Effective Gross Income (EGI)

Definition

Effective Gross Income (EGI) in finance refers to the total potential income from a property after factoring in losses due to vacancy or non-payment, but before deducting operating expenses. It includes rent and other income from the property, like fees or sales from on-site facilities. It’s a key indicator for real estate investors to assess the income-generating potential of a property.

Phonetic

Effective Gross Income is pronounced as follows:Effective – /ɪˈfɛktɪv/Gross – /ɡroʊs/Income – /ˈɪnkʌm/EGI is an acronym and is usually pronounced by saying each letter: /ˈiːdʒiːaɪ/

Key Takeaways

1. Definition: Effective Gross Income (EGI) is the total income generated by a property, typically in real estate, after accounting for vacancy losses and other non-payment losses. It reflects the maximum amount a property can earn.
2. Calculation: EGI is calculated by taking the potential gross income of a property and subtracting any income lost due to vacancies, non-payment, or rent defaults. Additional income from the property, such as laundry or parking fees, is then added.
3. Usage: EGI is utilized to assess the viability and potential profitability of a rental property investment. It provides a more accurate view of a property’s financial performance than simply considering the gross income.

Importance

Effective Gross Income (EGI) is a crucial term in business and finance as it provides an insightful measure of a property’s potential to generate income. The EGI takes into account not only the potential gross income from the property’s rent, but also other income deriving from the property such as laundry facilities, parking, or vending machines, and forestalls vacancies and credit losses. By considering all these aspects, it offers a more accurate and comprehensive evaluation of the total income potential. This information is essential for investors, creditors, or property owners as it helps them assess the property’s financial viability and aids in making strategic decisions like pricing, purchasing, selling, or investing in real estate.

Explanation

Effective Gross Income (EGI) is a vital metric in financial analysis that is central in deciding the economic viability of a real estate investment or any other business endeavor. The primary objective of determining the EGI is to understand the maximum possible annual income generated by a property or a business without taking into consideration the operational expenses. Typically, it’s an improved measure of total income, as not only it takes into account the all possible sources of income, including base rent, but also additional income sources like service fees, parking fees, or any other ancillary income. The role of EGI is especially significant for investors, financial analysts, and business owners, since it allows them to account for the net revenue generation potential of a property or a business. It is used as a key component in further financial calculations such as finding out the net operating income, understanding the overall capitalization rate, estimating potential for profit, or assessing a property’s or a business’s value. Therefore, knowing the EGI helps stakeholders to make more informed investment decisions, design effective operational strategies, and keep a closer eye on the income generation performance.

Examples

1) Apartment Building: Let’s say you own an apartment building that has 10 units, each rented out at $1,000 per month. The potential gross income from the rental is $120,000 per year. But, in real life, vacancies occur. If on average 1 unit is vacant during the year, the vacancy losses come to $12,000 (1/10 of the potential gross). Therefore, the EGI of the property would be $108,000 ($120,000 – $12,000). 2) Retail Store: As a owner of a retail store, you make $500,000 in annual sales. However, due to returns, allowances, and employee discounts, you need to reduce this total by $20,000. So, the EGI for your retail store in this particular year would be $480,000. 3) Office Space: You’re a property manager for an office building with various units. You have the potential to make $400,000 annually if all units are rented out. However, due to a few vacancies and occasional non-payment of rent, you end up foregoing about $50,000. In this case, the EGI for your office building for this year is $350,000.

Frequently Asked Questions(FAQ)

Related Finance Terms

• Net Operating Income (NOI)
• Gross Leasable Area (GLA)
• Vacancy Rate
• Operating Expenses
• Capitalization Rate (Cap Rate)

Sources for More Information

• Investopedia
• Corporate Finance Institute
• WallStreetPrep
• Fincash