About the Cap Rate Calculator
Capitalization rate is the most widely used metric for comparing investment properties on a level playing field. Because it strips out financing, cap rate tells you how productive the property itself is — independent of whether you paid cash or took out a mortgage. Two identical properties in the same building with different owners will have the same cap rate but potentially very different cash-on-cash returns depending on how each was financed.
Cap Rate Formula
NOI = Gross Annual Income − Operating Expenses
Cap Rate = (NOI ÷ Property Value) × 100
Operating expenses include property taxes, insurance, property management fees, maintenance, repairs, utilities (if owner-paid), HOA fees, and a vacancy/credit loss allowance. They do not include mortgage payments, capital expenditures, or depreciation.
How to Interpret Cap Rate
- 3–4% — Typical for class A urban properties with high appreciation potential; low yield, low risk
- 5–7% — Moderate yield; common for stabilized suburban residential and smaller multifamily
- 8–10%+ — Higher yield; often associated with higher risk, older properties, or secondary markets
Cap rate also moves inversely with property value: if market cap rates compress (buyers accept lower yields), property prices rise. This is why cap rate expansion can signal a cooling market and compression signals strong demand.
Cap Rate vs. Cash-on-Cash Return
Cap rate ignores financing entirely. Cash-on-cash return measures the actual cash yield on the equity you invested — it accounts for your mortgage payment. Use cap rate to screen and compare properties; use cash-on-cash return to evaluate your actual investment return once you know your financing terms.
Using Cap Rate to Value a Property
If you know the NOI and typical cap rates in an area, you can estimate what a property should be worth:
Property Value = NOI ÷ Cap Rate
Example: An area trades at 6% cap rates. A property with $24,000 NOI should be worth roughly $24,000 ÷ 0.06 = $400,000. This income-based valuation approach is standard in commercial real estate appraisal.
This calculator uses a simplified model. Actual investment performance depends on leverage, appreciation, tax treatment, vacancy rates, and local market dynamics. Not financial or investment advice.
Frequently Asked Questions
What is cap rate in real estate?
Cap rate (capitalization rate) is the ratio of a property's net operating income (NOI) to its current market value, expressed as a percentage. It measures the potential return on investment assuming a full-cash purchase — no financing. For example, a property generating $24,000 NOI and worth $300,000 has an 8% cap rate. Higher cap rates suggest higher returns but often higher risk; lower cap rates imply lower risk but also lower yield.
What is a good cap rate for a rental property?
A 'good' cap rate depends on market, property type, and investor goals. In major urban markets with strong appreciation potential, cap rates of 3–5% are common. In secondary markets or with higher-risk properties, 6–10%+ may be expected. As a general benchmark: below 4% is considered low/conservative, 5–7% is moderate, and 8%+ is higher-yield but may carry more risk. Always compare cap rate to local market norms, not just an absolute threshold.
What is net operating income (NOI)?
NOI is the annual income a property generates after subtracting all operating expenses, but before mortgage payments and taxes. Operating expenses typically include property management fees, maintenance and repairs, insurance, property taxes, utilities (if owner-paid), and vacancy allowances. NOI = Gross Rental Income − Operating Expenses. It does not include mortgage principal or interest, capital improvements, or depreciation.
Does cap rate include mortgage payments?
No. Cap rate is calculated before financing costs — it assumes you purchased the property entirely with cash. This makes it a property-level metric that's independent of how you finance it, allowing apples-to-apples comparison between properties regardless of down payment or loan structure. To factor in your financing, use cash-on-cash return instead, which measures actual cash yield on the equity you invest.
How do I use cap rate to value a property?
You can rearrange the cap rate formula to estimate value: Property Value = NOI ÷ Cap Rate. If a property generates $30,000 NOI and comparable properties in the area trade at a 6% cap rate, the implied value is $30,000 ÷ 0.06 = $500,000. This is the income approach to valuation and is widely used by commercial real estate appraisers and investors.
What expenses are excluded from the cap rate calculation?
Cap rate calculations exclude mortgage principal and interest (financing costs), capital expenditures (major repairs and improvements), depreciation (non-cash), and income taxes. Operating expenses that ARE included: property management, routine maintenance, insurance, property taxes, utilities, HOA fees, and a vacancy allowance. Including mortgage payments would make cap rate dependent on financing structure, defeating its purpose as a financing-neutral comparison metric.
