What a Cap Rate Actually Measures

Cap rate is the shorthand commercial real estate investors use, but the underlying meaning gets fuzzy in casual conversation. Cap rate measures the unleveraged annual return on a property at its current value. NOI divided by property value equals cap rate. A Macomb County retail strip with $135,000 of annual NOI selling for $1.8 million has a 7.5 percent cap rate. That number represents what a cash buyer would earn in year one, before financing, before tax benefits, and before any appreciation.

The cash equivalent framing helps. If you had $1.8 million in cash and bought the property, you would earn $135,000 per year in NOI, or 7.5 percent on your capital. That is what cap rate measures. Everything else the property produces, including financing leverage, tax depreciation, principal paydown, and eventual appreciation, sits on top of that base cap rate return. Cap rate is the floor, not the ceiling, of the investment return.

What cap rate does not measure. Cap rate does not include debt service. Two identical Macomb County warehouses with different loans still have the same cap rate but very different cash on cash returns. Cap rate does not include tax benefits. Cost segregation and accelerated depreciation boost after tax returns significantly on some properties, but cap rate ignores taxes entirely. Cap rate does not include appreciation. Two properties with the same cap rate but different appreciation expectations have very different total return prospects.

What cap rate reflects about the market. When capital is cheap and investors are aggressive, cap rates compress. Buyers pay more per dollar of NOI, driving values up. When capital tightens and investors get cautious, cap rates widen. Buyers pay less per dollar of NOI, and values fall. Macomb County cap rates have widened by 50 to 150 basis points across most property types since 2022 as interest rates climbed. That widening moved property values down even where NOI held steady.

What cap rate reflects about the property. Higher risk properties trade at higher cap rates. Older buildings, shorter lease terms, weaker tenants, and less desirable locations all push cap rates up because investors demand more return for the added risk. Lower risk properties trade at lower cap rates. Newer buildings, long term credit tenant leases, strong locations, and durable fundamentals all let investors accept less current yield in exchange for stability.

The property type dimension. Industrial cap rates across Macomb County currently sit at 7 to 8.5 percent depending on submarket and tenant quality. Office spans a wide range from 7 to 8 percent on well leased Class A product to 10 percent or higher on older Class B. Retail runs from 6.5 to 7.5 percent on grocery anchored centers to 9 to 11 percent on older strip centers. Multifamily runs 5 to 7 percent depending on location and age. Each category responds to its own market dynamics.

Going in versus stabilized cap rate. Going in uses current actual NOI. Stabilized uses projected NOI after lease up, rent adjustments, or improvements. A partially vacant building might have a 5 percent going in cap rate and project to 9 percent stabilized after lease up. The gap between the two is where the value add work happens. Investors need to understand which cap rate is being quoted and what execution takes to bridge from one to the other.

The Michigan property tax uncapping consideration. When a Macomb County building sells, taxable value uncaps to state equalized value. The new owner’s tax bill often significantly exceeds the seller’s, particularly on long held properties. That flows through NOI and reduces the real cap rate below what the marketing number shows. Careful buyers rebuild NOI using post sale tax estimates before applying cap rates to arrive at defensible values.

TDG Commercial, known as top commercial realtors in Macomb County, works with current cap rate data across every property type to help clients price listings and evaluate acquisitions across the region.