What’s the ‘1% Rule’ When Investing In Real Estate?
This Is How You Can Use This Tool To Speed Up Your Evaulation Process.”
By Van Sturgeon
Real Estate Investor
You have read or heard real estate investors talk about the 1% Rule, and wonder what it was all about.
The 1% Rule is a simple real estate calculation that gives you a good and quick assessment on whether a property is worth further analysis. You'll discover in your real estate journey that you will have to kiss a lot of frogs out there in the marketplace, until you find your Prince Charming...a property worthy of your hard earned dollars.
I would imagine that you are like many other real estate investors who have a goal of reaching financial freedom and a monthly income goal in mind. Your goals are much more achievable by getting into a system where you are able to analyze properties quickly, so that you can determine whether the property is right for you. Many real estate investors use the 1 % rule as a good formula to start with when quickly analyzing your potential investment property.
The 1% Rule is a calculation that will give you a good indication that this real estate deal will provide you with a monthly cash flow that is 1% or more of the total purchase price.
Now...you have to be careful with this calculation as many real estate investors have variations on what to include and not include in their number crunching. This calculation can be different depending on what you include for the total expenses of the property. For example, some investors will include renovations, repairs, and closing costs into the calculation.
There are many variations to the 1% Rule so you need to sit down and figure out YOUR 1% Rule and apply it to the properties that you are analyzing.
Here’s an example of a 4 unit property that we can use, so that you understand how the 1% Rule is calculated by me...Let’s assume that the purchase price is $500,000.
PROPERTY PURCHASE PRICE X 1% = MONTHLY RENT
$500,000 X 1% = $5,000
That’s it! Very Simple!
Now...you start your analysis of the property by figuring out what the total amount of rent is collected on this property in an average month. If the monthly rent total for the property meets or exceeds this amount, then you might have yourself a winner and you move on to further analysis of the property.
Keep in mind that this 1% Rule is contingent on the area that you are looking to invest. Some areas are very difficult to find property that comes even close to the 1% Rule, and you either have to go look at other areas in the market or adjust your expectations.
You can use the 1% rule for, single family rentals, duplexes, triplexes, etc. It’s a great starting point when analyzing a bunch of properties quickly to see what ones are worth more time.
Here are a few other points to consider when looking for great cashflow properties…
- Location: What is the city/area like?
- Jobs: is there good paying jobs in the area? Multiple sectors to stimulate the local economy?
- Rental Market: What is the vacancy rate in the area? How long has the property been on the market.
- Property value: Are properties in the area appreciating in value
- Transportation: Roads, buses, subway, go stations, airports, etc?
- Property Inspection: What is the overall condition of the property
- Fire Code: Is the property up to code and safe for your tenants
- Zoning: Does the property permit the current use? Is it legal or legal non conforming?
As mentioned before there are also many other expenses to consider such as closing costs. Did you include these into your total cost?
- Legal fees
- Property inspection
- Appraisal fee
- Title insurance
- Land survey
- Corporate fee
- Loan fee
Another important expense you want to consider is operating cost!
All rental properties will have ongoing operating expenses that need to be factored into your decision. If you find a property that meets the 1% rule you have a nice rental income to help cover these expenses.
Many new investors forget to consider these when analyzing deals.
- Property Insurance
- Property Tax
- Property Management
- Maintenance expense
- Condo Fee (If applicable)
- Pest control
- Emergency fund (I recommend a minimum of 3 months carrying cost on the property)
So...you can see that there are many factors that need to be analyzed before making a buying decision...
The bottom line is that if you find a property that meets the 1 % rule, it's worth some more of your time to analyze and see if it makes sense for you. This is a good screening formula for real estate investors.
For more information on house renovations and real estate investing, visit www.vansturgeon.com to help you in your real estate investment journey.