Many tenants ask what is the difference between the effective rental rate and the asking rental and how is the effective rate calculated? The asking rate is what the landlord officially quotes for any given building. However, most tenants need to know what is the likely ‘bottom line’. This is known as the effective rate, which is the lowest rental rate, after negotiations, averaged out over the term of the lease, after factoring in any rent free holiday.
The agent’s experience should help give a reasonably accurate guide on how much room there is to negotiate on the signing rent. There are many factors that influence this including the occupancy rate of the building, the vacancy rate for the location, the type of landlord (private owner or big real estate company), calibre of the tenant, size of the space leased, length of lease etc.
Once the lowest signing rate has been negotiated, the agent should negotiate on any extra rent free holiday that might be possible. Some landlords try to keep the ‘signing rent’ as high as possible and in return offer additional rent free holiday. However, most tenants want to keep the signing rate as low as possible and forgo any rent-free holiday. So the middle ground is to look at the effective rate, which in essence is what the tenant actually pays over the course of the lease divided by the number of months – so it can be defined as the average rental paid per month.
If a tenant is basing their budget on an effective rate, a building just outside a budget limit may come just within budget. Say for example a tenant’s budget is $9.50 per sq ft (psf), but has to sign at $10.00 psf. If the tenant manages to secure two months of rent free holiday on a lease for 3 years, the average effective rate calculates to $9.44 psf.
$10.00 psf x 34 (months payment) divided by 36 (months use) = $9.44 psf
Some landlords try to disguise part of the rent-free holiday by giving an extending fitting out period (tenants can still use the premises even if the fit out is finished early). Take the above example, but one month rent free is inside the lease term and the other month is outside. The calculation is the same, but extended over a longer period.
$10.00 psf x 35 (months payment) divided by 37 (months use) = $9.45 psf
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