The “Net operating income (NOI)” is one of the critical indicators in real estate investing that helps investors understand if a property is a good investment. Real estate property owners can use net operating income to analyze the revenue that can potentially be realized from a specific deal.
The NOI helps investors make an informed decision on choosing the right property. Well-chosen assets offer excellent returns, predictable cash flow, tax advantages as well as diversification benefits – all of which help build wealth.
Calculating the Net Operating Income in real estate investing
NOI is calculated using a simple formula where the operating expenses of the property are subtracted from the total income generated.
To know the total revenue your property generates, add up the rental income as well as other revenue-generating factors in the prospective property. These factors can include laundry, parking, vending machines, as well as service fees.
The next step is to add up the operating costs of the property. Operating costs mean the costs associated with maintaining and running the property, such as utilities, janitorial, legal and insurance costs, supplies, repair costs, property taxes and property management fees.
For instance, if $10,000 is the total revenue generated from your property and operating expenses are $3,000, the net operating income is $7,000.
A useful metric
NOI is used in many formulas and calculations by multifamily investors:
Cap rate: A property’s potential rate of return.
NOI / Property Value x 100 = Cap Rate
ROI: Return on an investment property expressed as a percentage.
Annual NOI / Total Investment = ROI
Debt service coverage ratio (DSCR): Used by lenders to see if a property’s income covers its operating expenses and debt payments after calculating its NOI.
NOI / Total Debt Service = DSCR
Expenses are a major consideration
The only challenge while calculating the NOI lies in the fact that the calculation will depend on how the property is operated. For instance, if the total income is $4,000 while the operating expenses are $8000, the NOI, in this case, will be-$4,000. When expenses are more than the generated income, it results in net operating loss or NOL.
When calculating expenses, it is important to factor in all the costs, including the expenses related to advertising and marketing, which can vary based on the type of property. While utilities cost that is not passed on to the tenants should be included, everything from fixing damaged air conditioning, painting of property, to landscaping have to be included in repairs and maintenance-related expenses.
Hi, my name is Michael Avent. I founded The Multifamily Review in 2020. I’m a Commercial Agent at Northcap Multifamily located in Las Vegas, Nevada. My vision for The Multifamily Review is to be the most trusted resource for all Multifamily Investors and Industry Professionals. We strive to offer the best and most up to date content to our readers and are always open for suggestions. Make sure you sign up to join our newsletter to stay up to date on our latest blog, ebook, and more exclusive content that’s coming your way! The Multifamily Review team and I look forward to building a deeper relationship with you!
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