Potential Gross Income, Effective Gross Income and NOI

The sequence is simple when every number stays in its proper row:

Potential gross income - Vacancy and collection loss = Effective gross income

Effective gross income - Operating expenses = Net operating income

What is the short formula map?

Read the question before choosing the loss base. Some problems apply vacancy only to rent, then add parking, laundry or other income. Others state that the loss rate applies to total potential gross income.

Official source map

The New York State Department of State 77-hour curriculum includes gross income and net operating income in Commercial and Investment Properties. It also places income, expense and capitalization calculations within Real Estate Mathematics.

The Office of the Comptroller of the Currency's Commercial Real Estate Lending handbook defines NOI as annual gross income less operating expenses. It explains that underwriting begins with income at full occupancy, applies a vacancy factor to reach effective gross income and excludes interest, principal, income taxes, depreciation and capital items from operating expenses.

The U.S. Department of Housing and Urban Development provides the same calculation sequence in its NOI self-monitoring guide: potential gross rental income minus vacancy loss, collection loss and operating expenses. A separate HUD sample underwriting statement shows gross potential rent, vacancy, bad debt, other income, effective gross income, expenses, NOI and debt service on separate lines.

What is potential gross income?

Potential gross income, often abbreviated PGI, is the income the property could produce under the stated full-occupancy assumptions before vacancy and collection loss.

Depending on the problem's terminology, PGI can include:

• scheduled apartment, office, retail or other rent
• parking income
• laundry or vending income
• storage fees
• tenant reimbursements
• other recurring property income stated in the facts

Some sources use potential gross rental income for rent alone and potential gross income for rent plus other income. Follow the labels and arithmetic instructions in the question instead of treating every source's abbreviation as identical.

How do you annualize monthly rent?

Multiply monthly rent by the number of units and by 12 months.

Example 1: Same rent for every unit

An eight-unit property charges $1,750 per unit per month.

Monthly potential rent = 8 × $1,750 = $14,000

Annual potential rent = $14,000 × 12 = $168,000

If the property also has $6,000 in annual parking and laundry income:

Potential gross income = $168,000 + $6,000 = $174,000

How do you calculate income when unit rents differ?

Calculate each unit type separately, then add the annual amounts.

Example 2: Rent roll with two unit types

A property has:

• four studios at $1,500 per month
• six one-bedroom units at $1,900 per month
• $9,600 in stated annual other income

Studios:

4 × $1,500 × 12 = $72,000

One-bedroom units:

6 × $1,900 × 12 = $136,800

Potential rental income:

$72,000 + $136,800 = $208,800

Potential gross income:

$208,800 + $9,600 = $218,400

Do not average the rents unless the problem asks for an average. A rent roll is safer because it preserves the number and rent of each unit type.

What is vacancy and collection loss?

Vacancy loss estimates income not received because space is unoccupied. Collection loss estimates billed income that is not collected. Problems often combine the two as one percentage.

Vacancy and collection loss = Stated income base × Loss rate

The loss is a subtraction, not an operating expense. It converts potential income into effective income.

Is occupancy rate the opposite of vacancy rate?

In a simplified problem, yes:

Occupancy rate = 1 - Vacancy rate

If vacancy is 7%, occupancy is 93%. Then either method produces the same occupied-rent estimate:

Potential rent × 93%

or

Potential rent - (Potential rent × 7%)

Collection loss can still be separate, so avoid assuming occupancy rate accounts for every uncollected dollar.

How do you find effective gross income?

Effective gross income, abbreviated EGI, is the income expected after vacancy and collection loss.

EGI = PGI - Vacancy and collection loss

Example 3: Loss applies to all PGI

Potential gross income is $240,000. The problem says combined vacancy and collection loss equals 6% of PGI.

Loss = $240,000 × 0.06 = $14,400

EGI = $240,000 - $14,400 = $225,600

Example 4: Loss applies only to rent

A property has:

• potential rental income: $300,000
• vacancy and collection loss: 5% of potential rent
• other income: $12,000

First calculate rent loss:

$300,000 × 0.05 = $15,000

Then calculate EGI:

$300,000 - $15,000 + $12,000 = $297,000

Do not apply the 5% to other income because the facts limit the rate to potential rent.

Can other income be added after vacancy loss?

Yes, when the problem applies vacancy only to rent. The format would be:

Potential rental income - Rent vacancy and collection loss + Other income = EGI

If the problem states that a combined loss rate applies to total PGI, add other income first and apply the stated rate to that total. The words select the base.

What is net operating income?

Net operating income is the income remaining after operating expenses are subtracted from effective gross income.

NOI = EGI - Operating expenses

NOI measures property operations before financing and owner-specific income tax. It is not the same as cash flow to the owner.

Example 5: Basic NOI calculation

A property has:

• EGI: $225,600
• operating expenses: $92,400

NOI = $225,600 - $92,400

NOI = $133,200

Which costs are operating expenses?

