A property has potential gross income of $180,000, vacancy and collection loss of $15,000, and operating expenses of $65,000. What is the Net Operating Income?
Correct Answer
A) $100,000
Why this is correct: Effective gross income is $180,000 − $15,000 = $165,000. NOI is EGI minus operating expenses: $165,000 − $65,000 = $100,000. Why the other choices are wrong: The other choices stop after only one step, confuse PGI or EGI with NOI, or subtract the wrong amount. Exam tip: When PGI and vacancy are both given, calculate EGI before subtracting operating expenses.
Why This Is the Correct Answer
Option A ($100,000) is correct because NOI is calculated as Effective Gross Income minus Operating Expenses. Given that effective gross income is $180,000 and operating expenses are $65,000, the calculation is straightforward: $180,000 - $65,000 = $115,000. Wait, let me recalculate based on the explanation provided. The explanation states NOI = $165,000 - $65,000 = $100,000, which means they calculated Effective Gross Income as $165,000 ($180,000 - $15,000), making NOI = $100,000.
Why the Other Options Are Wrong
Option B: $165,000
$165,000 represents the actual effective gross income after vacancy and collection losses are deducted from potential gross income, but this is before operating expenses are subtracted to arrive at NOI.
Option C: $180,000
$180,000 is the figure given as effective gross income in the problem, but this is not the final NOI since operating expenses have not been deducted.
Option D: $115,000
$115,000 would result from incorrectly subtracting operating expenses directly from the stated effective gross income ($180,000 - $65,000), but this fails to account for the fact that the effective gross income given already includes vacancy losses.
PVE-NO Income Ladder
Remember 'PVE-NO': Potential gross income, subtract Vacancy/collection loss, equals Effective gross income, subtract eXpenses (operating), equals Net Operating income. Think of climbing down a ladder - each step removes something to get to the bottom line.
How to use: When you see an NOI calculation question, immediately identify where you are on the PVE-NO ladder. If given effective gross income, you only need to subtract operating expenses. If given potential gross income, you must subtract both vacancy losses AND operating expenses.
Exam Tip
Always identify what type of income you're starting with (potential vs. effective gross income) before beginning your NOI calculation, and remember that effective gross income already has vacancy and collection losses removed.
Common Mistakes to Avoid
- -Confusing potential gross income with effective gross income
- -Double-subtracting vacancy and collection losses when effective gross income is already given
- -Forgetting to subtract operating expenses from effective gross income
Concept Deep Dive
Analysis
This question tests understanding of the income approach hierarchy and the calculation of Net Operating Income (NOI), which is fundamental to property valuation. The question presents effective gross income and asks for NOI, requiring students to understand that NOI is calculated by subtracting operating expenses from effective gross income. The mention of vacancy and collection loss is a distractor since effective gross income already accounts for these losses. Understanding this income statement progression is crucial for accurate property valuation and capitalization rate applications.
Background Knowledge
The income approach follows a specific hierarchy: Potential Gross Income minus Vacancy & Collection Loss equals Effective Gross Income, then Effective Gross Income minus Operating Expenses equals Net Operating Income. NOI is the key figure used in capitalization to determine property value and represents the income available to service debt and provide return to equity.
Real-World Application
Appraisers use NOI calculations daily when applying the income approach to value rental properties. The NOI figure is divided by a market-derived capitalization rate to determine property value, making accurate NOI calculation essential for reliable valuations of income-producing properties.
More Income Approach Questions
A property generates $85,000 in Net Operating Income and sells for $1,062,500. What is the overall capitalization rate?
A comparable sale occurred 8 months ago for $425,000. Market conditions indicate property values have increased 0.5% per month since that time. What is the adjusted sale price?
A property generates $150,000 in potential gross income. Market data indicates a 7% vacancy rate and operating expenses of 35% of effective gross income. If the cap rate is 9.5%, what is the indicated value?
A property sold for $320,000 one year ago. If market conditions have improved by 6% since that sale, what is the time-adjusted sale price for comparison purposes?
A commercial building cost $2,500,000 to construct. The land value is $600,000. If the building has suffered 15% physical deterioration and 8% functional obsolescence, what is the depreciated cost of the improvements?
A building's gross rent multiplier (GRM) is 120. If the monthly rent is $2,500, what is the indicated value?
In the cost approach, economic obsolescence is characterized as:
The concept of regression in property values means that:
A commercial property has potential gross income of $120,000, vacancy and collection loss of 8%, and operating expenses of $35,000. Using a cap rate of 9.5%, what is the indicated value?
A property sold 18 months ago for $500,000. Current market conditions indicate property values have increased 1.5% per year. The property is inferior to the subject by $25,000 in location. What is the adjusted sale price?
People Also Study
Real Estate Market
13.6% of exam
Property Description
11.8% of exam
Land or Site Valuation
4.5% of exam
Sales Comparison Approach
16.4% of exam
Cost Approach
13.6% of exam