Developed for the National Council of Housing Market Analysts By: Susan Burnett (Goldrush Realty), January 2006.
A market analysis for income properties, that is that includes rental units, requires an estimate of market rent. Depending on the purpose of the study, it could be an average market rent for all units in a defined market area, a weighted average market rent for all units, or for various unit types, ie., studios, one or two bedrooms, etc.
A growing number of users of market studies for income-restricted projects require market analysts to determine whether a planned project’s proposed income restricted rents are sufficiently below market rents for a comparable unit. In the consideration of an income restricted project, many investors, lenders, and state allocating agencies think that the units should have below-market rents to compensate for their limited pool of potential tenants. The below market rents are expected to assure that the units can compete effectively for tenants with market rate units. Typically, lenders and investors indicate that a proposed project should have rents that are at least 10% below the rents the project could attain on the free market. These users require that market rent be applied to specific unit types in a specific project. Thus, there is a need for a standardized definition.
According to NCHMA’s definition, market rent is the rent that an apartment, without rent or income restrictions or rent subsidies, would command in the open market considering its location, features, and amenities. Market rent should be adjusted for Concessions and owner paid utilities included in the rent.
Our organization’s definition suggests that, at a minimum, all estimates of market rents should take into account the impact of concessions and differences in tenant utility costs. It often is necessary to adjust for other factors that have a direct impact on the rents charged within a market area.
Issues to Consider in Determining Market Rents
- Establishing Comparables: Comparable properties are those properties that compete in the same market and with the subject property. Typically they would be similar in location, age, design and amenities.
- Deriving adjustments: Whenever possible direct information from the market should be used. For example, there may be data available from apartment manager/leasing agents as to how they differentiate rents between units as to first or second story, street or interior view, amenities (w/d, fireplace, garage/carport vs. open parking, etc.) size differences, etc. Using charts that illustrate how the adjustments were quantified and applied are both helpful and frequently required. Most end users need the information to help them understand how the final market rent estimate was derived.
- Establishing Adjustments: Adjustments can be expressed as positive or negative and expressed mathematically to adjust the comparables to the subject to derive market rent. That is, either in percentages or $ per unit or $ per square foot.
Factors that Influence Market Rent Analysis
- Concessions: This term refers to discounts from asking rent for a particular unit, unit type or all units in a project. They can be specific to one project or prevalent in a given market. Market rent is modified by discounts. These can take the form of a free rent, free rent spread out over the term of a lease, a reduced deposit or gifts of appliances, club memberships, etc. Thus, market rent is asking or door rent, less concessions. When these adjustments are made, the rent is referred to as effective rent.
- Other Quantifiable Adjustments: Market rent for a particular unit/complex must consider any adjustments common in the subject market. Examples of adjustments are discussed below:
- Utilities: The determination of market rent must consider the utility structure. What utilities are available and which, if any, are included in the monthly rent.
- Project Location: Rent for a unit will reflect location with a perceived better residential location commanding higher rent for a similar unit in a perceived lesser location.
- Project Design: This item could range from simple curb appeal, that is how appealing a project is from the street to ease of parking, floor plans and access to common areas for each unit.
- Project Amenities: This item refers to common area amenities such as open space and recreational and parking facilities. These items are market specific as some amenities considered essential in some markets are of little value in others.
- Unit Features: This item refers to in-unit conveniences such as appliances, type and quality, in-unit laundry, fireplaces, private outdoor spaces, decks and patios. As with project amenities, these items are frequently market specific.
- Tenant Services: This item can include on site management during business hours or 24 hour seven day service, business centers, day care and after school services, concierge services such as laundry and dry cleaning pickup and delivery, etc. Even if there are separate charges for services, their availability leads to higher rents than those projects without the availability.
Potential Red Flags
In any analysis of the market or attainable rent for a particular project the adjusted rent must be considered relative to other competitive projects and in consideration of the history of the subject market and the analyst’s experience.
- There is no precedent for the market rent estimated. This can be true if the rents are higher or lower than the prevailing market rents.
- None of the properties identified as competitive are in fact comparable to the subject in important ways, in particular; location, quality and quantity of unit and/or project amenities.
- When there are no directly competitive properties in a market area, for example, the subject is new construction in a market either without previous construction of rental units or no units have been built for some years. The analyst needs to address why this situation exists and if demand still exists how the comparability of the rents used in the analysis was determined.
- In some cases, a 10% market rent advantage, may not be necessary. Examples may include (1) a rehabilitation project that, in comparison to competing projects, will be similar in age, design, amenities, and tenant profile; (2) a new project with better amenities than any other in the primary market area, and (3) a market when there is limited supply and the restricted rates, although close to market, are affordable to the target tenant.