In the income capitalization approach to appraisal, how is Net Operating Income (NOI) determined?

• A. By adding total operating expenses to effective gross income
• B. By subtracting total operating expenses from gross income
• C. By subtracting total operating expenses from effective gross income
• D. By ignoring operating expenses entirely

Answer: (C)

In the income capitalization approach to appraisal, Net Operating Income (NOI) is determined by subtracting total operating expenses from effective gross income. This method accurately reflects the income generated by a property after accounting for necessary expenses associated with maintaining and operating it.

Effective gross income represents the total income from a property after adjustments for vacancies and credit losses. By subtracting the total operating expenses from this figure, appraisers can derive a clear picture of the income that remains available for debt service and investment return. This measure is crucial for evaluating the property’s performance and potential as an investment, as it reflects the actual cash flow that an owner can expect.

Other approaches that suggest adding expenses to income or ignoring them entirely would not provide a realistic assessment of the property's profitability, hence they would not align with recognized appraisal practices.