Using the widely established net operating income formula, you may determine your real estate investment’s net operating income (NOI). Sometimes NOI differs depending on who computes it. Most investors, for example, separate rental revenue and other income, but they are frequently merged. Whatever the case, the widely recognized NOI formula adds your prospective rental revenue with any other property-related income and excludes vacancy losses and total operating expenditures.
What is Net Operating Income?
Net operating income is used to determine the profitability of real estate investment properties. Finding a property’s net operating income is calculating how much it generates after deducting all of its expenditures, accounting for the property’s vacant periods and maintenance and operational charges. On the other hand, the NOI of a property might change over time depending on the variation of the property’s revenue and costs.
How to Calculate Net Operating Income (NOI)?
Formula:
NOI = Rental Income + Other Income – Vacancy Loss – Operating Income
A property’s net operating income is the gross income, less the operational expenditures. NOI in real estate is relatively easy to calculate since it does not include capital expenditures, principal and interest payments, depreciation, or amortization. To obtain your net operating income, add your rental and other income together, then subtract vacancies in the property, losses, and operating expenditures.
1. Potential Rental Income
When income is the motivation for the purchase, the lender will evaluate the property primarily on the revenue it will create. Potential rental income (PRI) is the total rent due under each residential or business lease, assuming the property is fully occupied. If the property is not completely occupied, the PRI is calculated using a rental market study based on the leases and conditions of similar properties.
2. Vacancy Losses on the Income
Vacancy losses are income losses caused by renters leaving the property or renters failing to make lease payments. The vacancies in a property can be determined based on current lease expirations. Market-driven numbers based on similar property vacancies can also calculate a property’s NOI. To calculate vacancy losses, multiply the rent of the particular vacant unit by the number of months it has been vacant. For example, if other identical apartments rent for $2,000 each month and the vacant unit remains unoccupied for three months, multiply $2,000 by three to obtain $6,000, and you will find out the yearly vacant unit’s loss of property.
3. Other Income
A property potentially creates money in various ways. Real estate investors must consider all potential revenues in their calculations, including monthly rent. Other revenues include facility rental earnings, vending machine proceeds, laundry service income, the money produced by parking fees, revenue from billboard/signage, and other related service revenues you receive. These are a few examples of other incomes, but they are not limited to these.
4. Operating Expenses
Expenses account for one-half of the key factors in calculating NOI. It is necessary to record all of the property’s running expenditures. Marketing and advertising costs may vary depending on the type of property. But, it is critical to consider all operational expenditures when calculating net operating income (NOI). Total operating expenses include all costs of managing and maintaining a rental property. Simply sum up all the operational expenditures, such as repair and maintenance and management fees, to calculate the total operating expenses.
Expenses Not Included in NOI
It is vital to remember that net operating income does not include debt service, depreciation, leasing commissions, tenant upgrades, wear and tear repairs, income taxes, and mortgage interest charges. NOI is particular to the property and does not account for additional expenditures relevant to the investor/borrower.
Final Words
Net operating income is an essential indicator that investors can use to determine the profitability of a property. In the real estate industry, NOI may determine whether a property is a smart or risky investment.
