What is Net Operating Income (NOI)?
Net Operating Income (NOI) is the total income a property generates after subtracting all operating expenses, but before deducting mortgage payments, taxes on income, or depreciation. It is one of the most widely used metrics in commercial real estate to assess a property's profitability. See also our Cost of Living Calculator.
What is the NOI formula?
The formula is: NOI = Effective Gross Income − Total Operating Expenses. Effective Gross Income equals Gross Rental Income plus Other Income, minus Vacancy & Credit Loss. Operating expenses include taxes, insurance, repairs, management fees, utilities, and similar recurring costs.
Why is Net Operating Income important in real estate?
NOI gives investors a clear view of a property's earning power independent of financing. Lenders use it to determine how much debt a property can support, and buyers use it to compare investment opportunities on a level playing field. A higher NOI typically signals a healthier, more valuable asset.
What costs are NOT included in NOI?
NOI excludes mortgage principal and interest payments, income taxes, depreciation, and capital expenditures (CapEx) like roof replacements or major renovations. These are considered below-the-line items and are intentionally excluded so NOI reflects the property's operating performance alone.
How does NOI relate to cap rate?
The capitalization rate (cap rate) is calculated as NOI divided by the property's current market value, expressed as a percentage. It tells you the unlevered return you'd earn on a property. A higher cap rate means a higher return relative to price, though it can also signal higher risk.
How can I improve a property's NOI?
You can increase NOI by raising rental rates, reducing vacancy through better tenant retention, adding revenue streams like parking or storage fees, and cutting operating costs through energy efficiency or renegotiating service contracts. Even small improvements on both sides of the equation compound meaningfully.
What are common mistakes when calculating NOI?
Common pitfalls include forgetting to account for vacancy and credit loss, omitting certain expense categories like management fees or reserves, and mixing up operating expenses with capital expenditures. Overstating income or understating expenses will inflate NOI and lead to a poor investment decision.
How does NOI impact loan qualification for commercial properties?
Lenders use NOI to calculate the Debt Service Coverage Ratio (DSCR), which is NOI divided by annual debt service (mortgage payments). Most commercial lenders require a DSCR of at least 1.20 to 1.25, meaning the property must generate 20–25% more income than its debt obligations to qualify for a loan.