Capital Expenditure (CapEx)

A capital expenditure is money spent on an asset that lasts more than a year: a roof, a furnace, a kitchen, an addition. Capital expenditures are excluded from net operating income, which covers only recurring costs. Most small-property investors include a reserve for future capital items as an operating expense instead.

The line between the two is the oldest NOI error. Patching a roof is maintenance and belongs in NOI. Replacing the roof is capital and does not, even though the check is far larger. The default house sets aside 5% of collected income, $1,425 a year, as a reserve so that a $12,000 roof in year eight does not wipe out year eight's income statement.

Conventions differ. Lenders and most residential investors put the reserve above the NOI line, which is what this site does. Many commercial appraisals report NOI before reserves and deduct them below. Either way is fine as long as you compare like with like. The Wikipedia article draws the accounting boundary and explains why capital items are depreciated rather than expensed.

Further reading: Capital Expenditure (CapEx) on Wikipedia.