If you are renting a property for a year or more, the landlord likely will want an annual rent increase. This is to combat inflation, where every dollar paid is worth less as time goes on. One of the fairest ways to increase rent is to base it on the Consumer Price Index. CPI-linked increases are relatively common in commercial leases, so if you're leasing business premises, there's a fair chance your landlord will use this method to raise your rent.
What is CPI?
Created by the Bureau of Labor Statistics, CPI is a measure based on the cost of living. Essentially, you're pricing up the same basket of consumer goods each month — milk, breakfast cereal, gasoline, prescription drugs and so on — then determining whether that price is going up or down. When the price goes up over six to eight months, there's inflation. When the price goes down, the economy is experiencing deflation. The government uses CPI to fairly increase the amounts of benefits it pays to certain people. In the real estate sector, landlords use CPI to increase rent in line with inflation.
Choose the Right Index
A typical CPI rent review clause might state something like this: "The rent shall increase on each January 1st by the increase in CPI over Base Index. The Base Index is the CPI figure published immediately prior to the lease commencement date." Somewhere in the lease, you'll find a definition of "CPI." That's because the BLS doesn't just publish one national CPI; there are several indices based on geography, type of consumer and the type of goods in our hypothetical basket. Generally, you'll use the "All Items Consumer Price Index for All Urban Consumers" index, which is the one you hear quoted by the media. However, your lease might specify a different index such as one that's specific to the location of the property. Read the rent increase provisions carefully.
Gather Your Information
You need three things to run a CPI calculation: the amount of rent you're presently paying, the last CPI figure published before the rent increase date, and the last CPI figure published before the least start date or whatever base date is being used. The lease will always reference a fixed base date such as the lease start date or the date of the last rent increase. You can find current and historic CPI figures at the BLS Consumer Price Index website online, or call one of the dedicated CPI hotlines for regional data. Currently, the BLS publishes geographic data for 17 metropolitan areas.
Find the Index Adjustment Multiplier
The hardest part of your calculation is figuring out how CPI has changed between the base index date and the current index. We call this change the "index adjustment multiplier." Mathematically, the calculation looks like this:
(Current index - base index)/ base index = index adjustment multiplier
Suppose, for example, that last CPI published before the date of the lease (base index) is 192.4. The last CPI published before the review date (current index) is 199.6. Plugging these numbers into the formula, you get:
(199.6 -192.4) / 192.4 = 0.037
The figure 0.037 or 3.7 percent represents the effective rate of inflation or how much the price of goods has gone up since the date of the lease.
Find the New Rent
Once you've calculated the adjustment multiplier, all you have to do is multiply it by your current rent. So, if your rent is $10,000 per year, $10,000 multiplied by 0.037 is $370. This means your rent will go up by $370 and your new rent will be $10,370 per year. Come next January 1st, you would plug this new rental figure — $10,370 — into your formula to find next year's rent.