Here is how to value a multifamily property: take its net operating income (NOI) and divide it by a market cap rate. That is the income approach, and it is how buyers, lenders and appraisers price apartment buildings of five units or more. Everything else, including price per unit and gross rent multiplier, is a quick check on that answer.
The method is simple. The hard part is the inputs: which income counts, which expenses are real, and which cap rate fits your building. This guide walks through the three approaches, the income approach step by step, a worked example with illustrative numbers, and the mistakes that make a building look worth more or less than it is.
What Are the Three Approaches Used to Value a Multifamily Property?
Appraisers use three approaches: income, sales comparison and cost. For apartment buildings, the income approach carries the most weight, and the other two are used to test it.
- Income approach. Estimates what a buyer will pay for the building's net income, using a cap rate. It is the main method for multifamily, because owners buy apartments for the cash flow.
- Sales comparison approach. Looks at recent sales of similar buildings and adjusts for differences in size, age, condition, location and rents. This is where price per unit and price per square foot come from.
- Cost approach. Estimates what it would cost to build the property new, less depreciation, plus the land. It is most useful for newer buildings and for checking whether buying beats building.
The approaches are linked. Freddie Mac's multifamily appraisal FAQs point out that the same sales used in the sales comparison approach are typically the basis for the cap rate in the income approach. If the comparable sales are weak, both answers are weak.
How to Value a Multifamily Property With the Income Approach
The income approach, also called direct capitalization, turns one year of income into a value. The formula is:
Value = NOI / cap rate
Work through it in four steps.
- Start with gross potential rent. This is the rent from every unit at its current or market rent, with the building 100% full. Use the rent roll, not the pro forma.
- Subtract vacancy and credit loss, then add other income. Other income includes laundry, parking, pet fees and similar items. The result is effective gross income.
- Subtract operating expenses. Include property taxes, insurance, payroll, repairs, utilities, management and the other costs of running the building. Do not include your loan payment, income taxes or major capital projects.
- Divide the NOI by the cap rate. Use a cap rate taken from recent sales of similar apartment buildings in the same market. Your own wish list is not a cap rate.
The expense line is where most valuations go wrong. Our guide to net operating income explains exactly what belongs in it. Leave something out and the value rises on paper while the building's real cash flow stays the same.
A Worked Example of Apartment Building Valuation
Here is an example with illustrative numbers only. Say you are looking at a 40-unit building where units rent for an average of $1,500 a month.
| Line | Annual amount |
|---|---|
| Gross potential rent (40 units x $1,500 x 12) | $720,000 |
| Vacancy and credit loss (7% in this example) | ($50,400) |
| Other income (about $50 a unit per month) | $24,000 |
| Effective gross income | $693,600 |
| Operating expenses (taxes, insurance, payroll, repairs, utilities, management) | ($290,000) |
| Replacement reserve (about $300 a unit) | ($12,000) |
| Net operating income | $391,600 |
Now apply a cap rate. If recent sales of similar buildings suggest 5.5%, the value is $391,600 divided by 0.055, or $7,120,000. That is $178,000 per unit.
Check it against the quick measures. The price is about 9.9 times gross potential rent. If the building has 36,000 rentable square feet, it works out to about $198 per square foot. Compare both with recent sales. If they sit far outside what similar buildings sold for, go back and find out why before you trust the income number.
If you want to run your own numbers, our cap rate calculator does the same math, so you can change the NOI and the cap rate and see the value move.
How Much Does the Cap Rate Change the Value?
A lot. The cap rate sits under the NOI in the formula, so a small change in it moves the value by a large amount. Using the same $391,600 NOI:
| Cap rate | Value | Per unit |
|---|---|---|
| 5.0% | $7,832,000 | $195,800 |
| 5.5% | $7,120,000 | $178,000 |
| 6.0% | $6,526,667 | $163,167 |
Half a point of cap rate moved the value by roughly $600,000 to $700,000 in this example. That is why the cap rate has to be supported by actual sales, not by what the seller hopes to hear. It is also why a building's value can change without any change in its operations when the market's cap rates move.
Gross Rent Multiplier and Price Per Unit as Quick Checks
Two shortcuts are worth knowing, as long as you treat them as checks and not as answers.
The gross rent multiplier is the price divided by yearly gross rent. It lets you compare similar buildings fast. It ignores expenses completely, so two buildings with the same GRM can have very different NOI.
Price per unit is the price divided by the number of units. Price per square foot is the price divided by building size. Freddie Mac's appraisal FAQs say most markets think in price per unit, and that an appraiser should mirror local practice. They also say value is value however it is measured, so if the per-unit and per-square-foot numbers tell different stories, the gap needs an explanation.
Why Price Per Unit Misleads on an Apartment Building
Price per unit treats every door the same. It does not see rents, expenses, condition or unit size.
Picture two 40-unit buildings that each sell at $178,000 per unit, or $7.12 million. Building A earns the $391,600 NOI from the example above, a 5.5% cap rate. Building B, say, earns only $330,000 because its rents are lower and its expenses are higher. That is a 4.6% cap rate on the same price. Same price per unit, very different building. (Illustrative numbers.)
Price per unit also misleads when:
- The unit mix is different. A building of studios and a building of three-bedrooms are not comparable on a per-door basis.
- The condition is different. A building that needs a roof and new plumbing is not worth the same per door as one that has them.
- The comparable sales are old. A per-unit number from a different rate environment says little about today's price.
Use price per unit to confirm the income value looks sensible next to local sales, never to set it.
How Lenders and Appraisers Adjust the Numbers
When a lender orders an appraisal, the appraiser rebuilds the income instead of taking the owner's word. Four adjustments come up again and again.
In-Place Versus Stabilized Income
In-place income is what the building earns now. Stabilized income is what it should earn once vacancy and rents settle. Freddie Mac's guidance on modeling rental income says that for a stabilized property the appraiser should model the existing rent roll plus vacant units at market rent, and not assume every unit rents at market. Buildings rarely reach 100% market rents, because leases start and end all year and some residents renew below market.
Normalizing the T12
The trailing 12 months of income and expenses is the starting point. Clean it up: remove one-time items, put in expenses the seller left out, and charge a management fee even if the owner runs the building. Our T12 analysis template shows how to lay it out so the adjustments are visible.
Expenses and Property Taxes
Freddie Mac's appraisal FAQs say expenses should be supported by expense comparables and by the property's own history, per unit and as a share of income. They also note that taxes may be reassessed and that the risk should be analyzed, not covered by an unsupported bump to the cap rate. Ask what your local assessor does after a sale.
Replacement Reserves
Reserves are a real cost of owning a building, even when they are not in the T12. The same FAQs say an appraiser should start from a property condition report when there is one, or base the estimate on specific market evidence. Ask whether a number you are shown is before or after reserves, because that changes the NOI by thousands of dollars.
How to Value an Apartment Complex in the Reno Market
The method does not change in Reno, Sparks or Carson City. The inputs do. Use sales of similar apartment buildings near you for the cap rate, local rents for the income, and local costs for the expenses. A cap rate from a different metro tells you little about a building here.
Before you make an offer, run through this short list:
- Rebuild NOI from the rent roll and the T12, not the offering memo.
- Test vacancy, expenses and reserves against what similar buildings carry.
- Pick a cap rate from recent local sales, and test the value at a range of cap rates.
- Check price per unit and gross rent multiplier against comparable sales.
- Note what you would have to change to reach a higher NOI, and what that would cost.
If you want an operator's view of the numbers, our team can review a rent roll and T12 and tell you what we would check.
