Net Effective Rent and Concessions: How to Underwrite Free Rent in an Apartment Deal
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Net effective rent is the average monthly rent a tenant actually pays after concessions such as free months, reduced first months or move-in credits are spread over the lease. The formula is: (monthly face rent x lease months, minus the value of concessions) / lease months. A $1,500 apartment on a 12-month lease with one month free has a net effective rent of $1,375. Underwrite the deal on net effective rent, not the face rent on the rent roll.
This guide shows the math, where concessions hide in the seller's documents, and how to plan for them to fade after you buy. If you are new to the documents, read rent roll and T12 basics first.
How do you calculate net effective rent?
Add up what the tenant pays over the lease, then divide by the number of months.
Net effective rent = (face rent x lease months - total concessions) / lease months
| Lease (made-up examples) | Face rent | Concession | Net effective rent | Cut vs. face |
|---|---|---|---|---|
| 12 months, 1 month free | $1,500 | $1,500 | $1,375 | 8.3% |
| 12 months, 6 weeks free | $1,500 | $2,077 | $1,327 | 11.5% |
| 13 months, 1 month free | $1,500 | $1,500 | $1,385 | 7.7% |
| 12 months, $500 move-in credit | $1,500 | $500 | $1,458 | 2.8% |
Six weeks of free rent is valued here as $1,500 x 12 / 52 x 6, or about $2,077. Any non-rent incentive (a gift card, waived fees you would otherwise collect) counts too if it costs the owner money.
Why does face rent overstate income?
Landlords often prefer a concession to a lower face rent. The face rent sets the starting point for renewals, supports the building's "market rent" in marketing, and can make the rent roll look stronger to a buyer or an appraiser. The cost is real income, and it shows up in the books, not on the rent roll.
That gap matters to you twice. It lowers the income you are buying, and if you value the building on face rent, it raises the price you think is fair.
Where do concessions show up in the seller's documents?
- Rent roll. Usually face rent per unit. Some rent rolls have a concession column or a note on the unit. Ask for the lease file of every unit leased in the last 12 months.
- T12. Often a separate line called "concessions" or "rent concessions" as a negative number under rental income. Some operators net it inside gross rent, so compare the rent roll total to the T12 rent line month by month.
- Leases. The lease or an addendum spells out the free month or credit. A lease audit catches concessions the rent roll does not show.
- Marketing. Check the building's own listings and signs. "First month free" on the sign is a fact you can use in your offer.
A worked example: what the concession costs you
The building below is made up to show the math. It has 60 units at an average face rent of $1,400. In the last 12 months, 30 leases were signed with one month free.
- Face rent on the rent roll: 60 x $1,400 x 12 = $1,008,000 a year.
- Concessions in the T12: 30 x $1,400 = $42,000.
- If you buy and the market still needs one month free, and about half the units turn over or renew each year, you keep giving about $42,000 a year.
- At a 6.5% cap rate, $42,000 of lost NOI is worth about $646,000 of price.
If instead you assume the concessions stop on day one, your pro forma is $42,000 too high from the start.
How do you underwrite concessions after you buy?
- Start from net effective rent. Rebuild year-one income from the actual leases, net of concessions.
- Check the submarket. If new buildings nearby are leasing up, they often offer free months, and older buildings match them. Ask local property managers and brokers what is being offered now, and look at nearby listings. See rent comps for an apartment deal.
- Burn off slowly. A concession ends only when that tenant renews or a new tenant signs without one. With leases spread across the year, assume a phased burn-off over 12 to 24 months, not a jump.
- Budget for renewal shock. A tenant moving from $1,375 effective to $1,500 face at renewal sees a 9% increase. Some will leave, which adds turnover cost and vacancy.
- Separate concessions from loss to lease. Concessions are discounts off face rent; loss to lease is the gap between in-place rents and market rents. Do not count the same gap twice.
- Show it to investors. Put net effective rent and the burn-off plan in the deal summary, so your rent growth assumptions can be checked.
How do lenders and appraisers treat concessions?
Lenders size loans on the income they expect the building to keep. Expect the lender and the appraiser to look at concessions in the T12 and in the market, and to haircut income when concessions are common. Ask your lender early how it will treat them, because it changes loan proceeds and how much equity you raise. See DSCR loans.
How DoorRaise fits in
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FAQ
What is the difference between face rent and net effective rent?
Face rent is the monthly rent written in the lease. Net effective rent spreads the concessions over the lease term, so it is the average a tenant really pays each month.
Do concessions count as vacancy?
No. Vacancy is income lost to empty units; concessions are income given up on occupied units. Show them as separate lines so you can see each one move.
Should I offer concessions after I buy?
Sometimes. A short concession can fill units faster during a renovation or in a soft market. Decide whether a lower face rent or a one-time concession costs less over the expected tenancy, and track both in your reports.
How long do concessions take to burn off?
Only as fast as leases turn over. With 12-month leases spread through the year, a full burn-off takes at least a year, and longer if the market still expects free rent.
Next step: check your vacancy and bad debt assumptions in economic vs. physical occupancy.
Sources
This article is general information, not investment, legal or tax advice. The examples are made up to show the math. DoorRaise is not a law firm, broker-dealer, investment adviser or funding portal.