Potential Gross Income

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21 Aug, 2024

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Potential gross income (PGI) is a property's total rental income if all its units are occupied and generating rent at their maximum possible rental rates. The purpose of this income is to provide a clear understanding of the revenue-generating potential of a property or investment.

Potential Gross Income (PGI) measures the maximum possible rental income a property could generate if all its units were rented at their entire market rental rate. Hence, it is a valuable tool for real estate people to evaluate the income-generating potential of a property and make informed decisions about investment opportunities. Moreover, it is a helpful metric for investors, property owners, and lenders to evaluate a property or project's revenue potential and investment viability.

What Is Potential Gross Income (PGI)?

Potential gross income is a real estate term that refers to the total income a property could generate if it were fully occupied and rented at market rates.
It is the maximum rental income a property could earn, while effective gross income is the collected rental income.
Hence, it is commonly used in real estate analysis, particularly in evaluating rental or income-producing assets.
It can be calculated by multiplying the annual market rent by the total number of units and adding it to other incomes.

Potential Gross Income (PGI) Explained

The potential gross income (PGI) refers to the total rental income a property would generate. It represents the maximum income a rental property can generate under ideal circumstances, assuming all units are fully occupied, and all tenants are paying the market rent.

Additionally, this income serves various purposes, including,

Investment evaluation
Market Comparison
Financing and lending
Cash flow projections
Business planning and budgeting

Furthermore, this gross income is essential for real estate investors, property managers, and appraisers. Since it serves as the basis for determining a rental property's value and potential profitability and is calculated on an annual basis. Moreover, it is used as a starting point for figuring a property's net operating income (NOI), which is the income left over after all expenses have been deducted.

Therefore, it is vital to note that the annual potential gross income represents the maximum possible income and doesn't consider vacancies, concessions, or other factors impacting the revenue generated. However, to determine the potential gross income of a warehouse, factors such as the rental rate per square foot and the total available square footage of the warehouse should be considered.

However, it should be used in conjunction with other financial metrics and factors to gain a complete understanding of the investment's income potential and profitability.

How To Calculate?

The potential gross income (PGI) is the total income a property could generate if all its units were rented out at their maximum possible rental rates. To calculate this income, the following steps are to be considered:

Determine the rental rate for each unit: This is the maximum rent you could charge. You can base this on the rental rates of similar properties or consult a local real estate agent.
Multiply the rental rate by the number of units: After determining the rental rate for each unit, multiply that rate by the number of units in the property. It will give the total potential rental income.
Add other sources of income: In addition to rental income, there are other sources of income for the property, such as laundry facilities or parking spaces. Add these amounts to the total rental income to get the potential gross income.

Therefore the formula for potential gross income is as follows:

Potential gross income = Total number of units x Annual market rent + Other income

Examples

Let us look at gross income examples to understand the concept better:

Example #1

Let's assume Joseph has a rental property with 20 units. The maximum rental rate for each unit is $1,500 monthly. In addition, the property has a laundry room that generates $800 per month and a parking lot that generates $1,200 per month. To calculate the potential gross income, Joseph would use the following formula:

PGI= (Monthly Rental Income x Number of Units) + Other Sources of Income

= ($1,500 x 20) + ($800 + $1,200)

= $30,000 + $2,000

Potential Gross Income = $32,000

Therefore, the maximum potential income for this rental property is $32,000 per month.

Example #2

Suppose the building in the US has 15 units, ten retail stores, and five office spaces. The maximum rental rate for each retail store is $5,000 per month, while the total rental rate for each office space is $3,000. Additionally, the parking lot generates $2,000 per month in income.

Using the formula, the potential income for this commercial building would be:

= (Monthly Rental Income x Number of Units) + Other Sources of Income

PGI = ($5,000 x 10) + ($3,000 x 5) + $2,000

= $50,000 + $15,000 + $2,000

= $67,000

Therefore, the gross income for this commercial building is $67,000 per month. Thus, if all units were rented out at their maximum rental rates and the parking lot was fully utilized, the facility could generate up to $67,000 monthly income.

Potential Gross Income vs Effective Gross Income

The differences between potential gross income and effective gross income are as follows:

Basis	Potential gross income	Effective gross income
Meaning	It refers to the maximum amount of income a property could generate if all of its units were rented at their maximum possible rental rates	Effective gross income is a property's actual income after accounting for vacancy and collection losses and adding other income sources.
Factors	Considers factors like rental income potential of a property and does not account for any vacancies or other potential income losses.	These consider the property's income, including vacancies and other income sources such as parking fees or laundry income.
Usefulness	Therefore, it helps assess a property's income potential and determine its market value.	They help evaluate the actual financial performance of a property, including its ability to generate income and cover expenses

Frequently Asked Questions (FAQs)

1. Can potential gross income change over time?

Yes, potential gross income can change over time due to various factors. Rental rates may increase or decrease based on market conditions, vacancies can occur, and property expenses can fluctuate. Hence, it's important to regularly reassess and update the PGI based on current market conditions and the property's performance.

2. Is potential gross income the same as net income?

No, this income and net income are not the same. The former presents the maximum possible payment without considering any expenses or deductions. Net income, on the other hand, considers expenses such as vacancies, operating fees, and additional costs and represents the actual income after deducting these expenses.

3. How does potential gross income impact property valuation?

This income is vital in property valuation, especially in real estate. Moreover, it helps determine a property's income potential, a crucial consideration for buyers, sellers, and lenders. Therefore, potential gross income, along with other factors, is used to estimate the value of a property based on its income-generating capacity.