Net Operating Income: The Core Metric for Rental Property Success

Answer

Net Operating Income (NOI) stands at the heart of commercial and residential investment analysis. It represents a property’s income after accounting for all operating expenses—before debt service and taxes—helping investors gauge true cash flow and value.

To calculate NOI, apply this basic formula:

• Gross Rental Income (all rent and ancillary income)
  – Vacancy & Credit Loss (typically 5–10% of gross income)
• = Effective Gross Income
  – Operating Expenses (property taxes, insurance, maintenance, management fees, utilities, repairs, etc.)
• = Net Operating Income

For example, a small apartment building might generate $120,000 in rental income, incur 8% vacancy loss ($9,600), and run $40,000 in operating costs. Its NOI would be:

• $120,000 – $9,600 – $40,000 = $70,400

Why NOI matters:

• Valuation & Cap Rate: Investors divide NOI by the market cap rate (e.g., 6%) to estimate property value. A $70,400 NOI at 6% implies a value near $1.17 million.
• Loan Underwriting: Lenders assess NOI to determine debt service coverage ratio (DSCR), ensuring the property can cover mortgage payments.
• Performance Benchmark: Tracking NOI over time reveals operational efficiency, highlights expense overruns, and guides rent adjustments.

Keep in mind:

• NOI excludes mortgage interest, principal, depreciation and income taxes.
• Expense categories and vacancy assumptions vary by market and property type.
• It’s advisable to confirm underwriting standards with your lender and consult a licensed accountant for accurate financial projections.

By focusing on NOI, investors gain a clear snapshot of a property’s earning potential—crucial for pricing, underwriting, and long‑term strategy. Before making financial decisions, buyers are recommended to verify all inputs and consult a real estate financial advisor or accountant.