Commercial Real Estate Cap Rate Calculator
Analyze your investment potential by calculating Capitalization Rate, NOI, or Market Value.
What is a Cap Rate in Commercial Real Estate?
The Capitalization Rate, or "Cap Rate," is one of the most critical metrics used in commercial 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 for cash and without debt financing.
The Formula for Cap Rate
The standard calculation for Cap Rate is straightforward:
Cap Rate = (Net Operating Income / Current Market Value) × 100
Understanding the Components
- Gross Rental Income: The total potential income generated by the property before any expenses.
- Operating Expenses: Costs required to maintain and operate the property (taxes, insurance, utilities, repairs, management fees). This does not include mortgage interest or depreciation.
- Net Operating Income (NOI): Gross Income minus Operating Expenses.
Realistic Example:
Imagine a small office building priced at $2,000,000. It generates $250,000 in annual rent. The annual property taxes, insurance, and maintenance cost $70,000.
- NOI = $250,000 – $70,000 = $180,000
- Cap Rate = ($180,000 / $2,000,000) = 0.09 or 9.0%
Why Cap Rates Matter
Cap rates allow investors to compare different properties quickly. A higher cap rate typically suggests a higher potential return but often comes with higher risk (e.g., older buildings, lower-tier locations). A lower cap rate usually indicates a safer, "trophy" asset in a prime location with stable tenants.
Market Value Analysis
If you know the NOI and the average market cap rate for the area, you can determine if a property is priced fairly. For instance, if similar buildings in the area trade at a 6% cap rate, and a building has an NOI of $120,000, its market value should be approximately $2,000,000 ($120,000 / 0.06).