Net Operating Income (NOI) in Real Estate: Definition, Formula & How to Calculate It

If you’re in real estate investing, understanding a property’s net operating income (NOI) is crucial to evaluating profitability. It helps investors determine whether a property is making money and how efficiently it operates.

In this guide, we’ll cover:

• What NOI is and why it matters
• How to calculate NOI using a simple formula
• What expenses are included and excluded
• How NOI impacts property valuation and investment decisions

By the end, you’ll know how to calculate and use NOI to make smarter real estate investments.

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Key Takeaways

NOI measures profitability and calculates a property’s net operating income after operating expenses, excluding mortgage payments and taxes.

Key components of NOI include investment property loan rental income, other income sources like parking and laundry, and operating expenses while excluding capital expenditures and depreciation.

NOI helps determine property value by using the short term rental market Cap Rate formula to estimate market value and investment potential.

Most mortgage companies use NOI for loan application approvals as it plays a crucial role in Debt-Service Coverage Ratio (DSCR) mortgage calculations, helping lenders assess a property’s ability to cover debt obligations.

A higher NOI signals a stronger investment as it indicates enough rental income, while a negative NOI suggests high expenses or poor rental income performance.

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What Is Net Operating Income (NOI)?

NOI is the income a property generates after covering all operating expenses, excluding mortgage payments and taxes. It helps seasoned real estate investors evaluate a property’s profitability and property's income potential while allowing mortgage companies to assess risk before approving financing.

A strong NOI indicates a well-performing property with healthy revenue, while a low NOI signals high costs and poor short-term rental performance.

Key Components of NOI

1. Total Rental Income

The primary source of NOI is rental income from tenants, which includes payments for apartments, office spaces, commercial units and multiple properties.

2. Other Income Sources

Many properties generate additional revenue from:

Parking fees
Laundry facilities
Vending machines
Pet fees
Late payment fees

3. Vacancy & Credit Losses

Vacant units and non-paying tenants reduce total rental income. NOI accounts for lost revenue due to vacancies and tenant defaults, which helps Airbnb investors get a realistic picture of a property’s earnings.

4. Operating Expenses

These are the day-to-day costs of running a property, including:

• Property management company fees
• Maintenance and repairs
• Utilities
• Insurance premiums
• Property taxes

What Is NOT Included in NOI?

Why Is NOI Important for Real Estate Investors?

NOI is an important metric in real estate investment decisions because it provides a clear picture of a property's profitability and primary residence's financial performance. 

1. Helps in Property Valuation

Real estate Investors use NOI to estimate a property's worth based on its income potential. A positive NOI generally indicates a more valuable investment.

2. Evaluates Investment Performance

Since NOI focuses only on operational business income and expenses, it allows investors to compare long term rentals without being influenced by mortgage payments or financing terms.

3. Determines Loan Eligibility

DSCR loan lenders assess a property's net operating income to calculate its Debt-Service Coverage Ratio (DSCR), which determines whether a property generates enough income to cover loan payments.

DSCR loans typically prefer a minimum credit score and a DSCR above 1.25x, which indicates that the property generates at least 25% more income than its debt obligations.

4. Influences Cash Flow Projections

NOI is a baseline for estimating net cash reserves and helps investors predict how much money they’ll actually make from a property after expenses.

5. Guides Property Management Decisions

If NOI is declining, it may indicate:

• Rising expenses 
• Decreasing rental income 
• The need for rent adjustments or cost-cutting measures

How to Calculate Net Operating Income (NOI) + Example

The NOI formula is: 

Step-by-Step Guide to Calculating NOI

• Calculate Total Rental Income: The total rent collected from Airbnb investors.

• Add Other Income: Any additional revenue from parking fees, laundry, vending machines, etc.

• Subtract Vacancy Losses: Income lost due to unoccupied units or non-paying tenants.

• Deduct Operating Expenses: Includes property management company fees, maintenance, utilities, insurance, and property taxes.

Real-World Example To Calculate NOI

Let’s say you own a 10-unit apartment building, where each unit rents for a $1,500 monthly payment. You also earn additional income from parking fees and laundry machines.

