CALCULATING THE N.O.I. - Arriving at a true Income and Expense statement.
One of the methods used by appraisers when making an appraisal of an income producing property is the income approach. If you attempt to use the same method when valuing a property for purchase, you will be more likely to buy the property at a fair price and you will also be more apt to arrive at a value that will be accepted by a lender. The calculations below are only our opinion of how to value a property. You may allow yourself some leeway, say 5 to 10% more or less, if you so desire.
- Current month's total rent roll, including vacant units at market rent times 12 (results in annual fully occupied total rental income).
- Less at least a 5% vacancy factor (7-10% vacancy factor if in fact the property is 7-10% vacant or more). If the property is fully occupied then subtract a minimum 5% vacancy factor. anyway. If the property is 25% vacant, then subtract 25% from the fully occupied number. This give you the EGI (effective Gross Income).
- Also ADD separately (if any- laundry, storage, parking and vending income).
- this results in TOTAL INCOME or Gross Operating Income (G.O.I.)
[B] OPERATING EXPENSES
- DO NOT INCLUDE depreciation, amortization, interest expense or capital expenditures. Only include actual operating expenses
- Based on a fully rented property, the seller's expenses must include a minimum 5% for Management. It doesn't matter if the seller says he operates the property at no charge. This minimum 5% must be included. Example: A fully rented property brings in a G.O.I. (Gross Operating Income) annually of $220,000 [See A4 above]. Allowing 5% for management is $11,000. The seller does not list management expense at all, so you must add $11,000 as an expense. If he shows $13,000 for management, then use his higher $13,000 number. If he shows only $7,000 for management, then add in $4,000 ( $11,000 less $7,000) to bring it up to a minimum 5%
- Based on a fully rented property, the seller's expenses must include a minimum 5% for Repairs and Maintenance It doesn't matter if the seller says he operates the property at no charge. This minimum 5% must be included. Example: A fully rented property brings in a G.O.I. (Gross Operating Income) annually of $220,000 [See A4 above].. Allowing 5% for Repairs and Maintenance is $11,000. The seller does not list Repairs and Maintenance expense at all, so you must add $11,000 as an expense. If he shows $13,000 for Repairs and Maintenance, then use his higher $13,000 number. If he shows only $7,000 for Repairs and Maintenance, then add in $4,000 ( $11,000 less $7,000) showing it as a reserve of $4,000to bring it up to a minimum of 5%
- Other common expense categories (based on an apartment building-will vary for other income property) Real Estate Taxes, Water and Sewer, Common area utilities, Insurance, Legal and Accounting, Advertising, Telephone, Licenses, Heat (if owner pays), Electricity (if owner pays), Cable TV, Supplies, Elevator expense, Pest control.
- Adding all of the above expenses results in TOTAL EXPENSE
- Total Income less Total Expense equals (N.O.I.) Net Operating Income
[C]AN EXAMPLE OF A PROPERTY VALUATIONA CALCULATION USING THE NET OPERATING INCOME (N.O.I.) APPROACH
- Total Gross Operating Income is $220,000.
- Total expenses are $70,000.
- Therefore the N.O.I. is $150,000.
- If an apartment building, divide $150,000 by .09 (9 cap) which gives a value of $1,666,666.
- If another type of income property, divide $150,000 by .10 (10 cap) which give a value of $1,500,000.
- Use the above valuation, less 5% to 10% as your opening offer.
The above valuations will be your "target" or the maximum amount you will pay for the property. You may make an occasional exception to these calculation rules, but remember to never make the exception the rule. Sticking to the above calculation rules will mean you will rule out some properties; but also remember that if you pay too much you will not be able to get sufficient financing anyway. Most properties eliminated by the N.O.I. valuation rules usually are not priced right for an informed buyer. They are priced right for the seller and his Realtor.
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- INCOME PROPERTIES - COMMERCIAL MORTGAGE LOANS- (apartment and office building loans, self storage units, mobile home park financing, strip centers etc. (Not raw land/land developer loans) - $100,000 minimum loan amount. ($125,000 minimum if referred by broker.) Multi-family (apartment buildings) must be 5 units or more.
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