Metrics & Formulas6 min read

What Is NOI (Net Operating Income) in Real Estate?

Net Operating Income is the foundation of every property valuation. Learn the NOI formula, what to include and exclude, and why lenders and investors rely on it.

Net Operating Income (NOI) is the starting point for almost every real estate valuation. It tells you how much cash a property generates from operations each year, before financing costs. Lenders use it to approve loans, appraisers use it to set values, and investors use it to calculate cap rate.

The NOI Formula

NOI = Effective Gross Income − Operating Expenses

Where:

Effective Gross Income (EGI) = Gross rent − Vacancy & credit losses + Other income (laundry, parking, etc.)
Operating Expenses = Taxes + Insurance + Management + Maintenance + CapEx + Utilities (landlord-paid) + HOA

NOI does not include mortgage payments (principal or interest), depreciation, or income tax. Those come later. NOI is a pre-financing, pre-tax number.

What to Include (and Exclude) from Operating Expenses

Include:

Property taxes
Landlord insurance
Property management fees
Routine maintenance and repairs
Capital expenditure reserve (roof, HVAC, etc.)

Note: vacancy is subtracted from gross rent to produce EGI (see the formula above), so it is already reflected before you get to operating expenses.

Do not include:

Mortgage principal & interest
Depreciation
Income taxes
Capital improvements (one-time renovations that add value)

Including mortgage payments would mix the property's operating performance with your personal financing terms. NOI is designed to be a financing-agnostic measure.

How NOI Is Used in Valuation

Divide NOI by the market cap rate and you get the property's market value:

Property Value = NOI ÷ Cap Rate

If comparable properties trade at a 6.5% cap rate and your property generates $22,000 NOI, the implied value is $22,000 ÷ 0.065 = $338,462. This is the income approach to appraisal, and it's how commercial real estate is primarily valued.

Every time you increase NOI (higher rents, lower vacancy, reduced expenses), you directly increase the property's value. This is the core principle behind value-add investing.

NOI vs. Cash Flow: What's the Difference?

NOI stops before debt service. Cash flow is what remains after you pay the mortgage: NOI − Annual Debt Service = Cash Flow. Two identical properties with the same NOI can have very different cash flows depending on how they're financed. That's why NOI is the right metric for comparing properties, and cash flow is the right metric for evaluating your personal return.

Key Takeaways

1NOI = Effective Gross Income − Operating Expenses (before mortgage, before tax).
2Mortgage payments are NOT included in NOI. It is a financing-agnostic metric.
3NOI powers cap rate calculation: Cap Rate = NOI ÷ Property Value.
4Increasing NOI directly increases a property's value. This is the engine of value-add investing.

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