What Is NOI? How to Calculate Net Operating Income on a Rental Property

Net operating income (NOI) is the money a rental property earns in a year after vacancy and operating expenses, before mortgage payments and income tax. It measures how well the building itself performs as a business, separate from how the owner financed it or what tax bracket they are in.

That separation is what makes NOI so useful. Two investors can buy the same building, one with cash and one with a 75% mortgage, and the building’s NOI is identical for both. Their cash flow is very different, but the property’s ability to produce income is the same.

Almost every serious rental metric starts from NOI. Cap rate is NOI divided by price. DSCR is NOI divided by mortgage payments. Appraisers and brokers value apartment buildings by dividing NOI by a market cap rate. If your NOI is wrong, every number built on it is wrong too.

To calculate NOI, start with the rent every unit could earn in a year, subtract vacancy, add other income, then subtract operating expenses.

NOI = Gross potential rent − Vacancy and bad debt + Other income − Operating expenses

1. Gross potential rent (GPR): every unit at its current or market rent for 12 months, as if it were always occupied.
2. Vacancy and bad debt: an allowance for empty months and unpaid rent, usually a percentage of GPR.
3. Other income: parking, laundry, storage lockers and similar recurring income. GPR minus vacancy plus other income is effective gross income (EGI).
4. Operating expenses: the recurring costs of running the building, covered in the next section.

Work in annual figures. Monthly NOI is fine for a quick check, but property taxes, insurance and repairs are billed unevenly through the year, and lenders and appraisers always use 12 months.

Operating expenses are the recurring costs of keeping a building rented and running, paid no matter how the property is financed. For a Canadian multiplex, the usual list is:

• Property taxes, at the amount the new owner will pay, not the seller’s.
• Insurance for the building and liability.
• Utilities the owner pays: common-area hydro, water and sewer, and heat if included in rent.
• Repairs and maintenance: routine fixes, unit turnovers, pest control.
• Property management, even if you manage the building yourself.
• Snow removal, landscaping, cleaning and garbage collection.
• Administration: accounting, legal, advertising, licences and permits.

Many investors and lenders also deduct a replacement reserve: an annual amount set aside for roofs, boilers and appliances that wear out over time. It is not a bill you pay each year, but leaving it out flatters NOI for older buildings.

NOI does not deduct mortgage payments, income tax, depreciation or one-time capital improvements. Each of these depends on the owner rather than the building, so including them would make NOI different for every buyer.

• Mortgage principal and interest are deducted after NOI to get cash flow.
• Capital cost allowance (Canada’s tax depreciation) is a tax calculation, not a cash cost.
• Capital expenditures such as a new roof, a full unit renovation or new windows are investments, not operating costs. The CRA draws the same line between current and capital expenses for tax purposes.
• Income tax depends on the owner’s situation and structure.

A common mistake is subtracting the mortgage and calling the result NOI. That figure is cash flow, a different and smaller number. See how to calculate rental property cash flow for the steps after NOI.

Here is an 8-unit building listed at $1,950,000, with every unit renting for $1,750 a month and a 3% vacancy allowance:

Operating expenses total $55,920, or 34.3% of effective gross income. The NOI of $107,040 gives a cap rate of 5.49% on the asking price. With a 75% mortgage at 4.9% over 25 years ($101,075 a year), cash flow is only $5,965 and the debt service coverage ratio is 1.06.

Apartment buildings are valued by dividing NOI by a market cap rate, so every dollar of NOI is worth many dollars of value. In a market where similar buildings trade at a 5.5% cap rate, the 8-unit building’s $107,040 of NOI supports a value of about $1,946,000.

Value = NOI ÷ Market cap rate

At 5.5%, each extra dollar of annual NOI adds about $18 of value. Charging $100 a month for parking on all eight units adds $9,600 of NOI and roughly $174,500 of value, if buyers in that market would pay for it. The same works in reverse: a $5,000 jump in insurance takes about $91,000 off the value.

This is why value-add investors focus on NOI rather than rent alone. Raising rent helps only if expenses don’t rise as fast. For how price and NOI combine, see cap rate vs. cash-on-cash return.

Lenders recalculate NOI with their own assumptions, and their figure is usually lower than the one in a listing. Listings often show actual rents with no vacancy, no management fee and the seller’s old property taxes.

A lender underwriting the same 8-unit building might use 5% vacancy instead of 3%, charge management on effective gross income and deduct a replacement reserve of $250 per unit. That lowers NOI from $107,040 to $102,016, and DSCR on the 75% loan falls to 1.01: the rent barely covers the mortgage. CMHC’s multi-unit underwriting similarly applies its own vacancy, expense and reserve standards rather than the seller’s figures.

Before making an offer, rebuild NOI yourself: use market rents for units you can’t verify, a realistic vacancy rate, a management fee, the tax bill after a sale, and a reserve. If the deal still works on that NOI, it will usually survive the lender’s review.

PropStack builds NOI from your rents, vacancy rate and an itemized expense list, then carries it into cap rate, cash-on-cash return and DSCR for every year of a 10-year projection. Expenses start from regional benchmarks and every line can be adjusted, so you can test a lender-style NOI next to your own in separate scenarios.

Try it on a listing, no account needed.