Here’s how to calculate NOI:

1. Determine Total Income

• Rental Income: $1,500 × 10 units × 12 months = $180,000
• Other Income (Parking & Laundry): $5,000
• Total Potential Income: $185,000

2. Subtract Vacancy Losses

• 1 unit was vacant for 3 months: $1,500 × 3 = $4,500
• Adjusted Income After Vacancy: $185,000 - $4,500 = $180,500

3. Subtract Operating Expenses

4. Calculate NOI

NOI = 180,500 − 38,000 = 142,500

Final NOI: $142,500 per year

What Is a Good Net Operating Income (NOI) Percentage for a Rental Property?

A good NOI percentage depends on location, short-term rental market trends, and property type. Investors compare NOI to a property’s value and the local rental market to determine if it meets the strict lending criteria.

How NOI Relates to Property Value & the Rental Market?

NOI is analyzed using the Cap Rate formula, which will be covered later on. 

• Higher cap rates suggest higher returns but often more risk.
• Lower cap rates indicate lower risk but smaller returns.
• NOI should be compared to similar properties in the same market to evaluate competitiveness.

NOI Ranges for Different Property Types

Does NOI Include Real Estate Taxes?

Yes, property taxes are included in NOI because they are recurring operating expenses necessary to maintain the property. However, income taxes are NOT included because they depend on the owner's financial situation and tax structure.

Why This Matters When Comparing Properties

• Property taxes vary by location: A property in Texas will have a different NOI than one in Florida, even if rental income is similar.
• Income taxes are investor-specific: NOI excludes income taxes because they depend on ownership structure.
• Accurate property comparisons: Since property taxes affect NOI directly, investors must account for them when comparing potential investments across different markets.

NOI provides a consistent and standardized way to evaluate a property’s financial performance.

What Is Cap Rate & How Does NOI Affect It?

The Capitalization Rate (Cap Rate) is an important metric in real estate investing that measures a property’s potential return based on its NOI and market value. 

Investors use Cap Rates to:

• Compare different investment properties.
• Assess potential risk vs. reward in a market.
• Determine whether a property is overpriced or undervalued.

The Cap Rate formula is:

• A higher cap rate typically means higher potential returns but also higher risk.
• A lower cap rate suggests a more stable investment but with a lower yield.

Real-World Example

Say an investor is analyzing a multifamily rental property with:

• NOI: $120,000 per year
• Property Value: $2,000,000

Using the cap rate formula:

Cap Rate = 120,000 / 2,000,000 = 6%

What this means is: 

• If similar investment properties in the area have a cap rate of 6%, this property is fairly valued.
• If the market average is 8%, the property may be overpriced.

Using NOI to Estimate Property Value

Investors often use NOI to determine a property’s market value using the Cap Rate Formula:

This method is widely used in commercial real estate and rental property valuation because it provides a quick way to estimate whether a property is fairly priced, undervalued, or overpriced.

Real-World Example

An investor is considering purchasing an apartment complex that generates:

• NOI: $150,000 per year
• Local market cap rate: 7% (or 0.07)

Using the formula:

Property Value = 150,000 / 0.07 = 2,142,857

This means: 

• If the seller is asking $2.3 million, the property may be overpriced based on market trends.
• If the asking price is $2 million or lower, it could be a good deal with strong income potential.

How NOI Compares to Other Profitability Metrics

NOI vs. Gross Operating Income (GOI)

What Is Gross Operating Income (GOI)?

Gross Operating Income (GOI) represents the total revenue a property generates before deducting any operating expenses. It accounts for potential property rental income, other income sources, and vacancy losses but does NOT factor in operating costs.

Key Differences Between NOI & GOI

FAQs

Q. Does NOI include mortgage payments?

No, NOI only includes operating expenses. Mortgage payments are not factored into NOI calculations.

Q. How does NOI affect property valuation?

A higher NOI usually results in a higher property value, as investors and lenders use NOI to calculate cap rates and assess a property’s worth.

Q. Can NOI be negative?

Yes. If a property’s operating expenses exceed its income, NOI can be negative, signaling poor cash flow generated or high costs.

Q. What’s the difference between NOI and EBITDA?

EBITDA (Earnings Before Interest, Taxes, Depreciation, and Amortization) is used in corporate finance, while NOI is specific to real estate and focuses only on property income and expenses.

Conclusion

Net Operating Income (NOI) helps investors determine profitability, assess risk, and confidently compare investment opportunities. 

Whether you're looking to buy, sell, or finance a property, understanding NOI ensures you make informed decisions.

Are you looking for the best financing options? Contact Truss Financial Group today to get started with a DSCR loan program, hard money loans, or cash out refinancing.