demand area.

Limitations to Consider

While useful, the cap rate does not account for leverage (mortgages), tax implications, or future property appreciation. Investors should use it alongside other metrics like Cash-on-Cash Return and Internal Rate of Return (IRR) for a comprehensive analysis.

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