Operating expenses are recurring costs of operating and maintaining the property under the stated ownership and lease structure. Common examples include:

• property taxes
• property insurance
• management fees
• maintenance and ordinary repairs
• owner-paid utilities
• janitorial, landscaping and security services
• payroll and related costs
• supplies, licenses and routine administrative costs

The lease matters. If tenants directly pay a cost under a net lease, the owner's statement should reflect that arrangement. If tenant reimbursements are recorded as income, the reimbursed operating cost may also appear as an expense so the presentation is consistent.

Which costs are not deducted to find NOI?

In the ordinary property-income formula, do not deduct:

• mortgage principal
• mortgage interest
• total debt service
• owner income taxes
• accounting depreciation
• capital expenditures for major improvements or replacements
• sale proceeds or acquisition cost

These items affect financing, tax reporting, investment cash flow or capital analysis, but not ordinary NOI.

Why is debt service below NOI?

NOI describes the property's operating result before considering how a particular owner financed it. Two owners can hold identical properties with different mortgages. The property-level NOI can be the same even though their cash flow after debt service differs.

Cash flow before owner income tax = NOI - Debt service

Use this simplified cash-flow formula only when the problem does not state other below-NOI items.

Are replacement reserves part of operating expenses?

The answer depends on the stated convention. The OCC handbook says underwriting operating expenses include an imputed replacement reserve even when it is not actually funded, while depreciation and capital items are excluded. Some classroom statements show reserves below NOI.

For an exam problem:

• if replacement reserve is listed as an operating expense, include it
• if it is shown below NOI, keep it below NOI
• if the problem says to follow an underwriting statement, follow that statement's format

Do not silently move a reserve across the NOI line.

How do you build a complete income statement?

Use one row for every change in income or expense.

Example 6: Full property operating statement

A 12-unit property has:

• monthly rent per unit: $1,800
• annual parking and laundry income: $10,800
• vacancy and collection loss: 7% of potential rental income
• property taxes: $34,000
• insurance: $12,000
• maintenance: $28,000
• management: 5% of EGI
• owner-paid utilities: $18,000

Potential rental income:

12 × $1,800 × 12 = $259,200

Vacancy and collection loss:

$259,200 × 0.07 = $18,144

Effective gross income:

$259,200 - $18,144 + $10,800 = $251,856

Management expense:

$251,856 × 0.05 = $12,592.80

Other operating expenses:

$34,000 + $12,000 + $28,000 + $18,000 = $92,000

Total operating expenses:

$92,000 + $12,592.80 = $104,592.80

NOI:

$251,856 - $104,592.80 = $147,263.20

The management fee uses EGI because the facts define it that way. A different problem may state a fee based on collected rent or another base.

How do you handle a percentage operating-expense ratio?

When operating expenses are stated as a percentage of EGI:

Operating expenses = EGI × Expense ratio

NOI = EGI × (1 - Expense ratio)

Example 7

EGI is $360,000 and operating expenses are 38% of EGI.

Operating expenses = $360,000 × 0.38 = $136,800

NOI = $360,000 - $136,800 = $223,200

Shortcut check:

NOI = $360,000 × 0.62 = $223,200

How do you reverse the NOI formulas?

Work backward when the question supplies NOI and one missing amount.

Find EGI

EGI = NOI + Operating expenses

If NOI is $180,000 and operating expenses are $120,000:

EGI = $180,000 + $120,000 = $300,000

Find operating expenses

Operating expenses = EGI - NOI

If EGI is $410,000 and NOI is $258,300:

Operating expenses = $410,000 - $258,300 = $151,700

Find PGI

If loss is a percentage of PGI:

EGI = PGI × (1 - Loss rate)

PGI = EGI ÷ (1 - Loss rate)

If EGI is $285,000 after a 5% loss:

PGI = $285,000 ÷ 0.95 = $300,000

What is the difference between actual and stabilized NOI?

Actual NOI reflects the income and operating expenses for a particular period. Stabilized NOI reflects a supportable, ongoing level expected under market and property conditions.

The OCC handbook explains that stabilized underwriting can use a vacancy factor that is higher or lower than the property's current vacancy, informed by comparable properties and expected conditions. A fully occupied building today does not prove zero vacancy for a long-term analysis.

For exam questions, use the stated actual or projected figures. Do not replace them with your own market assumption.

How does NOI connect to property value?

NOI is the income input in direct capitalization:

Value = NOI ÷ Capitalization rate

That formula does not make NOI the same as value. NOI is annual property income, while the capitalization rate converts income into an indicated value under the problem's assumptions. The next lesson develops capitalization rate, value and gross-rent-multiplier calculations.

Does a higher NOI prove a better investment?

Not by itself. A larger property can have higher NOI and a higher price. Investment analysis can also consider capitalization rate, financing, cash flow, risk, lease quality, capital needs, market conditions and the investor's objectives.

For the salesperson exam, solve the stated relationship without turning one metric into a complete investment recommendation.

What mistakes cause the most wrong answers?

Subtracting operating expenses before vacancy

Follow the income statement: PGI, then loss, then EGI, then expenses, then NOI.

Applying vacancy to the wrong base

Use potential rent when the question says rent. Use PGI when it says PGI.

Forgetting to annualize monthly rent

Multiply monthly rent by 12 and by the number of units.

