NOI, cap rate, and cash flow: the three numbers that actually run your portfolio
Net operating income is not profit, cap rate is not return, and cash flow is not either of them. What each number means, how to calculate it correctly, and which one to act on.
The short version
- NOI deliberately excludes your mortgage — that is what makes it comparable across properties.
- Cash flow includes debt service and is what actually reaches your bank account.
- A property can have healthy NOI and negative cash flow at the same time; both facts matter.
- Most landlords overstate NOI by forgetting vacancy and capital reserves.
These three numbers get used interchangeably in conversation and they measure completely different things. Confusing them is how landlords end up buying a property that looks strong on paper and starves them of cash every month.
Net operating income
NOI is what the property earns from operations, before financing and before taxes.
NOI = Effective gross income − Operating expenses
Effective gross income is your gross potential rent minus vacancy and credit loss, plus other income — pet rent, parking, laundry, application fees. Operating expenses are what it costs to run the building: property taxes, insurance, management, repairs and maintenance, utilities you cover, HOA, landscaping, turnover costs.
Where landlords inflate their own NOI
Almost every overstated NOI comes from one of these four omissions.
| Omission | Typical impact | Realistic figure |
|---|---|---|
| No vacancy allowance | Overstates income | 5–8% of gross rent, market dependent |
| No capital reserve | Overstates NOI | 5–10% of rent set aside for roof, HVAC, turnover |
| Self-management valued at $0 | Hides a real cost | 8–10% of collected rent |
| Repairs averaged from a good year | Understates expenses | Use a 3-year trailing average |
The self-management one is the most commonly disputed and the most important. If you do not price your own labour, you cannot tell whether the property is a good investment or merely a job you have not noticed you are doing. Value it at what a manager would charge, then decide separately whether you want to keep the work.
Cash flow
Cash flow = NOI − Debt service
This is the number that reaches your bank account. A property with $18,000 of NOI and $16,500 of annual mortgage payments produces $1,500 of cash flow. The same property bought with cash produces $18,000. Same building, same operations, different financing.
This is exactly why NOI excludes debt. NOI tells you whether the asset is good; cash flow tells you whether your position in it is comfortable. You need both, and they answer different questions.
Cap rate
Cap rate = NOI ÷ Property value
Cap rate expresses NOI as a yield on value, which makes properties of different sizes comparable. A $250,000 property producing $18,000 of NOI is at a 7.2% cap.
A worked example
A duplex, both units at $1,200, bought for $310,000 with a $240,000 mortgage.
| Line | Annual |
|---|---|
| Gross potential rent (2 × $1,200 × 12) | $28,800 |
| Less vacancy at 6% | −$1,728 |
| Effective gross income | $27,072 |
| Property taxes | −$3,400 |
| Insurance | −$1,650 |
| Repairs & maintenance (3-yr average) | −$2,900 |
| Capital reserve at 6% | −$1,728 |
| Management at 9% | −$2,436 |
| Operating expenses total | −$12,114 |
| NOI | $14,958 |
| Debt service | −$13,100 |
| Cash flow | $1,858 |
| Cap rate (NOI ÷ $310,000) | 4.8% |
Note how ordinary this looks once reserves and management are priced honestly: a 4.8% cap and about $155 a month of cash flow. The same duplex, presented without vacancy, reserves, or management, would show roughly $21,000 of 'NOI' and a 6.8% cap — a property that appears half again as profitable as it is. That gap is where most bad acquisitions live.
Which number to act on
- Deciding whether to buy, or comparing two buildings — cap rate and NOI.
- Deciding whether you can afford it, or how much reserve you need — cash flow.
- Deciding whether an operational change worked — NOI, because it is not distorted by refinancing.
- Deciding whether to refinance — cash flow, since that is the only one financing moves.
TenantsRent computes all three from your actual charges and expenses rather than from a spreadsheet you maintain by hand, which mainly means vacancy and reserves stop quietly disappearing from the calculation.
Common questions
- Does NOI include the mortgage?
- No. NOI excludes all debt service by design, so that properties can be compared independently of how each is financed. Subtract debt service from NOI to get cash flow.
- What is a good cap rate?
- It depends entirely on market and asset class — a 4% cap can be normal in an expensive coastal market while 8% is normal in a smaller inland one. A cap rate well above local norms usually indicates additional risk rather than a bargain.
- Should I count my own management time as an expense?
- Yes, at roughly what a third-party manager would charge (commonly 8–10% of collected rent). Otherwise you cannot distinguish a genuinely profitable asset from one that only works because you are working for free.
Stop doing this by hand
TenantsRent automates rent collection, late fees, reminders, and maintenance tickets — and keeps the timestamped record that makes all of the above hold up. $5 per unit per month.
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