Formula 1: Net Operating Income (NOI)
NOI = Gross Annual Rent − Vacancy Allowance − Operating Expenses. Operating expenses include: property taxes, insurance, property management, maintenance and repairs, capital expenditure reserve, and any HOA fees. Explicitly excluded: mortgage debt service and income taxes. NOI is the property’s operating profit before financing.
NOI calculation example: $240K rental property
| Item | Example ($240K Property, $1,600/mo rent) | Notes |
|---|---|---|
| Gross annual rent | $19,200 | $1,600 × 12 |
| Vacancy (8%) | −$1,536 | 1 month equivalent |
| Property taxes | −$2,880 | 1.2% of value/year |
| Insurance | −$1,440 | 0.6% of value/year |
| Property management (10%) | −$1,920 | Of collected rent |
| Maintenance (5%) | −$960 | Of gross rent |
| CapEx reserve (5%) | −$960 | Of gross rent |
| NOI | $9,504 | $792/month |
Formula 2: Cap Rate
Cap Rate = NOI ÷ Purchase Price. Using the example: $9,504 ÷ $240,000 = 3.96%. This 4% cap rate is on the low end — it would be acceptable in a high-appreciation market but unacceptable in a stagnant market. The cap rate tells you the property’s income yield assuming all-cash purchase.
Formula 3: Cash-on-Cash Return
Cash-on-Cash Return = Annual Cash Flow ÷ Total Cash Invested. Where Cash Flow = NOI − Annual Debt Service (mortgage payments). With $48,000 down payment (20%) and 7% mortgage on $192,000: annual debt service = $15,336. Cash flow = $9,504 − $15,336 = −$5,832. Cash-on-cash return = −$5,832 ÷ $48,000 = −12.2%. Negative cash flow at 7% rates.
How financing changes the cash-on-cash return vs. cap rate
| Metric | All-Cash Scenario | 7% Mortgage (20% down) | 5% Mortgage (20% down) |
|---|---|---|---|
| NOI | $9,504 | $9,504 | $9,504 |
| Debt service | $0 | $15,336 | $12,300 |
| Cash flow | $9,504 | −$5,832 | −$2,796 |
| Cap rate | 3.96% | 3.96% (property unchanged) | 3.96% |
| Cash-on-cash | 3.96% (same as cap) | −12.2% | −5.8% |
Calculate Cap Rate, NOI, and Cash-on-Cash for Any Property
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