Every Real Estate Investor Needs a Cap Rate Calculator
Investing in real estate is a profitable venture when done rightly. Every real estate investor needs to understand the calculations behind their investments. Ignoring the numbers and not considering the gains and costs can lead to losses. Hence, understanding how to access your property investments with the correct investment tools and calculations is vital.
One of the essential real estate investment tools is the cap rate calculator. This article covers what the tool is and why real estate investors need it to determine the profitability of their rental investments.
What Is Cap Rate?
A capitalization rate or cap rate is the percentage of annual return on a rental investment. It’s the net operating income of a rental property relative to its asset value. A cap rate takes the vacancy rate and operational expenses into account, making it ideal for your rental property’s profitability. It shows you the ability of your rental income to pay off the real estate property price.
What’s a Good Cap Rate?
Determining what a reasonable capitalization rate looks like can be challenging as it depends on the market. For instance, investing in a small market with little growth is riskier than investing in a larger market with increasing demand. Hence, accepting a seven percent or less cap rate in a substantial real estate market like New York is a great move.
Your investment goals as a property investor also matter. A reasonable cap rate should generally be at least 10 percent.
Besides the cap rates, ensure to note the projected long-term and short-term performance of a real estate property. That’s where a cap rate calculator comes in — some of the best options can perform a complete real estate property analysis, ensuring you get a good cap rate and a profitable investment property.
Factors That Affect Cap Rates
Capitalization rates often fluctuate just like bond interests or bank charge interests for a mortgage. The fluctuations are due to the market, demand, and supply. Prices go up when several buyers compete over the same investment property. The higher the price, the lower the cap rate.
If real estate sellers find it hard to get buyers for their properties, they usually begin to reduce their prices. The lower the price, the higher the cap rate.
In addition, mortgage interest rates can also affect properties’ cap rates. An increase in mortgage rates implies a slight difference between what a property investor pays and what they get from the investment. It means they’re not making much money.
Investors will often demand high cap rates, which implies low sale prices. Hence, investors need to get lenders with attractive interest rates. You’ll be less vulnerable to fluctuating rates if you pay lower interests, and your cash flow will be higher.
You can partner with another investor if you’re unable to get an attractive interest rate. Interest rates can significantly affect your monthly cash flow and the equity you’re building.
The extent of new construction can also affect the cap rate. The demand for apartment leases may decrease if more housing units are being constructed nearby. It can result in lower rental rates and higher vacancy rates sometimes.
Savvy real estate investors can recognize areas set for development and strategize on the assumption that additional units will be built nearby.
How to Calculate Cap Rate
To calculate the cap rate, divide the NOI (Net Operating Income) by the asset value.
Cap Rate = Net Operating Income / Asset Value
Here’s an example:
Property value: $240,000
Total revenue: $1,000 monthly rent x four units = $48,000/year
Maintenance and cleaning — $8,000
Broker and inspection fees — $6,000
Manager salary — $22,000
Next, we’ll calculate the Net Operating Income — $48,000 (revenue) – $36,000 (expenses) = $12,000.
Now you can use this to calculate the property’s cap rate.
$12,000 (NOI) /$240,000 (asset value) = 0.05, or 5% Cap Rate.
You can use the same formula to calculate the property value to know the NOI and Cap rate.
To do this, simply rearrange the formula:
Property Value = NOI / Cap Rate
Property Value = $12,000 / 5% = $240,000
Cap Rate Calculator
When you’re checking up hundreds of real estate properties and wondering the best one to purchase, you’ll be forced to gather data. You might use Excel formulas, and organize spreadsheets — unless you have a rental property income calculator.
This tool can help you make the most profitable rental investment decisions without performing the math yourself! It determines a rental investment’s profitability using predictive and data analytics to provide rental income data, expense estimates, and current cap rates.
Finding a cap rate calculator with mortgage deals is hard as cap rates do not take mortgages into account. However, you might find a few sites with an investment property mortgage calculator.
Advantages of Using the Cap Rate Calculator
We’ve mentioned some benefits of using this property investment tool. Here are some other advantages for real estate investors in greater detail:
- Investment Property Analysis
The calculator analyzes and determines which properties are more likely to bring in good cash flow. The tool shows the overall costs of each property as well as the net and gross annual income. It also calculates the market value of each investment property, which comes in handy when selling or making an offer for a property.
- Better Understanding of Operating Expenses
Overhead and management costs can become uncontrollable when managing investment properties. You can use a cap rate calculator to know every operating cost. It helps you to understand atypical expenditures that may not have been obvious.
For instance, your real estate cap rate may show excessive energy costs caused by an inefficient cooling/heating system. You can improve your property’s yield by using an investment property mortgage calculator to monitor the net operating income.
Real estate investors often face several viable investment options when searching for property. Choosing between property investments can be intimidating, but you can avoid that. You can choose the best property investment by knowing the cap rate of each potential real estate option.
For instance, two similarly priced real estate properties may have different return annual rates. Hence, calculating the cap rate can help property investors to make better-informed decisions.
The cap rate calculator can help you locate the most profitable property investments in no time. What’s more? The tool prevents you from performing the calculation all the time.