What is Net Operating Income in Real Estate and Why Does It Matter?

Net operating income (NOI) is one of the most important indicators of the profitability and performance of a real estate investment.

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What is Net Operating Income in Real Estate

It measures the amount of income that a property generates after deducting all operating expenses, such as property taxes, insurance, maintenance, utilities, and management fees.

NOI is different from cash flow, which also accounts for debt service (mortgage payments) and capital expenditures (major repairs or improvements).

NOI is also different from gross income, which is the total income from rents and other sources before any expenses are subtracted.

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How to Calculate NOI

How to Calculate NOI Infographic
How to Calculate NOI

To calculate NOI, you need to know two things: the gross income and the operating expenses of a property.

The formula is simple:

`NOI = Gross Income – Operating Expenses`

Gross income is the total income from rents and other sources, such as parking fees, laundry fees, vending machines, etc.

Operating expenses are the costs of running and maintaining the property, such as property taxes, insurance, maintenance, utilities, and management fees.

Operating expenses do not include debt service, capital expenditures, depreciation, or income taxes.

For example, suppose you own a rental property that generates $120,000 in gross income per year and has $60,000 in operating expenses per year.

Your NOI would be:

`NOI = $120,000 – $60,000 = $60,000`

Why NOI Matters

Why NOI Matters

This is the ratio of NOI to the amount of cash invested in the property. It shows the cash flow return on investment (CFROI) of a property.

A higher COCR means a higher CFROI and a more attractive investment.

A lower COCR means a lower CFROI and a less attractive investment.

The formula is:

`COCR = NOI / Cash Invested`

For example, if a property has an NOI of $60,000 and you invested $200,000 in cash as a down payment, its COCR would be:

`COCR = $60,000 / $200,000 = 0.3 or 30%`

How can I increase my NOI?

There are two main ways to increase your NOI: increase your gross income or decrease your operating expenses.

You can increase your gross income by raising rents, adding new sources of income, or improving occupancy rates.

You can decrease your operating expenses by reducing property taxes, negotiating lower insurance premiums, cutting maintenance costs, or finding cheaper utilities or management services.

What are some examples of operating expenses?

Operating expenses are the costs of running and maintaining a property.

They include property taxes, insurance, maintenance, utilities, and management fees.

Some examples of operating expenses are:

Property taxes

These are the taxes levied by the local government on the value of the property.

They vary depending on the location, type, and size of the property.

1.Insurance

This is the cost of protecting the property from risks such as fire, flood, theft, vandalism, liability, etc.

It depends on the coverage, deductible, and claims history of the property.

2.Maintenance

This is the cost of repairing and preserving the physical condition of the property.

It includes routine maintenance, such as landscaping, painting, cleaning, etc., as well as emergency repairs, such as fixing leaks, broken appliances, etc.

3.Utilities

This is the cost of providing essential services to the property, such as water, electricity, gas, sewer, trash, etc.

4.Management fees

This is the cost of hiring a professional property manager to handle the day-to-day operations of the property, such as collecting rents, screening tenants, handling complaints, etc.

It is usually a percentage of the gross income, ranging from 5% to 10%.

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