Effective Rental income ERI

Let's look more closely at ERI and how we get to it and how we maximize it. If you are going to be a landlord, or even a net lease investor, you need to understand how to crunch these numbers.

The difference between Potential Rental Income PRI & Effective Rental Income is vacancy & credit losses. so you need to understand those.

Vacancy and Credit Losses are income lost, or expenses incurred as a result of vacancies and tenants who default on their lease. You will have costs for collection and eviction. Non-payment from bankruptcy, disputes and compromise are some reasons for credit losses.

You can try to minimize your credit losses by taking extra precautions. Requiring personal guarantees, running credit histories, letter of credit, performance bonds and staying involved so you can act quickly in case of a problem.

Generally you calculate PRI & ERI, because the bank or another investor is trying to establish a value of your property based on its net operating income from rentals. These numbers are estimates based on the properties and what you expect to charge. here's the formula for you to remember:

   Potential Rental Income - Total square feet available times price per sqft

- Vacancy and Credit Losses - could be an estimated percentage or experience %

  Effective Rental Income

+ Other income - Vending income, parking income, etc

= Gross Operating Income

- Operating expenses

  Net Operating Income

Consider a 5 unit building which rents each for $950 per month.

$950 X 12months X 5 units = $57,000

Vacancy & Credit losses history from previous years on this property 7%

$57,000 X 7% = $3,990 $57,000 - 3,990 = $53,010 Effective Rental Income

Property Taxes, $3,000, Repairs $850, Water & Sewar $1200, Insurance $2,000

Total operating expenses $7,050
ERI $53,010 - OE $7,050 = NOI $49,060 The bank or investor will use NOI to compute the value of your building based on this NOI. Next time CAP for Value.