MFB - Net Operating Income Explained

One very important thing to understand about property is it's net operating income… it's probably the most important number associated with a property.  Why's that?  Well, to a large extent on MOST properties, the NOI will determine the value of the property and how much money a lender is willing to give you.

----
 
Diary of an Apartment Investor Podcast is sponsored and produced by Four Oaks Capital, LLC, a real estate investing firm focused on value-add multifamily properties in the southeastern U.S.  If you’re interested in learning more, please visit our website at www.fouroakscapital.com. 

If you’re an aspiring investor and want to be considered for our show, please fill out our application form at www.fouroakscapital.com/podcast -- or you can email me directly at [email protected]

Originally aired July 17, 2020
----

So, what do you need to figure out the NOI?  A full year's profit and loss statement - more specifically, you want the most recent twelve months of financials, commonly referred to as the trailing 12 or just T12.  So, you get the T12 and it should list all of the income and all of the expenses for a given property for the last 12 months - more on that later.

So, back to the question of what is the NOI?  The net operating income is the sum of all incomes minus the operating expenses…  clears it up right?  Well, lets go a little further into each one of these.

Income includes all rents, fees, and other incomes associated with owning a property.  Rents are easy to understand, but there's also application fees and late fees that are added in.  You may also have income from a laundry facility or washer and dryer rentals.  You may be charging a monthly fee for assigned parking spaces, on-site storage, or pet rent.  Depending on local laws, if utilities are centrally metered, you can also charge a utility fee or a pest control fee.  Bottom line, there are lots of different things that can be included in the income…  Normally, the security deposit is NOT counted as income, unless part of it is held back for repairs or lease violations.

 That's income, let's talk about expenses.  Typically, the largest expense s are taxes and insurance. Be careful on these, because they will likely change after purchase… In NOI determination, use what the owner currently pays for these.  IN addition, there are management fees and payroll.  You have  repairs, maintenance, and administrative expenses.  You may pay for some or all of the utilities including electric, gas, trash, water, and sewer.  On some properties, you'll pay for landscaping, snow or leaf removal, gutter cleaning, security, internet, or wifi.  What's not included?  Capital expenses are not included -- for example, if you replace a roof or air conditioning unit, these are large, one-time expenses that are not included in the NOI.  However, what can be included in the NOI determination is a reasonable deposit to a replacement reserves account, usually around $250-300 per year.  This is money that is set aside on a regular basis to cover future capital expenses… think of it as the average annual cost of the roofs, parking lots, air conditioning units, etc.,   What else is not included?  Debt service… you're loan payment (principal plus interest) is NOT included in the NOI calculation.

So, to get  to the Net Operating Income, add up all of the expenses over a given year and subtract all of the expenses.  Make sure you're including deposits to replacement reserves in your expenses.  What you have left is the NOI.