Net Operating Income (NOI) is an important real estate metric used to understand how much income a property produces after operating expenses are deducted. It is commonly used when analyzing rental and investment properties.
Understanding NOI can help you evaluate a property’s operating performance and calculate other metrics such as cap rate. In this guide, we’ll explain NOI in simple terms and calculate it using a rental property example.
What Is NOI in Real Estate?
NOI stands for Net Operating Income. It represents the income a property produces after normal operating expenses are subtracted from its effective operating income.
NOI focuses on the property’s operations. Mortgage principal and interest payments are generally not included as operating expenses when calculating NOI.
NOI Formula
NOI = Effective Gross Operating Income − Operating Expenses
Effective gross operating income can include rental income and other property income after accounting for vacancy and credit loss. Operating expenses are the normal costs of operating and maintaining the property.
How to Calculate NOI Step by Step
Step 1 — Calculate Scheduled Rental Income
Suppose a rental property generates $3,000 per month in scheduled rental income.
$3,000 × 12 = $36,000 scheduled annual rental income
Step 2 — Account for Vacancy
Suppose we use a 5% vacancy assumption. Five percent of $36,000 is $1,800, so estimated effective rental income would be $34,200 per year.
$36,000 × 5% = $1,800 estimated vacancy
$36,000 − $1,800 = $34,200 effective rental income
Step 3 — Calculate Operating Expenses
Next, add the normal expenses required to operate and maintain the rental property. These can include property taxes, insurance, maintenance, property management fees, HOA fees, landscaping, and owner-paid utilities.
Suppose the property’s total operating expenses are $10,536 per year.
Step 4 — Calculate Net Operating Income
Now subtract annual operating expenses from effective rental income.
NOI = Effective Rental Income − Operating Expenses
$34,200 − $10,536 = $23,664 annual NOI
Based on these assumptions, the property produces an estimated Net Operating Income of $23,664 per year.
Complete NOI Calculation Example
Scheduled Rental Income: $36,000/year
Estimated Vacancy (5%): −$1,800/year
Effective Rental Income: $34,200/year
Operating Expenses: −$10,536/year
Net Operating Income (NOI): $23,664/year
This is a simplified example. Actual property income, vacancy, and operating expenses can vary.
What Expenses Are Included in NOI?
Operating expenses used in an NOI calculation can include property taxes, property insurance, routine maintenance and repairs, property management fees, HOA fees, landscaping, and utilities paid by the property owner.
For U.S. rental properties, the IRS provides additional guidance on rental income and expenses in Publication 527.
What Is Not Included in NOI?
Mortgage principal and interest payments are generally not included as operating expenses when calculating NOI. Income taxes, depreciation, and major capital improvements are also generally treated separately from normal property operating expenses.
Because NOI is calculated before financing costs, two investors using different loans can still evaluate the same property’s operating income using the same basic NOI calculation.
Why Is NOI Important in Real Estate?
NOI helps show how much income a property generates from its operations before financing. It is also an important input for other real estate calculations, including cap rate. For example, cap rate compares a property’s annual NOI with its property value.
NOI vs Cash Flow: What’s the Difference?
NOI and cash flow are related, but they are not the same. NOI measures property income after operating expenses, while cash flow can also account for financing costs such as mortgage payments.
NOI = Effective Property Income − Operating Expenses
Cash Flow = NOI − Financing Costs
For example, if a property has $23,664 in annual NOI and $18,000 in annual mortgage payments, simplified annual cash flow would be $5,664.
How Is NOI Used to Calculate Cap Rate?
NOI is an important part of the cap rate calculation. Cap rate compares a property’s annual NOI with its property value.
Cap Rate = (Annual NOI ÷ Property Value) × 100
For example, $23,664 ÷ $300,000 × 100 = 7.888% ≈ 7.89%
Calculate Your Property’s NOI
Instead of calculating everything manually, you can use our free NOI Calculator to estimate effective rental income, operating expenses, and Net Operating Income.
Frequently Asked Questions About NOI
Is mortgage payment included in NOI?
Generally, no. Mortgage principal and interest are financing costs rather than property operating expenses, so they are generally excluded from NOI.
Is property tax included in NOI?
Property taxes are generally treated as an operating expense and therefore reduce NOI.
Is insurance included in NOI?
Property insurance is generally included as an operating expense when calculating NOI.
Is vacancy included when calculating NOI?
Vacancy is not usually listed as an operating expense. Instead, estimated vacancy and credit loss can reduce potential rental income when calculating effective gross operating income before operating expenses are deducted.
Is NOI the same as profit?
No. NOI measures income from property operations before financing costs, income taxes, depreciation, and certain other costs. An investor’s final profit can therefore be different from NOI.
Can NOI be negative?
Yes. NOI can be negative if operating expenses are greater than the property’s effective operating income.
Common NOI Calculation Mistakes
Common mistakes include using scheduled rent without considering vacancy, forgetting operating expenses, including mortgage payments as operating expenses, and using unrealistic estimates for repairs or property management.
Related Real Estate Calculators
NOI Calculator
Cap Rate Calculator
Rental Cash Flow Calculator
Rental Property ROI Calculator
Final Thoughts
Net Operating Income is one of the basic numbers used to analyze income-producing real estate. Start with the property’s effective operating income, subtract normal operating expenses, and the result is NOI. However, NOI should not be used alone when evaluating a property. Cash flow, cap rate, financing, property condition, and other factors can also matter.
Important Note: This guide is for general educational purposes only. Examples are simplified and actual property income, expenses, taxes, vacancy, and other costs can vary. This is not financial, investment, tax, or legal advice.