Does apartment with 12-15 units have better cap rate than 4-7 units on general

Question

I am owning one six units apartment and one seven units apartment in Bay Area and thinking about the next move.

By examining several listings, I found out that apartments with 12-15 units on average has better cap rate than 4-7 units in Bay Area. For example, When 4-7 units aparment has 5~5.5% cap rate, 12-15 units apartment in the same location may have 5.5~6% cap rate.

Question:

1. Does apartment with 12-15 units have higher chance on better cap rate than 4-7 units on general?

2. If this observation is true, does it because less buyer for 12-15 units apartment than 4-7 units apartment?

Aristotle Kumpis · Answer

Right now, yes 5+ units are showing better returns than 2-4 units. It's because right now, commercial owners are struggling a lot. They have loans that have adjusted from 2021-2022. Insurance has gone way up and rents have softened. So in most markets, going from a 4-plex to a 10 unit will yield a higher cap. My guess is that for the next 12-18 months, it's a great time to acquire a 5+ commercial apartment property.

Andrew Severino · Answer

@Stacy Conkey is absolutely correct when she said

"Your comparison range crosses an important line. Four units and under is residential, valued on comparable sales, same as single-family homes. Five units and above is commercial, valued on net operating income divided by the market cap rate. So if you're pulling cap rates on 4-unit listings and comparing them to 12-unit listings, you're mixing two different valuation methodologies."

As I read the replies up to her post I was surprised nobody brought up this point. And there is a lot more to it the correct distinctions @Stacy Conkey points out. Cap rate measures the rate of return before debt service. Cap rate is calculated on the net operating income, and interest rates do affect cap rates because values are heavily influenced by borrowing rates that are prevalent in the market at any given time, although not all buyers use debt. When we look at financing available on four units and under (residential as Stacy pointed out), 30 year fixed rate mortgages are available on the properties, and that longer term amortization lowers monthly payments which allows for buyers to afford to pay more, and often an owner occupant will buy a 1-4 unit property with an FHA loan and investors also have access to conventional Fannie Mae products that are fixed for 30 years with no balloon payments, at least when they have less than 4 mortgages in their portfolio. The moment you move to a 5 unit property, the 30 year ams vanish along with 3.5-10% downpayment options, sometimes investors cannot get amortizations longer than 15-20 years. This restricts cash flow significantly leading to lower cap rates. Interestingly, when you get up to larger complexes usually at least around 40-50 units and above, longer amortizations start to become available again not just through Fanni Mae products but also Life Insurance like to lend on apartment complexes. I had a great loan with a life insurance company on a complex for 10 years (it ballooned after 10 years) at a very attractive rate and I think it was a 25 year amortization so those players create a lot of competition among lenders making financing easier to come by. But that 5-15 units profile has less buyers as users here have pointed out AND the financing options restrict cash flows compared to 1-4 unit properties. So you will see a higher cap rate on the 5-15 unit properties (less expensive) than the 1-4 unit properties.

I will however point out that 5-15 unit properties are rare in my markets and I very enjoyed owning a 6 unit property for 22 years that treated very well. There are economies of scales that show up a little bit with more doors at one location compared duplexes and single family properties. Also vacancy risk is less because 2 vacancies on a 6 unit is 66% occupancy where one vacant on a duplex is 50% occupancy so there are many things to consider. But to the cap rate that started this thread, I would expect lower cap rates on 4-7 unit properties than 12-15 unit properties in most cases, and I would think it wiser to modify the grouping to 1-4 unit properties vs. 5-15 unit properties.

Stacy Conkey · Answer

Your observation is correct, and it's worth understanding the full picture of why.

Yes, as a general trend, 12-15 unit properties will carry higher cap rates than 4-7 unit properties in the same market. The half-point spread you're seeing in Bay Area is consistent with what I'd expect there. You're reading it right.

But before I get into the why, let me flag one thing. Your comparison range crosses an important line. Four units and under is residential, valued on comparable sales, same as single-family homes. Five units and above is commercial, valued on net operating income divided by the market cap rate. So if you're pulling cap rates on 4-unit listings and comparing them to 12-unit listings, you're mixing two different valuation methodologies. The cap rate you're back-calculating from a 4-unit listing price isn't the same animal as the cap rate on a 12-unit that was actually priced on NOI. Keep that in mind as you're doing your analysis. Within the 5+ unit range, your observation absolutely holds.

Now to your second question: yes, the buyer pool is a real factor. But it's not the only factor.

When you move from 5-7 units to 12-15 units in Bay Area, you're looking at a significantly higher price point. Bigger down payment, higher reserves, and a borrower who can qualify commercially for a larger loan with enough of a track record to satisfy a commercial lender. A lot of investors who can get into a 6-unit simply cannot get into a 12-unit. The pool shrinks.

