How to calculate NOI

[Michael Lettieri]

I'm interested in a house on the market for $1,500,000 with the following monthly numbers;

 rental income of $9,000

property Taxes $1588

Insurance $400

How do I estimate the other expenses such as utility bills (sewer/water/gas/electric), maintenance, vacancy, etc

Once I have these expenses I can calculate the property value based on NOI/CAPRATE. Would utilizing the 1% rule for maintenance be correct? ($1,500,00 X 10%/12 = $1250 monthly)
If there is a guide anyone can point me to I would appreciate it. Thank you in advance.

[Michael Lee]

Hello Michael!  The first mistake I see is on figuring out a practical return. Those income numbers give you a real investment return based on return on a 20% down payment would only make a little over 4%. of about.  There are many ways to do this.  It even fails the 1% test used during the investment quality.  The 1% amount applied to the price and is a rule of thumb that many use when figuring the rent.

A 10% down payment would only give about a 10% return of cash on cash return assuming you could get $1,500 per month rent. Multiply the sale price by 1% gives you the rent you might get which should be figured by comps in that area.

Another thing to consider is the ability to make the tenant responsible for those utilities because those could vary widely and be your regret on taking that responsibility.  I live in Dallas Texas a ND a local paper had a story that said Jerry Jones, the Cowboy owner had a water bill of $10,000 of one month because of his irrigation system.  So watch out.

That area will determine alot of the income and expenses you will incur.  When the debt payment based on a 30 year deal comes out much higher than your calculated rent. Now, the 1%rule comes out to 15,000 per month so something is wrong.  You need to use that area to determine what you can get.  That deal will either work or not.  I think you'll have to be very creative to make that work and use your found numbers to come up with a value.

Good luck to you!

[Alexandre Marques dos Santos]

@Michael Lettieri

Hello michael. The rule is dependable on what type of property you are dealing with, year was built and so on. As an example, a student house tends to have a higher maintenance than a single family house. A multi family might face higher maintenance than a single family. A new construction has lower maintenance than an old house...

This rule seems to be right ex ante. Ideally you need to have a number that could protect you from an expense without hurting your investment.

On my analysis, as i deal with Houston area, i do the following numbers:

+ Rental

- prop management

- taxes

- insurance

- broker ( we pay broker to have it rented)

- vacancy

- maintenance

= NOI

Try to estimate how long to rent and all variables. This is purely an estimation and ex post you will learn what to adjust.

Hope that helps.

Good luck

[Michael Lettieri]

@Alexandre Marques dos Santos

Thanks for the advice. It’s a 6-unit property in good condition. Could you explain the 1% calculation. I’m not sure how to do that.

[Alexandre Marques dos Santos]

@Michael Lettieri

Its simpler than you could imagine. Its 1% of the property value over the year.

In our case, 1% x 1,500,000 = 15,000 per year, or 1,250 per month.

Again, thats an estimate based on rough number learned from experience ( call it thumb’s rule). You could have more or less, depending on the tenants you have. Being a 6 units complex, I would be more conservative, and use 1,5%. Anything below that, its a gain.

[Matt B.]

Vacancy can be different depending on the amount of units you have. A single family home, you can just estimate 1 months rent for vacancy. 

You may also want to consider putting a little bit on the side for any emergency situations that may occur(flooding, broken water heater, etc.). Some investors, but not all, will figure this in before getting their NOI

[Michael Lettieri]

Originally posted by @Michael Lee:

Hello Michael!  The first mistake I see is on figuring out a practical return. Those income numbers give you a real investment return based on return on a 20% down payment would only make a little over 4%. of about.  There are many ways to do this.  It even fails the 1% test used during the investment quality.  The 1% amount applied to the price and is a rule of thumb that many use when figuring the rent.

A 10% down payment would only give about a 10% return of cash on cash return assuming you could get $1,500 per month rent. Multiply the sale price by 1% gives you the rent you might get which should be figured by comps in that area.

Another thing to consider is the ability to make the tenant responsible for those utilities because those could vary widely and be your regret on taking that responsibility.  I live in Dallas Texas a ND a local paper had a story that said Jerry Jones, the Cowboy owner had a water bill of $10,000 of one month because of his irrigation system.  So watch out.

That area will determine alot of the income and expenses you will incur.  When the debt payment based on a 30 year deal comes out much higher than your calculated rent. Now, the 1%rule comes out to 15,000 per month so something is wrong.  You need to use that area to determine what you can get.  That deal will either work or not.  I think you'll have to be very creative to make that work and use your found numbers to come up with a value.

Good luck to you!

Thanks Michael. Does the 1% rule mean that I should be receiving 1% of the home value per month in rent? So I should be getting $15,000 per month for a $1.5M home? 

Also utilities are paid by the homeowners however there is a common stairway area that I assume I will be responsible for utilities. I live in Jersey City and I don't believe the 1% rule will work. I'm having a hard time calculating the value of the home to submit an offer. 

There is also the possibility of breaking these units into condos and selling them separately which keeps the value higher.

So I'm back to calculating the NOI and utilizing a low caprate (maybe 5%). However I'm having a hard time calculating the incidental expenses; utilities, property management, vacancy and maintenance. Knowing these incidental expenses seems to be more of a science so I could use advice on that.

[Tim Jacob]

For hvac is it on boiler with window units, central for each unit, mini splits, or basebord with window units and or portable?  What grade is the neighborhood.  Is there a lot of illegal activity and have you confirmed this.  Is water seperated and metered?  Is there laundry in the building?  If you answer these questions you can get more accurate advice.  

[Michael Lettieri]

I calculated a value of approximately $1.11M with the following numbers

Rent $9000/mo

Taxes $1588/mo

Insurance $400/mo

Utilities $250/mo

Vacancy(1 month per year) $750/mo

Maintenance $1375/mo

NOI = $4637

Property Value = NOI/CAPRATE = ($4637 X12)/.05 = $1,112,880

[Michael Lee]

The 1% rule is the sales price or ARV times .01 and that gives you the monthly rent average, not the yearly rent. Use comps done in that area to get a better idea of what you can collect. It might be higher or lower than the 1% rule of thumb. On a MF that is more than 4 units is usually an income-based return and the valuation to determine the ultimate price taking the yearly net income times the average cap rate factor used in that area.

The positive cash flow is usually the determining factor or the cash on cash return based on your actual net yearly net income divided by your actual cash outlay (to get the property ownership plus any repairs or improvements made) to get the return percentage.  

  That will give you the projected return percentage to help you decide on that investment acquisition.  That percentage could be adjusted by it's firmness, projected economy, occupancy used, or your gut feelings.  Use your heart feelings, not just your brain.  

You have to determine your minimum return percentage to make it worth your while considering plus any major capital expenses as well (that are not regular).  Any returns should be based on the yearly totals and to be compared to other investments, usually.

Most comparisons should be compared to others in that area or on the average income or expense in that same area. Property Management rates are usually 10 to 12 percent of the net income.  

Monthly utility and maintenance expenses are usually based on actuals provided by the existing owner and may differ based on your style and/or tenant comments. 

I hope any of this helps.