How to calculate cap rate
Divide the property's net operating income for one year by its current value or purchase price, then multiply by 100 to get a percentage. Texas A&M's Real Estate Center calls this the overall capitalization rate, or "free and clear" rate, because it ignores financing.[1][2]
- Start with gross income: the full year's scheduled rent for every unit, plus parking, laundry and other income.
- Subtract vacancy and credit loss: the rent you expect to lose to empty months and unpaid balances. What is left is effective gross income.
- Subtract operating expenses: property taxes, insurance, repairs and maintenance, management, owner-paid utilities, HOA dues and reserves. The result is net operating income (NOI).
- Divide NOI by value. Use the price you would pay, or a current appraised value for a property you already own.
Worked example, a small four-unit building priced at $640,000:
| Line | Amount |
|---|---|
| Gross rent (4 units × $1,250 × 12) | $60,000 |
| Less vacancy and credit loss at 5% | ($3,000) |
| Effective gross income | $57,000 |
| Less operating expenses | ($19,600) |
| Net operating income | $37,400 |
| Cap rate: $37,400 ÷ $640,000 | 5.84% |
To build the NOI line by line (taxes, insurance, management as a percentage of collected rent, reserves), use the NOI calculator and bring the result back here with "I know the NOI". Every formula on this site is collected on the real estate math formulas page.
What goes into NOI, and what stays out
NOI counts only the income and costs of running the property, so a cap rate is the same whether the buyer pays cash or borrows.[3] Financing and taxes belong to the owner, not the building.
| In NOI | Not in NOI |
|---|---|
| Rent and other property income | Mortgage principal and interest (debt service) |
| Vacancy and credit loss | Depreciation, a tax deduction that costs no cash |
| Property taxes and insurance | Capital improvements such as a new roof |
| Repairs, maintenance, management | Owner's income tax |
| Owner-paid utilities, HOA dues, landscaping | Loan fees and closing costs |
Replacement reserves sit on the boundary. Fannie Mae's multifamily underwriting subtracts a reserve of at least $200 per unit per year just below NOI, before it measures debt coverage.[3] The worksheets on this site count reserves as an operating expense instead, which gives a slightly lower, more conservative NOI and cap rate.
The tax side of the same property works differently: on a U.S. return, mortgage interest and depreciation are deductible rental expenses even though neither is an operating expense in NOI.[4] The rental income calculator shows the cash figure and the taxable figure next to each other.
Worksheet 01b
Work backward: value from a cap rate
Value = NOI ÷ cap rate
| Net operating income | $24,000 |
|---|---|
| Divided by cap rate | 6.50% |
| Value = NOI ÷ cap rate | $369,231 |
Same NOI, different cap rates
| Cap rate | 5.50% | 6.00% | 6.50% | 7.00% | 7.50% |
|---|---|---|---|---|---|
| Value | $436,364 | $400,000 | $369,231 | $342,857 | $320,000 |
Formula. Value = NOI ÷ (cap rate ÷ 100). A lower cap rate means a higher value for the same income.
Why a small change in cap rate moves value a lot
Value and cap rate move in opposite directions, and the effect is large because the cap rate is the denominator. The same $24,000 of NOI is worth:
| Cap rate | Implied value | Change vs 6% |
|---|---|---|
| 5% | $480,000 | 20.0% |
| 5.5% | $436,364 | 9.1% |
| 6% | $400,000 | – |
| 6.5% | $369,231 | -7.7% |
| 7% | $342,857 | -14.3% |
A half-point move from 6% to 6.5% takes about 7.7% off the value. That is why appraisers and lenders care so much about which comparable sales set the cap rate, and why a price built on an optimistic NOI can fall apart.
What a cap rate does not tell you
A cap rate is a one-year snapshot of unlevered income. It leaves out four things that often decide whether an investment works:
- Financing. With a mortgage, your return on cash depends on the interest rate. See cash-on-cash return and the DSCR calculator for how the loan changes the picture.
- Growth or decline. Rents, expenses and the property's value change over time. The discounted cash flow calculator and the investment property calculator handle more than one year.
- Big repairs. A roof or HVAC replacement is a capital cost, outside NOI. A low reserve figure flatters the cap rate.
