What Is Effective Gross Income?

Gross potential income is a fantasy number. It assumes every unit is occupied and every tenant pays in full every month. That never happens. Effective Gross Income is the reality number. It is what you can actually expect to deposit into your bank account.

Understanding the gap between potential and effective income is critical for making good financial decisions about your property.

How to Calculate Effective Gross Income

EGI = Gross Potential Rent + Other Income - Vacancy Losses - Credit Losses

Let's define each piece.

Gross Potential Rent (GPR): The total rent you would collect if every unit were occupied at market rent for the full year. 10 units × $1,300/month × 12 months = $156,000.

Other Income: Everything else the property earns. Laundry machines, parking fees, late fees, pet rent, application fees. For our 10-unit building: laundry $2,400/year, late fees $900/year, pet rent $600/year = $3,900.

Vacancy Losses: Rent lost to empty units. If you use a 5% vacancy rate: $156,000 × 5% = $7,800.

Credit Losses: Rent that is charged but never collected. Tenants who skip out, get evicted, or simply stop paying. Budget 1-2% for this: $156,000 × 1.5% = $2,340.

EGI = $156,000 + $3,900 - $7,800 - $2,340 = $149,760

That is your realistic annual income. Compare that to the $156,000 fantasy number and you see why EGI matters. The $6,240 gap is real money you will not collect.

Why EGI Matters

EGI is the top line of your property's income statement. Every calculation downstream depends on it being accurate.

NOI = EGI - Operating Expenses. If your EGI is overstated because you used gross potential rent instead, your NOI is wrong. Which means your cap rate is wrong. Which means you might overpay for a property or overestimate your returns.

Lenders care about EGI too. When underwriting a rental property loan, they will calculate their own EGI using conservative vacancy and credit loss assumptions. If your numbers do not match theirs, your loan application hits a snag.

Real Example: What Happens When You Ignore EGI

You are evaluating a property listed at $400,000 with 8 units at $1,100/month each.

Using Gross Potential Rent (incorrect):
GPR: $105,600/year
Operating expenses: $38,000
NOI: $67,600
Cap rate: 16.9% (looks amazing!)

Using Effective Gross Income (correct):
GPR: $105,600
Other income: $1,800
Vacancy (7%): -$7,392
Credit loss (2%): -$2,112
EGI: $97,896
Operating expenses: $38,000
NOI: $59,896
Cap rate: 15.0% (still good, but $7,704 less in actual NOI)

That $7,704 annual difference is $642 per month in income you thought you had but do not. Over a 5-year hold, that is $38,520 in overestimated income. Using GPR instead of EGI leads to overpaying for properties and underestimating your break-even point.

How to Maximize Your EGI

Reduce vacancy. Fast turnovers, competitive pricing, and strong tenant retention all keep units occupied. Every day vacant is income gone forever.

Reduce credit losses. Better tenant screening means fewer tenants who stop paying. Verify income, check rental history, and call previous landlords. The 30 minutes you spend screening saves months of chasing unpaid rent.

Add other income streams. Look for ways to generate revenue beyond rent. Coin-op laundry ($2,000-4,000/year for a small building). Paid parking spots ($50-100/month each). Pet rent ($25-50/month per pet). Storage units if you have unused space.

Raise rents to market rate. Use your rent roll to compare current rents to market. If you are $100/month below market on 8 units, that is $9,600/year in foregone income. Implement annual rent increases to stay aligned with the market.

Common Mistakes

Using 0% vacancy in projections. No property achieves 100% occupancy forever. Use at least 5% vacancy and 1-2% credit loss. Lenders will use these numbers whether you do or not.

Forgetting other income. Late fees, application fees, and ancillary income are real revenue. Include them in your EGI calculation. They can represent 2-5% of total income.

Using below-market rents in projections. If current tenants are paying $1,000 and market rate is $1,200, you are understating GPR. Calculate GPR at market rate, then adjust for in-place leases separately. This shows the upside potential.

Frequently Asked Questions

What is the difference between gross potential income and effective gross income?

Gross potential income assumes 100% occupancy and full collection. Effective gross income subtracts vacancy losses and credit losses for a realistic revenue picture.

How do you calculate effective gross income?

EGI = Gross Potential Rent + Other Income - Vacancy Losses - Credit Losses. Use actual or conservatively estimated percentages for vacancy (5-7%) and credit loss (1-2%).

Why does EGI matter?

It is the foundation of all property financial analysis. NOI, cap rate, and DSCR all build on EGI. If EGI is wrong, every downstream calculation is wrong, leading to bad investment decisions.