Real Estate Capitalization Rate Calculator 2024

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Property Value & Rental Income
Vacant Months in a Year
Operating Expenses
Gross Income
Net Income
Cap Rate
Capitalization Rate Formula
Capitalization Rate =
Annual Income From the Property - Operating Expenses
Property Value

What is Cap Rate

The capitalization rate, known as cap rate, is a ratio that calculates a certain annual return and can tell you how long it will take for an investment to be paid back. Specifically looking at the real estate industry, the cap rate focuses on income-generating properties, such as apartments, hotels, and office buildings. The cap rate can be used by real estate investors to quickly value and compare properties.

How to Calculate Cap Rate

The cap rate is calculated by dividing the net operating income of the property over the cost or value of the property. Since net operating income is based on revenue and ongoing operating expenses, the cap rate does not account for interest expenses. Since any financing costs for the property are not considered, the cap rate assumes that the property was paid in full in cash.

Popular Version =
Net Operating Income
Fair Market Value
2nd Version =
Net Operating Income
Property Purchase Price
Net Operating Income =
Rental Income + Other Income
- Operating Expenses - Vacancy and Credit Losses

Net operating income includes rental income, such as rent paid by tenants in an apartment for residential properties. Rental income also includes commercial real estate properties, such as rent from companies in an office building or from stores in a shopping mall. Sometimes, rental income may be less than expected because a tenant may be moving in later than expected. In these cases, landlords may have to calculate prorated rent . Rental income is then adjusted based on the expected vacancy level. Net operating income also includes other income generated by the property, such as parking, billboards, laundry, and vending fees.

Subtracted from the rental and other income are the operating expenses for the property. This includes all costs that are associated with operating the property, such as management fees, property taxes, allowances for repairs, maintenance, utilities, property insurance and landlord insurance. Operating expenses do not include capital expenditures, such as purchasing a new HVAC system or replacing the roof, and also does not include depreciation.

To get the cap rate, this net operating income is then divided by the cost of the property, which is your purchase price, or by the current market value of the property.

What Does Cap Rate Mean?

The cap rate is stated as a percentage rate of return on your original purchase, or an estimated rate of return when valuing a property. The cap rate is based on the property being paid in full in cash, which means that it is based on the property not being financed, such as with a mortgage or debt instruments.

The higher the cap rate, the higher the return. If all else is held constant, the theoretical payback period for a 10% cap rate would be 10 years. The payback period is the time it takes for an investment to break-even. Likewise, the payback period for a 5% cap rate would be 20 years.

Of course, this assumes that income and the value of the property remain the same for the entirety of its life. In reality, market values of properties change, and income is not always guaranteed. Vacancies reduce income, while defaults by tenants also reduce net income. An investor should not just look to see whether it is a high or low cap rate, but also consider other factors, such as the level of risk. The capitalization rate should only be used to compare similar properties, such as between apartment buildings in a specific area. It should not be used to compare between different property types, such as between offices and retail properties, or properties located in different geographical regions.

Cap Rate Payback Period

Cap RatePayback Period
2%50 years
4%25 years
5%20 years
10%10 years
20%5 years

What is a Good Cap Rate?

A good cap rate for one investor might not be seen as so good by another investor, as it depends on the investor’s investing style and risk tolerance, but also the property’s location, type, and market conditions. Generally, the higher the cap rate, the higher the level of risk. Investors want to be compensated for taking on risk, and so they demand higher returns for riskier investments. Cap Rates vary by city, so when calculating a cap rate, it is important to understand how it differs from the average cap rate in the area to estimate the risk and return of the project.

If an investor is looking to purchase a property, they can use the cap rate to compare properties. If the net income of the property is known, a property with a cap rate above the market average cap rate for comparable properties would indicate that the property is undervalued. This could be due to a variety of factors, such as a specific risk factor for that property, unknown financial metrics, or the market might just be underestimating the property.

Value investors focus on undervalued properties, while growth investors focus on overvalued properties. These properties could be currently overvalued due to a future expectation of a growth in income or in the future market value of the property.

Average U.S. Cap Rates 2019

Property TypeCap Rate
Urban Offices6.65%
Suburban Offices7.80%
Infill Multifamily5.11%
Suburban Multifamily5.37%
Neighbourhood Retail7.47%
Power Center/Shopping Center Retail8.54%
High Street Retail4.78%
Urban Hotels7.99%
Suburban Hotels8.55%

Cap Rate Valuation Method

If you know the current net operating income for a property, you could divide that by the average cap rate from comparable properties to get an estimated market value. Buyers can use this estimated market value to quickly see if they are overpaying, and sellers can use it to see if they are selling for less than what it might actually be worth.