Here's the other piece. Institutional buyers, the larger operators and bigger private equity groups, they're not targeting 12-15 unit deals. The operational overhead to acquire and manage 15 units is almost identical to acquiring and managing 50 or 100 units. So why bother with the smaller deal? The big players go bigger. And most smaller individual investors can't quite reach a 12-15 unit yet. That leaves you with a property that's too large for a lot of individual buyers and too small for the institutions. Nobody's competing hard for it. Less competition means sellers have to price more attractively, which shows up as a better cap rate for buyers.

Management complexity is also a factor. At 12-15 units, most buyers feel they need professional property management, and that added layer of cost and operational complexity creates hesitation. Fewer buyers willing to step into it.

Put all three together...smaller buyer pool, no institutional interest, management complexity...and the seller has fewer options. That's why the cap rate is a little better there.

One thing I'd want you to watch: cap rate is the starting point, not the conclusion. A 12-15 unit showing a better cap rate could mean genuine market opportunity. It could also mean deferred maintenance baked into the price, shaky income, or softer rent trends in that specific submarket. Make sure you're looking at the quality and durability of the income, not just the number on the listing.

I hope that helps.

Bradley Buxton · Answer

@Zhenyang Jin

Cap rates can vary widely, even between properties in the same neighborhood—especially in older areas. I recently sold a building where none of the units had been remodeled. The building next door had the exact same layout, but the units had mini-splits and in-unit washer/dryers. Same location, very different property quality and cash flow and likely lower maintenance. I look at cap rate as a high-level comparison of different assets.
If one property produces $5,000/month in cash flow at a 4% cap rate in an A+ market, would you automatically choose a 10% cap property in a C- market that also produces $5,000/month?
Cap rate is a little like body weight versus fitness. Two people can both weigh 200 pounds, but an NFL player and someone sitting at a desk 60 hours a week are probably in very different fitness.
Cap rate matters for a basic comparison, but so do location, condition, tenant quality, future capital expenses, appreciation potential, and risk.

Joseph Zanazan · Answer

From a scalability point of view, you would probably have to get up to 50+ units to start seeing standard improvement in ROI. I don't think a 6 unit vs a 12 unit is that big a of a difference based purely on the scalability. I would say the cost per unit for land, architectural and engineering expenses, property amenities , property management expenses etc will start seeing improvement the more units you secure in the development but only will really start mattering after a few dozen of them.

I think everyone kind of expressed a similar sentiment here. It's really just based on the level of involvement you want to have. Less hands-on VS. very hands-on will ultimately help contribute to the cap rate, which will then in turn dictate what's suitable for your investor appetite. Properties with higher cap rates generally tend to be needy and and more costly to maintain. Properties that are low maintenance usually are more expensive so they cost more to produce a profitable rate of return and that's why they usually have a lower cap rate.

One thing is for certain though, a higher cap rate doesn't AUTOMATICALLY mean a better deal. Just remember that the seller had to offer it at that higher cap rate because there must be something wrong with the property (more hands on). Offering it at a higher CAP RATE means the seller is willing to TAKE LESS for sale. This is to get a buyer in through the door as an incentive. If the investment is top tier, you don't have to offer as high of a return in order to get it sold so you demand a higher premium which in return creates a lower CAP RATE (but a safer overall investment, less hands on)

Vijay Friedman · Answer

@Zhenyang JinI've noticed similar trends in some markets. Larger properties often trade at different cap rates because the buyer pool becomes more specialized and they're valued more on income than comparable sales. I'd also compare operating expenses, rent growth potential, and management efficiency—not just the headline cap rate—before deciding whether moving up in size makes sense.

G. Brian Davis · Answer

As the properties get larger, the buyer pool usually gets smaller. There tend to be a lot more investors looking at a 4-plex than a 12-15 unit apartment building, so it wouldn't surprise me if that leads to slightly higher cap rates. I still wouldn't buy it based on cap rate alone, though. I'd want to understand why it's trading at a higher cap rate. Sometimes it's a great opportunity. Other times it's because the property has challenges that aren't obvious at first glance. I'd also compare them on a price-per-unit basis and make sure the higher cap rate isn't hiding a bigger issue.

Zhenyang Jin · Answer

Thanks for the great suggestion.

Alfath Ahmed · Answer

You should look into apartment complex in the midwest. They average between 7-8 and between 10-12 cap in suburbs. You can get an operator and tons of inventory.

Does apartment with 12-15 units have better cap rate than 4-7 units on general

Does apartment with 12-15 units have better cap rate than 4-7 units on general

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