To calculate net operating income (NOI) for a commercial property, add up all income the property produces in a year, subtract an allowance for vacancy and unpaid rent, then subtract the property's operating expenses. The formula is NOI = effective gross income − operating expenses. NOI excludes loan payments, income taxes, depreciation and major capital improvements, which is why it is used to compare properties and to estimate value.
The NOI formula, step by step
- Start with potential gross income: the rent the property would produce if every space were leased at its contract or market rent.
- Add other income: parking, storage, laundry, signage, expense reimbursements from tenants (for example NNN charges) and similar sources.
- Subtract vacancy and credit loss: an allowance for empty space and tenants who do not pay. This gives you effective gross income (EGI).
- Subtract operating expenses: the recurring costs of running the building.
- The result is NOI.
A worked hypothetical example
Here is a hypothetical small multi-tenant building. The numbers are invented to illustrate the math and are not market data.
| Line item | Annual amount |
|---|---|
| Potential gross rent | $400,000 |
| Expense reimbursements from tenants | $60,000 |
| Other income (parking, signage) | $10,000 |
| Potential gross income | $470,000 |
| Less vacancy and credit loss (assume 6%) | ($28,200) |
| Effective gross income | $441,800 |
| Real estate taxes | $70,000 |
| Insurance | $18,000 |
| Utilities (common areas) | $14,000 |
| Repairs and maintenance | $32,000 |
| Property management (assume 4% of EGI) | $17,672 |
| Landscaping, snow removal, trash | $12,000 |
| Reserves for replacement | $10,000 |
| Total operating expenses | $173,672 |
| Net operating income | $268,128 |
In this example, NOI is $441,800 − $173,672 = $268,128 per year. Notice that the expense reimbursements count as income, which is how NNN and modified gross leases protect the owner from rising costs. For background on those lease types, see what a triple net lease is and what CAM is.
What is included in operating expenses
- Real estate taxes
- Property and liability insurance
- Utilities the owner pays
- Repairs and maintenance
- Common area maintenance, landscaping, snow removal, trash
- Property management fees (include them even if the owner self-manages, since a buyer would have to pay someone)
- Administrative costs, such as accounting and legal fees related to operations
- Replacement reserves, which many investors and lenders include as a line item
What is not included
- Mortgage principal and interest: these depend on how you finance, not on the property's performance.
- Income taxes: these depend on the owner's tax situation.
- Depreciation: a non-cash accounting item.
- Major capital expenditures: a new roof or a parking lot rebuild is typically treated as a capital item, not an operating expense, although reserves are often included to account for them. Treatment varies, so ask how the seller or lender categorizes these costs.
- Leasing commissions and tenant improvements: often tracked separately, but they are real costs to budget when space turns over.
Reported NOI versus underwritten NOI
When a seller's package shows NOI, check how it was built. Common differences between a seller's number and a buyer's underwritten number include:
- No vacancy allowance on a fully leased building, even though leases will eventually expire.
- No management fee because the owner manages the building personally.
- Real estate taxes based on the seller's current assessment, when a sale could trigger reassessment. Confirm with the local jurisdiction and your attorney or tax advisor.
- Expenses that were deferred, such as maintenance that has been postponed.
- Rents that include temporary concessions or one-time income.
The buyer's job is to verify income from the leases and rent roll and to verify expenses from operating statements and tax bills. Our guide to analyzing a commercial property rent roll shows how to check the income side.
How to gather the data you need
A reliable NOI calculation depends on documents, not estimates. Ask the seller or the owner's broker for:
- The current rent roll, showing each tenant, square footage, rent, lease start and end dates, and security deposits.
- Copies of every lease and amendment, so you can confirm what each tenant pays and what the owner pays.
- Trailing 12-month operating statements, plus the prior two years if available.
- Real estate tax bills, insurance declarations, and utility and service contract summaries.
- CAM reconciliation statements, which show what was billed to tenants versus what was actually spent.