CBRE Cap Rate Survey

CBRE, which stands for Coldwell Banker Richard Ellis, is the world’s largest real estate services company. CBRE releases surveys that show current cap rates in the United States and current market sentiment. In CBRE' Cap Rate Survey for Q3 2020, CBRE looked specifically at the impacts of COVID-19 on the real estate market. The survey notes that assets are currently being underwritten with lower income assumptions, pushing down the cap rate. More than a third of suburban multifamily residential markets experienced cap rate decreases, while a third of office markets experienced cap rate increases. For suburban offices, 95% of investors were looking for discounts. In comparison, 21% of investors in industrial properties were willing to bid above asking price.

When looking at factors that influence investor decisions, 85% felt that the credit quality of a tenant is now more important than it was at the beginning of 2020. Likewise, 64% felt that the building occupancy is now more important. For office buildings, 80% felt that building occupancy is now more important.

Highest and Lowest U.S. Cap Rates By Property Type

Property TypeHighest Cap RateLowest Cap Rate
Urban Offices Baltimore (8.5%)New York City and San Francisco (4.25%)
Suburban OfficesBaltimore and Chicago (8.5%)San Jose (5.25%)
Suburban MultifamilyBaltimore, Seattle, Orlando, Minneapolis/St. Paul (5.25%)Nashville (3.9%)
Urban OfficesBaltimore (8.5%)New York City and San Francisco (4.25%)
IndustrialAustin (6%)Los Angeles, San Francisco, New Jersey, Seattle (3.75%)
Retail (Grocery-Anchored)Sacramento (8.5%)Portland (4.5%)
Source: CBRE Cap Rate Survey Special Report Q3 2020

Cap Rate vs. Yield

Yield is the income that the investment generates, stated as a percentage of the total cost of the investment. Since the total cost of the investment is a static amount, the yield will change if income changes. The cap rate is the income of the property compared to the cost or market value of the property. Since the market value of the property can change as well, the cap rate is a more fluid number. Both the cap rate and yield measures the rate of return of the investment, but they slightly differ in their measurements.

Levered Yield

The levered yield allows us to consider situations where the investor needs to borrow funds to make their investment, rather than paying in full by cash with no debt. Instead of dividing by the total cost of the property, the levered yield divides income by the actual amount of money that the investor has put down for their investment. Operating income will be reduced by payments on the debt, such as mortgage payments.

Leverage magnifies returns, but it also magnifies losses. If an investor paid for half of a property using their own cash and borrowed the other half, their leverage ratio would be two. This in effect doubles the return relative to if no financing was required, but it can also double the effect of losses. If an investor contributed $10,000 towards a $100,000 property with $90,000 being financed through a mortgage, a 10% drop in the market value of the property could quickly erase the investor’s equity.

Using levered yield is appropriate if you require financing for your investment, but it can cause unrealistic expectations. Financing your investment also adds in interest costs, such as mortgage rates provided by a lender, which can fluctuate depending on factors outside of your control.

Types of Cap Rate

Terminal Cap Rate

Similar to using the cap rate to value properties, the terminal capitalization rate is used prior to purchase to value properties when they will be eventually sold. Also known as the exit cap rate, the terminal cap rate is the estimated cap rate for the final year that the property will be held. If the terminal cap rate is lower than the current cap rate, it may suggest that property values will increase or operating income will decrease.

Implied Cap Rate

Implied cap rate is used to estimate the cap rates of publicly traded real estate investment trusts (REITs) based on their reported net income against their market capitalization and debt, which is the REIT’s implied value. Since the implied value is linked to share prices, the implied cap rate is also the yield at the current share price. This implied cap rate is then used to compare between different REITs to measure performance, and is not used to compare between individual properties.

SectorREIT Implied Cap RatePrivate Market Cap RateImplied vs Market Valuation Gap
Market Average6.0%4.8%-19.3%
Source: CenterSquare REIT Cap Rate Perspective Q3 2020
SectorREIT Implied Cap Rate5 Year Average Implied Cap Rate
Market Average6.0%5.1%
Source: CenterSquare REIT Cap Rate Perspective Q3 2020
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