In simple terms, loss to lease in multifamily real estate refers to the difference between the actual rent and the market rent paid by the resident. The actual rent may also be referred to as a property’s in-place rents.
The actual rent is the rent charged to residents, where the market rent is the rent price that could be charged based on similar units in the same submarket. When the actual rent being charged for a tenant at a property is lower than the market rent, there would be a loss to lease. A gain to lease will occur when units are being rented out at a price higher than the market rent.
When it comes to multifamily properties, loss to lease most commonly occurs when concessions or discounts are provided to residents as an incentive for signing a lease at the apartment complex. An example of this would be one month free from a 12-month lease, etc.
The loss to lease does not indicate that the owner must come out of pocket to pay the loss; instead, it is a loss of opportunity to achieve higher revenue from the property. The loss to lease can indicate various factors, such as the submarket rents that have risen, creating an opportunity to raise rents. A high loss to lease can also indicate poor property management or a lack of exterior, interior upgrades, or amenities at the property compared to properties in the immediate submarket!
Why is the Loss to Lease important for Multifamily Investors?
The loss to lease for multifamily can be a critical metric to analyzing multifamily properties.
When a multifamily investor is underwriting a property with a high loss to lease, this creates a strategic opportunity for the investor to acquire the property and push actual rents closer to market rents.
Depending on the property, this value add strategy could improving operational efficiencies or implementing renovations that will bring the property to the standard of the comps within the submarket.
By implementing the suitable value add strategy, the loss to lease of the property will decrease, and the property value will increase.
Example of Loss To Lease in Multifamily (LtL)
For example, we will utilize the following metrics to calculate the loss to lease of a multifamily real estate property:
Number of units: 20
Actual rent: $1,800
Market rent: $2,000
Based on these figures to calculate the monthly loss to lease, you would multiply the market rent times the number of units times 12 to get the annual market rent. Next, you would multiply the actual rent by the number of units times 12. The discrepancy between these two figures would be the loss to lease. See an example of the loss to lease below.
$2,000 X 20 (units) = $40,000 x 12 = $480,000 annual market rent
$1,800 X 20 (units) = $36,000 x 12 = $432,000 annual actual rent
$48,000 annual loss to lease
The loss to lease is an important term all real estate investors should be aware of and is a good indicator of the strength of the real estate submarket. In some cases, it is also an indicator of poor property management or an outdated property.
Improving the Loss To Lease for any property results in a positive cash flow if done carefully, avoiding the rise in vacancy. It calls for investing in improvements/maintenance and management of the property, which evidently results in the increased value of the property overall.