Treating vacancy loss as cash paid out

Vacancy loss is foregone income. It reduces potential income to effective income.

Subtracting mortgage payments to find NOI

Debt service comes after NOI.

Subtracting depreciation or capital improvements

Those are not ordinary NOI operating expenses.

Ignoring owner-paid versus tenant-paid costs

Read the lease and the problem's expense statement.

Applying a management percentage to the wrong number

Use the base stated in the facts, such as EGI, collected rent or another defined amount.

Confusing NOI with cash flow

NOI is before financing. Cash flow after debt service can be lower.

What is a reliable exam-day workflow?

1. List units, monthly rents and other income.
2. Annualize the rent.
3. Build PGI under the problem's terminology.
4. Identify the exact base for vacancy and collection loss.
5. Subtract the loss to find EGI.
6. Classify each cost as operating, financing, capital or owner tax.
7. Calculate percentage expenses from the stated base.
8. Subtract operating expenses to find NOI.
9. Stop before debt service unless the question asks for cash flow.
10. Reverse the formulas to check the result.

Use Part, Rate and Whole for New York Real Estate Math for percentage setup and the New York real estate math formula map for related calculations.

Can you solve these original practice questions?

Practice 1

A six-unit property rents each unit for $2,000 per month. What is annual potential rental income?

A. $12,000
B. $24,000
C. $72,000
D. $144,000

Answer: D. 6 × $2,000 × 12 = $144,000.

Practice 2

PGI is $250,000 and combined vacancy and collection loss is 8% of PGI. What is EGI?

A. $20,000
B. $230,000
C. $242,000
D. $270,000

Answer: B. Loss is $250,000 × 0.08 = $20,000. EGI is $250,000 - $20,000 = $230,000.

Practice 3

Potential rent is $320,000, vacancy loss is 5% of rent and other income is $14,000. What is EGI?

A. $290,000
B. $304,000
C. $318,000
D. $334,000

Answer: C. Rent loss is $16,000. EGI is $320,000 - $16,000 + $14,000 = $318,000.

Practice 4

EGI is $318,000 and operating expenses are $124,000. What is NOI?

A. $124,000
B. $194,000
C. $318,000
D. $442,000

Answer: B. $318,000 - $124,000 = $194,000.

Practice 5

Which item is ordinarily deducted before reaching NOI?

A. Mortgage principal
B. Debt-service interest
C. Property insurance
D. Owner income tax

Answer: C. Property insurance is an operating expense. Financing and owner income taxes are below the NOI line.

Practice 6

EGI is $400,000 and the operating-expense ratio is 35%. What is NOI?

A. $140,000
B. $260,000
C. $365,000
D. $540,000

Answer: B. Expenses are $400,000 × 0.35 = $140,000. NOI is $400,000 - $140,000 = $260,000.

Practice 7

NOI is $210,000 and operating expenses are $140,000. What is EGI?

A. $70,000
B. $210,000
C. $350,000
D. $490,000

Answer: C. $210,000 + $140,000 = $350,000.

Practice 8

Which statement is accurate?

A. Vacancy loss is added to PGI.
B. Debt service is an ordinary NOI operating expense.
C. EGI is PGI after vacancy and collection loss.
D. Potential income assumes the current vacancy continues.

Answer: C. EGI reflects the stated vacancy and collection adjustment to potential income.

Frequently asked questions

What is potential gross income in real estate?

It is the income a property could produce at full occupancy and collection under the stated rent and other-income assumptions.

What is effective gross income?

Effective gross income is potential gross income minus vacancy and collection loss.

What is net operating income?

NOI is effective gross income minus operating expenses, before debt service and owner income tax.

What is the formula for NOI?

NOI = Potential gross income - Vacancy and collection loss - Operating expenses.

Is mortgage payment included in NOI?

No. Mortgage principal and interest are financing costs below the NOI line.

Is depreciation included in NOI?

No. Accounting depreciation is not an ordinary property operating expense for NOI.

Is vacancy an operating expense?

No. Vacancy and collection loss reduce potential income to effective income before operating expenses are subtracted.

Are replacement reserves included in NOI expenses?

Treatment can depend on the stated underwriting convention. Follow the problem's operating statement and keep the reserve on the row provided.

Does New York publish an official number of NOI questions?

No. The curriculum includes gross income and NOI, but the Department of State does not publish a topic-level question count or weighting.

Sources and verification notes

This article was checked against official sources available on August 27, 2026. Its figures, scenarios and practice questions are original educational examples. They do not evaluate an actual property's income, expenses, value or investment suitability.

• New York State Department of State, Real Estate Salesperson 77-Hour Curriculum
• New York State Department of State, Real Estate Salesperson
• Office of the Comptroller of the Currency, Commercial Real Estate Lending handbook
• U.S. Department of Housing and Urban Development, NOI self-monitoring guide
• U.S. Department of Housing and Urban Development, Sample loan underwriting statement

Use this lesson for education and exam preparation. For an actual property, verify the rent roll, leases, collections, historical expenses, management assumptions, reserves, capital needs and market vacancy with qualified professionals.