Calculating NOI for real estate investments

In calculation of NOI for real estate investments, you EXCLUDE depreciation. I find this alittle strange given Depreciation is usually a operating cost. Be interested to hear other peoples comments.

Actually depreciation is backed out because it is assumed that maintenance costs keeps the investment “new”.

You exclude depreciation because it is not a cashflow item. Typically, when valuing a real estate asset, you capitalise the NOI at the cap rate and then reduce the present value of the capital expenditure you will have to incur in order that the asset keeps generating that NOI.

NOI is a pre-tax cash flow concept and hence depreciation is excluded.

Im not sure that the reason dep is exluded from NOI for real estate has anything to do with cash-flow or taxes. While it is true that dep is put back in while calculating after tax cashflow, NOI is separate from that. Taken from Schweser book 5 pg 206: “Be aware that depreciation and financing costs are not factors in the calculations of NOI. It is assumed that the maintenance will keep the property in good condition, and the value of the property is independent of any financing arrangements.”

is interest also excluded in NOI and how would you treat a principal payment when solving for NOI

Interest is also excluded. Principal Repayment becomes an item to be considered only when you need After Tax Cash flows for the purpose of NPV of the Real Estate investment. So (NOI - Depreciation - Interest) * (1-T) = Net Income Net Income + Depreciation - Repayment of Principle = AT Cash Flow for the period. CP

well spoken…

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