The subject property has annual potential gross rental income of $150,000, vacancy and collection loss of 5% of that income and no other income. Sales of similar properties indicate an effective gross income multiplier of 8.5. What value is indicated?
Correct Answer
C) $1,211,250
150000×(1−0.05)×8.5 = 1211250. Common errors: applying the multiplier to PGI instead of EGI gives $1,275,000; dividing by the multiplier instead of multiplying gives $16,765; reporting EGI instead of the value gives $142,500.
Why This Is the Correct Answer
Option C is correct because EGI is $150,000 × (1 − 0.05) = $142,500, and EGI × 8.5 = $1,211,250. The multiplier is defined on EGI, so it must be applied to EGI, not PGI.
Why the Other Options Are Wrong
Option A: $16,765
Option A, $16,765, divides EGI by the multiplier instead of multiplying: $142,500 ÷ 8.5 = $16,765. A multiplier is applied by multiplication, giving $142,500 × 8.5 = $1,211,250.
Option B: $142,500
Option B, $142,500, is the effective gross income ($150,000 × 0.95), not the value. It still needs to be multiplied by 8.5 to give $1,211,250.
Option D: $1,275,000
Option D, $1,275,000, applies the multiplier to potential gross income: $150,000 × 8.5 = $1,275,000. The multiplier is an EGI multiplier, so it applies to $142,500, giving $1,211,250.
Match the multiplier's income
A PGI multiplier takes PGI and an EGI multiplier takes EGI; keep them paired.
How to use: Use it to check which income line the multiplier should be applied to.
Exam Tip
Look for the word effective or potential next to the multiplier and adjust income to that level before multiplying.
Common Mistakes to Avoid
- -Applying an EGI multiplier to potential gross income
- -Dividing by the multiplier instead of multiplying
- -Reporting EGI as the indicated value
Concept Deep Dive
Analysis
This question tests applying an effective gross income multiplier to the correct income level. First reduce potential gross income by the vacancy and collection loss to reach EGI, then multiply EGI by the multiplier. No operating expenses are deducted in this gross-income method.
Background Knowledge
Gross income multipliers can be based on potential or effective gross income, and the multiplier must be applied to the same level of income from which it was derived. An EGI multiplier reflects vacancy and collection loss but not operating expenses.
Real-World Application
An appraiser extracts EGI multipliers from small commercial sales by dividing each price by its effective gross income. To apply the result, the appraiser first deducts a market vacancy allowance from the subject's potential rent.
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