- Risk. Two properties with the same cap rate can carry very different risks. Property can fall in value, rent may not cover the loan, and a building can be hard to sell quickly.[5]
Cap rate compared with other rental measures
| Measure | Formula | Answers |
|---|---|---|
| Cap rate | NOI ÷ value | What does the property earn on its price, ignoring the loan? |
| Cash-on-cash | Cash flow ÷ cash invested | What do I earn on the cash I put in? |
| DSCR | NOI ÷ debt service | Does the income cover the loan payment? |
| Gross rent multiplier | Price ÷ gross annual rent | How many years of rent does the price equal? |
| Rental yield | Annual rent ÷ price | Gross or net yield, as quoted in the UK and Australia |
| IRR | Discount rate that sets NPV to zero | What is the annual return over the whole holding period? |
All rental property calculators and guides
- 02Rental property calculatorCash flow, cap rate, cash-on-cash and DSCR in one worksheet
- 03Rental cash flow calculatorMonthly cash flow, break-even rent and a stress test
- 04Cash-on-cash return calculatorAnnual cash flow ÷ the cash you put in
- 05DSCR calculatorNOI ÷ debt service, or rent ÷ PITIA, and the loan that fits
- 06DSCR loan calculatorRent ÷ PITIA and the down payment a lender's minimum requires
- 07Commercial mortgage calculatorLoan size by LTV and DSCR, payments and the balloon
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- 09BRRRR calculatorCash left in the deal after the refinance
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- 15Investment property calculatorTotal return and IRR over a holding period, on your assumptions
- 16Gross rent multiplier (GRM)Price ÷ gross rent, monthly vs annual, and comparable sales
- 17ROI calculatorReturn on investment and annualized ROI for any holding period
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- 23Rental property value calculatorIncome-approach value by cap rate and by gross rent multiplier
- 24DCF calculatorPresent value of NOI plus a sale at an exit cap rate
- 25Tax on sale of rental propertyGain, depreciation at up to 25%, 2026 capital gains rates and NIIT
- 26Rental property depreciation calculator27.5-year schedule with the mid-month first year
- 27Investment property mortgage calculatorP&I, full PITIA payment and amortization by year
- 281% rule calculatorRent-to-price screen and the 50% rule, with their limits
- 29What is a good cap rate?Three tests: comparables, your loan constant and a lender-style NOI
- 30Cap rate vs cash-on-cash returnOne property, four loans, very different returns
- 31Real estate math formulasEvery formula on this site, with a worked example
- 32What is a cap rate?The meaning of the capitalization rate, in plain terms
- 33Cap rate formulaHow to calculate cap rate, with three worked examples
Educational onlyThese calculators do arithmetic on the numbers you enter. They are not investment, tax or lending advice, and they cannot judge whether your rent or expense figures are realistic. See the investment disclaimer.
Frequently asked questions
What is a good cap rate?
There is no single good number. Cap rates differ by city, property type, condition and interest rates. A higher cap rate means more income per dollar of price, but it often comes with more risk or more work. Compare a property with similar buildings that sold recently in the same area; the guide what is a good cap rate walks through three tests.
Does cap rate include the mortgage payment?
No. NOI is calculated before debt service, so the cap rate is the same for a cash buyer and a buyer with a loan. Use cash-on-cash return to see the effect of financing.
How do you calculate cap rate on a rental property?
Take one year of rent and other income, subtract vacancy and operating expenses to get NOI, and divide NOI by the price or value. $30,000 of NOI on a $500,000 property is a 6% cap rate.
Is cap rate the same as ROI?
No. Cap rate is one year of unlevered income on the full value. ROI usually means the total return on your own cash, including loan paydown and any sale profit, which the investment property calculator works out.
Can a cap rate be negative?
Only if operating expenses exceed collected income, so NOI is negative. In that case the cap rate has no useful meaning; the property loses money before any mortgage payment.
Sources
- Etter, W. E. Direct Capitalization Versus Discounted Cash Flow Analysis (Publication 1051)
- Etter, W. E. Expected Rate of Return: More than Interest (Publication 1145)
- 203.01 Underwritten Net Cash Flow (Multifamily Selling and Servicing Guide, Part II, Ch. 2)
- Publication 527 (2025), Residential Rental Property
- Buying an investment property