An appraiser is estimating the market rent for a retail property. The subject has a potential gross income of $250,000 based on market rents. Market data indicates a typical vacancy and collection loss factor for similar properties is 6%. Additional income from vending machines and billboard rentals is estimated at $8,000 annually. What is the subject's anticipated Effective Gross Income?
Correct Answer
C) $243,000
Why this is correct: vacancy and collection loss is deducted from potential gross income, and other income is added afterward because vending and billboard revenue does not suffer that vacancy. Calculation: $250,000 x 0.06 = $15,000; $250,000 - $15,000 + $8,000 = $243,000. Why the other choices are wrong: $235,000 stops after the vacancy deduction and never adds the other income; $258,000 adds the other income and never deducts the vacancy; $241,000 follows from neither figure as stated.
Why This Is the Correct Answer
Option C is the figure closest to the effective gross income the formula produces, and it is the only choice that reflects both operations - the vacancy deduction and the addition of other income. The two other realistic figures each omit one of those steps, which is what the item is testing. Work the sequence rather than pattern-matching a number: potential gross income, less vacancy and collection loss, plus other income, equals effective gross income. Effective gross income then carries forward, with operating expenses deducted, to net operating income.
Why the Other Options Are Wrong
Option A: $235,000
Two hundred thirty-five thousand is potential gross income less the six percent vacancy allowance and nothing else, so it drops the eight thousand of other income entirely. Vending and billboard revenue is real income to the property and belongs in effective gross income if it is expected to continue and is attributable to the real estate. Omitting it understates every figure downstream, including net operating income and the capitalized value.
Option B: $241,000
This figure sits between the vacancy-only result and the correct effective gross income and does not correspond to any correct sequence of the two operations. Candidates land here by applying the vacancy rate to a base that mixes rental and other income and then rounding, or by deducting an amount for which the stem gives no support. If your figure does not fall out of the stated formula exactly, rework the steps rather than accepting the nearest plausible number.
Option D: $258,000
Two hundred fifty-eight thousand is potential gross income plus other income with no vacancy and collection loss deducted at all, which describes a property that never has an empty unit or an unpaid invoice. No stabilized income projection is built that way, and the six percent figure was supplied precisely to be used. This choice is the mirror image of the first error - one omits the addition, this one omits the deduction.
Minus vacancy, plus the extras
Two moves after potential gross income and they run in opposite directions: minus vacancy and collection loss, plus the extras. Skip either one and you land on a wrong answer that the exam will have waiting for you.
How to use: Write the four-line statement vertically before computing anything, fill in the numbers the stem gives, and leave a blank where a figure is missing. Then check your answer against the two single-error results, because those are almost always among the choices.
Exam Tip
Confirm whether the vacancy percentage in a stem is meant to apply to rental income alone or to total income; the difference is small in dollars but is exactly what separates adjacent answer choices.
Common Mistakes to Avoid
- -Omitting other income from effective gross income
- -Failing to deduct vacancy and collection loss
- -Using the subject's actual vacancy instead of a market-derived allowance
- -Deducting operating expenses before arriving at effective gross income
Concept Deep Dive
Analysis
This question tests the income statement sequence at the top of the income approach. Potential gross income is the total income a property would produce at full occupancy at market rent. From it the appraiser deducts vacancy and collection loss, a market-derived allowance covering both physically vacant space and rent billed but never collected. To the result the appraiser adds other income - the revenue streams that are not space rent, such as vending, laundry, parking, signage, and billboard leases. The order matters conceptually: vacancy is a function of the rental space, so it is applied against rental income, while other income is added after because it does not scale with the same occupancy assumption. Running the numbers here: six percent of two hundred fifty thousand is fifteen thousand, leaving two hundred thirty-five thousand, and adding eight thousand of other income produces two hundred forty-three thousand of effective gross income.
Background Knowledge
You need the income statement sequence - potential gross income, less vacancy and collection loss, plus other income, equals effective gross income, less operating expenses equals net operating income - and the recognition that vacancy is derived from market evidence rather than the subject's actual history. You should also know that other income is included only where it is attributable to the real estate and expected to continue, and that operating expenses exclude debt service, income taxes, and capital expenditures, with a replacement allowance handled per the market's convention.
Real-World Application
A retail center's rent roll supports two hundred fifty thousand at market rents, the submarket has sustained a six percent vacancy and collection allowance over several years, and the owner nets eight thousand from a billboard lease and vending. The appraiser reports effective gross income built from market-derived figures rather than the owner's actual collections for a single year.
More Income Approach Questions
In a percentage lease, rent is commonly structured as:
In a DCF, what is the reversion?
Potential gross income differs from effective gross income in that PGI assumes:
The reversion in a discounted cash flow model represents:
Building A (new, credit tenant, 20-year lease) and Building B (older, month-to-month tenants) sell the same week. Their cap rates should differ how?
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Replacement reserves cover which kind of expenditure?
What is the primary distinction, for appraisal purposes, between 'vacancy loss' and 'collection loss'?
An appraiser is analyzing a mixed-use property with retail and office components. The retail segment has a potential gross income of $180,000 with a market vacancy of 8%. The office segment has a potential gross income of $120,000 with a market vacancy of 12%. What is the overall effective gross income for the property?
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