Net Operating Income  -  NOI             

 
Net Operating Income ( NOI ) is equal to a properties yearly gross income less operating expenses.  Gross income includes both rental income and other income such as parking fees, laundry and vending receipts, etc.  All income associated with a property. 

Operating expenses are costs incurred with the operation and            maintenance of a property.  They include repairs and maintenance, insurance, management fees, utilities, supplies, property taxes, etc.  The following are not operating expenses: principal and interest, capital expenditures, depreciation, income taxes, and amortization of loan points. 

Net operating income is calculated like this.  
 

Income           

   Gross Rents Possible                                                100,000
   Other Income                                                                  3,000
   Potential Gross Income                                             103,000
   Less vacancy Amount                                                   2,000
   Effective Gross Income                                             101,000
   Less Operating Expenses                                           31,000
   Net Operating Income                                                 70,000
 

    Net operating income or NOI is used in two very important real estate ratios.  It is an essential ingredient in the Capitalization Rate (Cap Rate) calculation that is used to estimate the value of income producing properties.  Lets assume we have a market capitalization rate of 10 for the type of property we are considering purchasing.  A market cap rate is calculated by evaluating the financial data from current sales of similar income producing properties in a given market place.  We are evaluating
a similar income property that is currently for sale with a net operating income of $50,000.  We would estimate the value of this property like this.


                                                Net Operating Income         50,000


              Estimated Value  =  -------------------------------   =  --------------   =  500,000


                                                   Capitalization Rate                .10


              Another important ratio that is used to evaluate income producing properties is
              the Debt Coverage Ratio or DCR.  The NOI is a key ingredient in this important ratio

              also.  Lenders and investors use the debt coverage ratio to measure a property's

              ability to pay it's operating expenses and mortgage payments.  A debt coverage


              ratio of 1 is breakeven.  Most lenders require a minimum of 1.1 to 1.3 to be


              considered for a commercial loan.  From a bank's perspective and an investor's

              perspective, the larger the debt coverage ratio, the better.  Debt coverage ratio is

 

              calculated like this.

 

 

 

                                                         Net Operating Income           50,000

 

              Debt Coverage Ratio  =   ------------------------------    =    ----------   =  1.25

 

                                                                Debt Service                   40,000

 

 

 

              Debt service is the total of all interest and principal paid in a given year.  It is

 

              equal to the mortgage payment times 12 or the mortgage payments times 12 if

 

              you have multiple loans on a property.

 

 

 

              The Net Operating Income is an important ingredient in several real estate

 

              ratios which include the Capitalization Rate, Net Income Multiplier and the Debt

 

              Service Coverage Ratio.  It is also an essential part of an income properties Income

 

              Statement and Cash Flow Statement.  It is therefore important to understand how

 

              the Net Operating Income is calculated.Type your paragraph here.

 Tien and Jim 

Your Real Estate Partners