Definition
Vacancy describes space that is not occupied or not producing rent. In real estate underwriting, vacancy is both a physical concept (empty units or square feet) and an economic concept (lost revenue from vacancy, concessions, and collection issues).
Physical Vacancy vs. Economic Vacancy
Physical vacancy
Physical vacancy measures the portion of units (multifamily) or square footage (commercial) that is unoccupied at a point in time.
Economic vacancy
Economic vacancy measures the percentage of potential rental income that is not collected due to vacancy and related revenue leakage. It often includes:
- Vacant units/space: no rent collected
- Concessions: free rent, move-in specials, discounts
- Bad debt / credit loss: uncollected rent from delinquency
- Loss-to-lease: in-place rents below market (sometimes tracked separately)
Common Formulas
- Physical Vacancy (%) = Vacant units (or SF) ÷ Total units (or SF)
- Occupancy (%) = 1 − Physical Vacancy (%)
- Economic Vacancy (%) = (Gross Potential Rent − Effective Gross Income) ÷ Gross Potential Rent
Why Vacancy Matters
Vacancy is one of the fastest ways NOI can change. Higher vacancy reduces revenue while many expenses remain fixed (taxes, insurance, payroll, debt service). Vacancy also signals the health of product-market fit: pricing, management, unit condition, amenities, location, and competition.
How Investors Underwrite Vacancy
- In-place vacancy: what is empty today (and why).
- Stabilized vacancy: a long-run assumption for normal turnover and frictional vacancy.
- Market context: compare to submarket vacancy, absorption, and new supply deliveries.
- Unit-type reality: studio vacancy can behave differently than 2-bed demand.
- Collection risk: delinquency trends can turn “occupied†units into economic vacancy.
Example
A 100-unit apartment property has 7 vacant units. Physical vacancy is:
- Physical Vacancy = 7 ÷ 100 = 7%
If gross potential rent is $200,000/month and the property collects $186,000/month after concessions and bad debt, then:
- Economic Vacancy = (200,000 − 186,000) ÷ 200,000 = 7%
In practice, physical and economic vacancy can diverge: you can be physically “full†but economically leaky due to concessions or collections, or physically vacant but financially protected if rents are higher and turnover is managed.
Common Pitfalls
- Using a point-in-time number: one month’s occupancy can hide seasonality and turnover.
- Ignoring concessions: a “high occupancy†property can still have weak economic occupancy.
- Not adjusting for renovations: down units and turns can temporarily inflate vacancy.
- Overconfidence in pro forma lease-up: future occupancy gains should be tied to evidence (rents, comps, marketing, supply).
- Forgetting fixed costs: vacancy hurts more when fixed expenses or debt service are high.