Real Estate Cap Rate Calculator
Determine the potential return on investment for commercial or residential property.
What is Capitalization Rate (Cap Rate)?
The Capitalization Rate, commonly referred to as the "Cap Rate," is a fundamental metric used in the world of commercial and residential real estate investing. It indicates the rate of return that is expected to be generated on a real estate investment property.
Unlike metrics that factor in loans and financing (like Cash on Cash Return), the Cap Rate assumes the property is purchased with all cash. This makes it an incredibly useful tool for comparing the relative value and risk of similar properties regardless of how they are financed.
The Cap Rate Formula
The math behind calculating the capitalization rate is straightforward, provided you have accurate financial data for the property.
Cap Rate = (Net Operating Income / Current Market Value) × 100
Understanding the Variables:
- Net Operating Income (NOI): This is your annual revenue minus all necessary operating expenses.
- Revenue includes: Rent, parking fees, laundry service income, etc.
- Expenses include: Property management fees, insurance, property taxes, utilities, repairs, and maintenance.
- Excluded: Do not subtract mortgage payments (principal and interest) or capital expenditures (major renovations) when calculating NOI for Cap Rate.
- Current Market Value: This is typically the purchase price of the property (if you are buying) or the current appraised value (if you already own it).
Example Calculation
Let's say you are looking to purchase a small apartment complex listed for $1,000,000.
- Gross Annual Income: $120,000 (from rent)
- Annual Operating Expenses: $40,000 (taxes, insurance, maintenance)
First, calculate the NOI:
$120,000 – $40,000 = $80,000 (NOI)
Next, divide by the property value:
$80,000 / $1,000,000 = 0.08
Finally, multiply by 100 to get the percentage:
The Cap Rate is 8.0%.
What is a Good Cap Rate?
There is no single "good" Cap Rate, as it depends heavily on the market, the property type, and the risk level.
- 4% – 5%: Often found in high-demand, low-risk areas (like downtown in major cities). These properties usually appreciate well but offer lower immediate cash flow.
- 6% – 8%: Generally considered a balanced return for stable assets in suburban areas.
- 10%+: Often indicates higher risk or older properties in rural or declining areas. While the return looks high, the risk of vacancies or major repairs is usually higher.
Investors use this calculator to quickly filter out properties that do not meet their minimum return requirements before performing deeper due diligence.