How to Calculate Cap Rates on Multifamily Real Estate

Table of Contents

Capitalization rate is used by investors as a quick way to determine which investments are good and which ones are not. Also known as cap rate, it is one of the metrics commonly used in the world of real estate investing.

Experienced investors use cap rate to analyze and compare similar real estate investment properties. Newer investors should learn how to calculate cap rates so that they could make better investing decisions.

Cap rate is commonly used to evaluate both the return on investment (ROI) and the risk in a real estate investment property. It can help investors find good investments and even determine if their current investments are being mismanaged. [1]

What is Cap Rate?

A commercial real estate property’s capitalization rate, or cap rate, indicates the rate of return or net income that it is expected to generate. Cap rates are used to quickly compare the relative value of similar real estate properties.

Simply put, cap rate is the estimated rate of return on a real estate investment property or what part of your initial investment will return to you every year. For example, if you bought an apartment for $100,000, and the cap rate is 10%, it means that each year, 10% of your initial investment is expected to return to you. [2]

If the cap rate is at 7.5%, then you can expect an annual gross income of 7.5% on the value of your investment property. Cap rate does not include mortgage. This means you can use it to accurately assess ROI on a property. If you include your mortgage, you will be able to find the levered yield.

Keep in mind that cap rates cannot be used as the lone indicator of a property’s value. There are many other factors that should be taken into consideration, including leverage and potential cash flows from renovations and other improvements.

Before going into the formula for calculating the cap rates of multifamily real estate, let us briefly discuss what this particular type of real estate property is.

What is a Multifamily Property?

A multifamily property is any residential building that has multiple units that can be occupied by more than one family. This includes condominiums, duplexes, triplexes, and apartment complexes. The number of units does not matter. [3]

Multifamily real estate may take many forms. A duplex is the simplest form of multifamily housing because of its two-unit setup within a single building. The term “multifamily” differentiates it from single family homes.

For investors who want to try investing in multifamily real estate, they can do so without shouldering the responsibilities of being a landlord by going into multifamily syndication. With this passive type of investment, you don’t have to manage a property, deal with emergencies, or communicate with tenants.

Multifamily syndication involves multiple investors pooling their money together to purchase a single asset. A syndicator, such as BAM Capital, puts the deal together and looks for investors to join in the syndication. Through multifamily syndication, they can enjoy a passive real estate investment and a continuous cash flow without becoming a landlord. They can also earn money from the equity once the deal is finished. [4]

Investors who want to try multifamily syndication should work with BAM Capital. BAM Capital handles all steps of the investment life-cycle, from purchasing to remodeling to management, yielding a higher return for investors.

Just like other types of real estate investments, cap rate also applies to multifamily properties.

How is Cap Rate Calculated?

Capitalization rate is calculated by dividing net operating income by property asset value. You just have to subtract the operating expenses from the building’s overall gross income to find the property’s net operating income or NOI. Then, you can divide the NOI by the investment property’s current market value or purchasing price to find the cap rate. This is then expressed as a percentage. [5]

The formula for determining cap rate is net operating income divided by property value. The cap rate is the ratio of NOI to sales price or property value. But investors can use cap rate calculators online to make this process easier.

For more advanced investors, they may include additional parameters such as vacancy rate or the percentage of operating expenses such as utilities, maintenance, and insurance. However, when it comes to operating expenses, this does not include mortgage payments, income taxes, and depreciation. This means the net income is the cash that you earn before debt service and before income tax. [2]

Property,Taxes,And,Real,Estate,Market,Growth

You can then use this formula to calculate your net income:

Net income = (100 – operating expenses)[%] * (100 – vacancy rate)[%] * gross income

Divide the resulting NOI by the multifamily property’s purchasing price to find the cap rate.

Capitalization rate serves as a good starting point for investors who want to find good properties to invest in. But remember that it is only a rule of thumb and not something you should strictly follow. Cap rates are generally used to quickly narrow down the choices for similar investment properties.

Work with BAM Capital

If you don’t want to go through the hassle of figuring out what investments to go for and why, BAM Capital offers the best multifamily real estate properties for those who want a passive investment.

BAM Capital prioritizes Class A multifamily properties because it values low risk investments for passive investors. Working with BAM Capital allows investors to enjoy a safe and passive investment through multifamily syndication. BAM Capital has a Midwest focus and prioritizes properties that are Class A, A-, and B++.

Multifamily syndication is the best solution for investors who do not want the responsibility of being a landlord while still enjoying a passive real estate investment. BAM Capital will arrange the syndication deal so there is no need to purchase an asset on your own. BAM Capital will also handle property management. Investors love BAM Capital’s vertical integration model that mitigates investor risk. [4]

BAM Capital works with accredited investors and negotiates the purchasing and financing of high quality multifamily real estate properties on their behalf. This Indianapolis-based company currently has $650M AUM and 5,000 units. Schedule a call with BAM Capital and invest today.

BAM Multifamily Growth & Income Fund II

BAM Capital created this fund in order to yield consistent and reliable cash flow, long-term appreciation, and accelerated tax benefits. The fund aligns with BAM Capital’s demonstrated track record of successful multifamily investing by continuing to implement our signature investment thesis, now in fund format. The fund aims for greater overall returns and lower risk through a multi-asset diversification strategy.

  • Consistent passive income
    Lower-risk assets with in-place cash flows with the ability to distribute preferred return after acquisition.
  • Significant tax benefits
    A cost segregation analysis allows for accelerated deprecation to years of ownership. This large passive loss gets passed onto investors through a K1.
  • Vertically integrated company
    In-house property management and construction allow for predictable cost reduction and value add.

The above link will take you to the free Investor Portal to view all current offerings. If you do not have an account already, please create one to view the information.

The contents on this site are for informational and entertainment purposes only and do not constitute financial, investment, or legal advice. BAM Capital cannot guarantee that the information shared on this post or page is appropriate for you and your financial situation. By using this site, you agree to hold BAM Capital and any and all entities related to the writing & publishing including BAM Capital’s parent company harmless from any ramifications, financial or otherwise, that occur to you as a result of acting on information found on this site. Always consult your investment advisor, CPA, and other professionals before making an investment. BAM Capital is excited to help you grow your investment assets. Please contact us to see how we can help you.