Is Interest an Operating Expense in Real Estate? NOI Rules

Is Interest an Operating Expense?

No. Mortgage interest is a financing cost, so on a rental property it comes off after NOI, as part of debt service. Two identical buildings with different loans have the same NOI and different cash flow.

Interest and net operating income

NOI is income after operating expenses and before any loan. Interest and principal together are debt service, and debt service is subtracted from NOI to get cash flow.

This is why a property's NOI does not change when it is refinanced. The building runs the same way at a 4% rate or an 8% rate. Only the owner's cash flow moves. The NOI vs cash flow guide walks through that second step.

Mortgage interest on a $500,000 rental

Finance the site's default house with a $375,000 loan at 7.25% over 30 years. The payment is about $2,558 a month, or $30,698 a year. In year one, about $27,068 of that is interest and $3,629 is principal.

NOI stays at $28,892. Subtract the full $30,698 payment and cash flow is about $1,806 negative, a DSCR of 0.94. A lender would not make that loan. A smaller loan or a cash purchase changes the cash flow, but the NOI stays the same.

Line	Year one
Net operating income	$28,892
Interest	$27,068
Principal	$3,629
Total debt service	$30,698
Cash flow	-$1,806

Where interest does count

On your tax return, rental mortgage interest is deductible on Schedule E along with operating expenses and depreciation. That is a tax calculation, not NOI.

Run the numbers on your property

The calculator below is loaded with the $500,000 example. Change any line to see how interest moves NOI and value, or read the full operating expense checklist for every line that belongs above NOI.

Itemized income and expense lines

Income

Monthly rent (all units)$Scheduled rent at full occupancyUnitsFor per-unit figures. 1 for a house or condo.Other monthly income$Parking, laundry, pet rent, storage, utility billbackVacancy and credit loss%$2,400 a year. 5 to 8% is typical.

Operating expenses

Annual property taxes$Use the bill after reassessment, not the seller'sAnnual insurance$Landlord policy, plus flood or wind where neededHOA dues (monthly)$Owner-paid utilities (monthly)$Water, sewer, trash, gas, common-area electricOther monthly expenses$Lawn, snow, pest, licenses, legal, accounting

Price and market (optional)

Purchase price or value$Leave at 0 if you only need NOI. Turns on the cap rate.Market cap rate%What comparable properties sell at. Values the NOI.

Net operating income (annual)

$28,892

$2,408 a month

Typical expenses · 37% ratio

Typical. 30 to 45% of collected income covers expenses, the range most single-family and small multifamily rentals land in with every cost counted.

Income statement

Gross scheduled income: $48,000
Vacancy and credit loss: -$2,400
Effective gross income: $45,600
Property taxes: -$6,000
Insurance: -$2,500
Maintenance: -$2,280
Capital reserves: -$2,280
Management: -$3,648
Total operating expenses: -$16,708
Net operating income: $28,892
Expense ratiooperating expenses / effective gross income: 36.6%
NOI marginNOI / effective gross income: 63.4%

What this NOI is worth

Value at a 6.50% cap rate: $444,492
Cap rate at this price$28,892 / $500,000: 5.78%
Priced above that value by: $55,508
Gross rent multiplierprice / gross scheduled income: 10.4

What moves it

Each $100/mo of rent addsof annual NOI after vacancy and percentage expenses: $935
Each point of vacancy costsof annual NOI: $394
Each $1,000 of NOI is worthat a 6.50% cap rate: $15,385

Interest and NOI questions

Is interest expense an operating or non-operating expense?

Non-operating. On a rental, interest reflects how the owner financed the property, not how the building runs, so it sits below NOI with the rest of debt service.

Is mortgage interest included in NOI?

No. Mortgage interest is part of debt service, which comes after NOI. Including it would make NOI depend on the owner's loan, and two identical buildings with different mortgages would look like different properties.