Cap Rate Calculator

Cap rates vary significantly by property type, location, and market conditions. According to commercial real estate cap rate surveys published by firms such as CBRE and Nareit:

• Multifamily apartments in major metros have traded around 4.5-5.5% cap rates in recent years, while the same asset class in secondary markets might achieve 6-7.5%.
• Class A office properties in gateway cities like New York and San Francisco trade at 5-6%, but suburban office parks may command 7-9%.
• Industrial and logistics properties have compressed to 4-5.5% due to e-commerce demand.
• Retail cap rates range from 5% for grocery-anchored centers to 8-10% for single-tenant retail with shorter lease terms.
• Self-storage facilities typically trade at 5.5-7%.

The general pattern is clear: lower cap rates correlate with lower perceived risk, stronger tenant quality, better locations, and newer buildings.

Investors accept a 4.5% cap rate in Manhattan because they expect appreciation and stable cash flow, while demanding 8%+ in a tertiary market to compensate for higher vacancy risk and slower appreciation.

NOI is the single most important number in commercial real estate — it drives property valuation, loan underwriting, and investment returns. NOI equals gross potential rent plus other income (parking, laundry, storage fees), minus vacancy and credit loss, minus operating expenses. Operating expenses include property taxes, insurance, maintenance, management fees, utilities (if owner-paid), and reserves for capital expenditures.

Critically, NOI excludes mortgage payments, income taxes, and depreciation — it is a pre-financing, pre-tax measure of property-level performance. The IRS treats depreciation and mortgage interest as separate deductions reported on Schedule E (see IRS Publication 527), which is precisely why NOI leaves them out.

Common NOI mistakes include:

• underestimating vacancy (using 3% when the market averages 7%),
• ignoring capital reserves (typically 5-10% of gross income),
• failing to include all operating expenses.

When a seller presents a 'pro forma' NOI based on projected rents rather than actual performance, always request the trailing 12-month actual financials. The spread between pro forma and actual NOI can reveal whether the asking price is justified or inflated.

Cap rate compression occurs when cap rates decline over time, meaning property values rise faster than income. From 2010 to 2022, average cap rates compressed by 200-300 basis points across most property types, driven by low interest rates, institutional capital inflows, and strong rent growth.

When cap rates compress from 7% to 5%, a property generating $100,000 NOI sees its value jump from $1.43 million to $2.0 million — a 40% gain without any change in income. This leverage on cap rate movement is why many investors earned extraordinary returns during the post-2010 cycle.

However, cap rate compression works in reverse too: when interest rates rise, cap rates eventually expand, and property values decline even if NOI stays flat.

The spread between cap rates and the 10-year Treasury yield has historically averaged 250-350 basis points. When this spread narrows below 200 basis points, it signals that real estate may be overpriced relative to risk-free alternatives. Savvy investors monitor this spread to time market entry and exit decisions.

The cap rate formula is Net Operating Income ÷ Property Value × 100. Start with gross rental income, subtract vacancy and credit loss, then subtract operating expenses (property taxes, insurance, maintenance, management, and reserves — never the mortgage) to get NOI. Divide that by the price or current value.

For a $500,000 property with $48,000 gross rent, 5% vacancy, and $12,000 of expenses, NOI is $33,600 and the cap rate is 6.72%. Because the formula is unlevered, two buyers paying the same price get the same cap rate regardless of how much they finance.

These three metrics answer different questions.

• Cap rate is the unlevered property yield (NOI ÷ value), ideal for comparing properties independent of financing.
• Cash-on-cash return is levered — annual cash flow after debt service ÷ cash invested — and reflects your actual return on the money you put down.
• ROI is the broadest, folding in appreciation, principal paydown, and tax benefits over a holding period.

Use cap rate to screen and value a property, our cash-on-cash calculator to judge a financed deal, and total ROI to evaluate the full investment outcome.

A 'good' cap rate depends on risk appetite and goals, not an absolute number. As Investopedia notes, a cap rate is only meaningful when compared against similar properties in the same market and asset class.

• Income-focused investors prefer higher cap rates (7-10%+) in Class B/C properties and secondary markets for strong current cash flow.
• Appreciation-focused investors accept lower cap rates (4-5%) in Class A assets and gateway cities, betting on rent growth and value gains.

A higher cap rate is not automatically better — it often signals higher vacancy risk, deferred maintenance, or a weaker location. Always compare cap rates within the same market and asset class rather than across very different property types.

Rearranging the formula lets you value a property from its income: Value = NOI ÷ Cap Rate. If comparable properties in a submarket trade at a 6% cap and the building you are analyzing produces $90,000 NOI, its implied value is $90,000 ÷ 0.06 = $1.5 million.

This is exactly how commercial appraisers and brokers price income property — the income approach. It also shows the power of raising NOI: every extra $1,000 of NOI at a 6% cap adds about $16,700 of value, which is why operational improvements and expense reductions translate directly into equity.

GRM (price ÷ gross annual rent) and cap rate both gauge value, but at different depths. GRM needs only two numbers and is perfect for quickly filtering listings, while cap rate requires a full NOI estimate and gives a far more accurate picture because it accounts for expenses and vacancy.

A property can show an attractive GRM yet a poor cap rate if its operating costs are high. The professional workflow is to screen with GRM, then run cap rate on the survivors before making an offer — use our GRM calculator for the first pass and this cap rate calculator for the second.

Cap rates move with the cost of capital. Investors generally demand a spread of roughly 250-350 basis points over the 10-year Treasury yield to compensate for real estate's illiquidity and risk.

When rates fall, that spread lets cap rates compress and values rise; when rates climb, cap rates eventually expand and values fall even if NOI is flat. Federal Reserve data on commercial real estate prices confirms this inverse relationship, and industry cap rate surveys reported broad cap-rate expansion across most property types through the 2023-2024 rate-hike cycle.

Watching the cap-rate-to-Treasury spread helps you judge whether a market is richly priced — a spread under 200 basis points is a classic overvaluation warning.

Sellers often market a property using pro forma NOI — projected rents and optimistic expenses — rather than actual trailing performance. The gap can be large: a pro forma might assume full occupancy and below-market repair costs, inflating NOI and making the cap rate look better than reality.

Always request the trailing 12-month (T-12) actual financials, the rent roll, and tax returns, then rebuild NOI with realistic vacancy (5-10%), management (8-10%), and capital reserves (around 1% of value per year). A cap rate computed on verified trailing NOI is the only one worth trusting in negotiations.

The most frequent errors are:

• including mortgage payments in NOI (cap rate is unlevered by definition),
• omitting capital reserves and management fees,
• using a seller's optimistic pro forma instead of actual numbers.

Others compare cap rates across different markets or asset classes — a 5% multifamily cap is not comparable to a 9% single-tenant retail cap. Investors also forget that a high cap rate usually prices in real risk, not free yield.

Verify every expense line, normalize vacancy, and always compare like-for-like properties in the same submarket before drawing conclusions.