The Cap Rate is a quick way to check the financial outlook of a multifamily investment property. So how do you calculate the cap rate on an investment property? The basic calculation is pretty simple:
Cap Rate = Net Income / Property Value
Cap Rate Example
Let's do an example of calculating the Cap Rate. You’ll need these numbers:
The Net Income is Gross Income minus Expenses like insurance, taxes, maintenance and management fees (remember not to include debt payments).
To find the Net Income you’ll need to do some investigating and make sure you know exactly what ALL the expenses for the property are. One unexpected expense can wreck your ROI, and you don’t want to find that expense after closing.
Some common expenses to look for:
To keep our example simple, let’s say we’ve discovered the following expenses related to the property: Annual property taxes are $4500; The annual insurance premium is $1200; and the owner pays water and trash which together are $2400 per year.
So our total expenses (not including debt servicing) come to $8100 per year.
The Net Income is then $15,900 ($24,000 gross income – $8,100 expenses)
Remember: Cap Rate = Net Income / Property Value
Therefore the Cap Rate on this $300,000 property is 5.3%
($15,900 net income / $300,000 property value)