Definition
Net effective rent is the true economic rent of a lease after adjusting the stated (“faceâ€) rent for concessions and landlord-paid costs such as free rent, TI allowance, leasing commissions, and other incentives. It is typically expressed as $/SF/year and allows apples-to-apples comparison of lease deals.
Why It Matters
In competitive markets, landlords often maintain face rents while increasing concessions. That can make a lease look stronger than it really is. Net effective rent reveals the “all-in†economics—critical for underwriting stabilized NOI, valuing income durability, and comparing competing properties or offers.
Face Rent vs. Net Effective Rent
- Face rent: the rent stated in the lease (e.g., $40.00/SF/yr).
- Net effective rent: face rent adjusted for concessions and landlord costs, expressed over the lease term.
What Typically Gets Included
- Free rent / abatement: reduces collected base rent during the free period.
- TI allowance: landlord cash outlay for tenant buildout.
- Leasing commissions (LC): broker fees to secure the lease.
- Other concessions: moving allowances, signage, above-standard work, rent step-downs, etc.
How It’s Calculated
There are multiple valid ways to compute net effective rent. The simplest underwriting approach is: (1) calculate the total rent you actually collect over the lease term, (2) subtract landlord-paid deal costs, and (3) divide by time and area to express it as $/SF/year.
Simple framework
- Total Collected Base Rent = Face rent × Area × (Lease term months − Free rent months) ÷ 12
- Net Lease Value = Total Collected Base Rent − (TI + LC + other landlord costs)
- Net Effective Rent ($/SF/yr) = Net Lease Value ÷ (Area × Lease term years)
More advanced methods discount cash flows to present value (NPV) and then solve for an equivalent constant rent, which is especially useful when rent has annual steps, expense reimbursements vary, or concessions occur at different times.
Example
A tenant leases 10,000 SF for 5 years at $40.00/SF/yr with: 4 months of free base rent, $25/SF TI allowance, and 5% leasing commission. (For simplicity, assume commissions are based on total face base rent over the term.)
Step 1: Compute total collected base rent
- Lease term = 5 years = 60 months
- Paid months = 60 − 4 = 56 months
- Annual face rent = 10,000 × 40.00 = $400,000/yr
- Collected base rent = $400,000 × (56 ÷ 60) = $373,333/yr
- Total collected base rent = $373,333 × 5 = $1,866,667
Step 2: Subtract landlord costs
- TI = 10,000 × $25 = $250,000
- LC (5% of face base rent) = 5% × ($400,000 × 5) = 5% × $2,000,000 = $100,000
- Net lease value = $1,866,667 − ($250,000 + $100,000) = $1,516,667
Step 3: Convert to net effective rent
- Net effective rent = $1,516,667 ÷ (10,000 × 5) = $30.33/SF/yr
Even with a $40.00/SF face rent, the all-in economics in this simplified example are closer to $30.33/SF/yr once free rent, TI, and commissions are considered.
Common Pitfalls
- Not normalizing assumptions: compare deals using the same method (cash vs. NPV; same commission basis).
- Ignoring timing: TI and LC often occur early, which hurts returns more than later costs.
- Missing pass-through economics: in NNN leases, reimbursements can be meaningful; define what “rent†includes.
- Overlooking renewals and rollover: future TI/LC can materially change long-term cash flows.
- Using market rent comps with hidden concessions: “market rent†may be quoted as face rent.