Compare the operating statements against the bank deposits and the rent roll. If the income on the statement does not tie to the leases, ask why before you rely on the NOI.
How lease type changes the NOI picture
Hypothetical example: the same $250,000 of rent produces different NOI depending on who pays expenses. Suppose a building has $60,000 of annual operating costs.
| Lease structure | Rent collected | Expenses reimbursed by tenants | Owner-paid expenses | NOI |
|---|---|---|---|---|
| Triple net | $250,000 | $60,000 (shown as income) | $60,000 | $250,000 |
| Full-service gross | $250,000 | $0 | $60,000 | $190,000 |
The expenses are the same in both rows. What changes is who bears them. When you compare two properties, make sure you are comparing NOI that was built the same way. Properties with higher rent per square foot on a gross lease are not necessarily more profitable than properties with lower NNN rent.
Looking at NOI per square foot
Dividing NOI by rentable square footage gives you a quick way to compare similar buildings. In the first hypothetical example, $268,128 of NOI on a 30,000-square-foot building is about $8.94 per square foot per year. Because that figure is invented, it says nothing about what your own building should earn. It is useful only as a sanity check that two properties of a similar type are being underwritten consistently. You can find actual comparables through CoStar or a broker's analysis.
Using NOI to estimate value
Once you have NOI, you can estimate value with the cap rate formula: value = NOI ÷ cap rate. Using the hypothetical NOI of $268,128, an assumed cap rate of 7% would indicate a value of about $3,830,000 (268,128 ÷ 0.07), while an assumed 8% would indicate about $3,352,000. The gap between those two results shows how sensitive value is to the cap rate you choose. We do not quote typical cap rates here because they vary by property type, location, tenant strength and lease term; for current comparables, use CoStar data, a broker's analysis or an appraisal. Our article on what a good cap rate is explains how to think about it.
Single-tenant NNN versus multi-tenant buildings
The NOI calculation looks different depending on the lease structure. On a single-tenant NNN building, the tenant pays nearly all expenses, so NOI may be close to base rent, less items the owner keeps such as ownership-level costs or non-reimbursable repairs. A multi-tenant building has more line items and more movement as tenants come and go. That is one reason investors look closely at the tenant mix and lease expirations. For how those factors play out, see the benefits of investing in multi-tenant buildings.
Common NOI mistakes
- Counting debt service as an operating expense.
- Using asking rents instead of in-place rents for occupied space.
- Forgetting that expense reimbursements may not cover vacant space.
- Leaving out reserves, management or leasing costs.
- Annualizing one strong month instead of using a full trailing 12-month statement.
This article is general education, not tax or legal advice. Talk to a CPA about how NOI differs from taxable income for your situation.
Next step
If you are comparing investment properties in Northern Virginia, we can help you review the operating statements and test the NOI before you make an offer. Call 703-505-3501 or contact us. You can also review our investment opportunities and commercial properties for sale, and read how to evaluate a commercial real estate investment for the full process.
Frequently asked questions
What is the formula for NOI?
NOI equals effective gross income minus operating expenses. Effective gross income is total potential income less a vacancy and credit loss allowance.
Does NOI include mortgage payments?
No. NOI is calculated before debt service, so it measures the property's performance independent of how it is financed.
Are property taxes included in NOI?
Yes. Real estate taxes are an operating expense. Income taxes are not.
Is NOI the same as cash flow?
No. Cash flow is what is left after debt service and capital costs. NOI comes before both.
Should I include a management fee if the owner manages the property?
Yes, for underwriting purposes. A buyer who does not want to self-manage will pay a manager, so the expense should be in the calculation.
How is NOI used to value a property?
Divide NOI by a cap rate to estimate value. Because small changes in the cap rate change value significantly, confirm your assumptions with comparable sales.
Where can I get reliable expense numbers?
Ask for the trailing 12-month and prior-year operating statements, tax bills, insurance quotes and service contracts, and compare them with similar properties.
