Thousand Oaks, CA · Member since 2017 · 11 posts · 5 votes
I've been reading about the 50% rule (a quick way to estimate expenses being 50% of gross rental income) and have tried to apply it to properties for sale and it always comes out consistently too high. The numbers I'm coming up with are that expenses are around 30-35% of gross rent. I just want to make sure I'm not missing something or being unrealistic.
In my area near Los Angeles, it would be realistic to find an average SFR for about 500K and have rent come in around 2500-2800/month. Assuming rent of 2700 here is what I'm calculating monthly expenses could be:
10% repairs and capex - $270
5% vacancy - $135
3% insurance - $81
17% property taxes - $450
Which comes out to 35% total. Is there something I'm missing?
Investor · Kansas City, MO · Member since 2017 · 791 posts · 1k+ votes
9y
The 50% is a VERY general rule of thumb. Expenses will typically be less as a percentage on higher dollar rents. Why? Think of the cost of an HVAC service call and repair to the monthly rental amount of $2,800. That service call and repair won't be much less at a property that rents for $800, but represents a lot higher percentage of the rents.
Rental Property Investor · East Wenatchee, WA · Member since 2014 · 10k+ posts · 16k+ votes
9y
The crucial expense missing in the initial post was management. We need to account for that even if we plan to DIY. Some day you will want management most likely, but at what %?
14%! 10% is a pipe dream. By the time you pay your lease-up/vacancy-fill fees, extra vacancy from turns taking longer, (with mark-ups) and are charged for the maytag man to fix every little thing you will see expenses closer to 50% of gross with rents below $1k as a mom and pop owner. Large quantity owners and/or large complexes will see economies of scale though.
The management fee is what gets most to 50% and kills their returns.
@Cody L. Right?? I admit I'm relatively new to this, but checking probably 100 different properties across 5 different suburbs of LA, monthly rents seem to be consistently 0.5 - 0.6% of the purchase price. Which is making me realize how important it is to begin using methods of locating properties that are off market.
Chris,
This thread reminds me of the purchase I made in Feb 2013. I paid $440k for a SFH, which I rented back to the former owner for $2,700/mo or about 0.6% RTP ratio. At the time, the appraisal came back at $650k for it. I knew I got a good deal. How long does it take to get $210k in cash flow even if the property were to cash flow $500/mo? $1k/mo? Fast forward 4.5 years, it's now worth $900k, and the rent is $2,900/mo.
Had I listened to BP folks back then, it would have been either a bad purchase due to 0.6% ratio, or they would have told me to flip it as it's a bad buy and hold. Interest rate was low so I was able to lock in a 30-year fixed at 3.75% for an investment property. I put 25% down, and my PITI was less than $2,100/mo. I figured $600/mo net of cash flow can float quite a bit of repairs and maintenance, etc... while the tenant is paying down about $500/mo of principal. All I can say is KNOW YOUR MARKET. These folks have good intentions, but they don't know your market like you do.
At the time of the purchase, I told the current tenant/former owner that I will only increase his rent $50/year as long as he lives there knowing he was planning to retire between 2-6 years. Fair market rent for it now is $3,600-$3,900. During his stay, he texted me once for repair, and the heater repair bill was $270. He's retiring next year and moving to Puerto Rico. He'll be living large with his pension there while I can bring the rent to fair market.
It's such a good property that I intend to keep and pass it down to the next generation. There goes another property that will not be available for purchase for another 30-40 years, which will choke supply in San Jose and help to increase property value further.
@Todd Dexheimer I typically request tax return schedules, not many people will understate their deductions to the IRS :)
And do many people give them to you? I've never asked for them as a buyer, and only been asked once as a seller (I said "no"). I've learned that someones actual true costs are not indicitive as what I'm going to see as I operate in my own way with my own cost structure. As such, even if they're being "honest" with the IRS, what they've reported isn't gospel with respects to what I'll see.
And likewise, if they're some tax cheat and claim to the IRS that the property is empty, that doesn't reflect what I'll see either.
Nothing can replace having a good understanding of how the property should perform in YOUR hands. I just bought a "2 CAP' property that'll be a cash cow for me. Thankfully their financials scared off most people that couldn't understand what they were looking at.
Flipper/Rehabber · Minneapolis, MN · Member since 2016 · 1k+ posts · 1k+ votes
9y
@Cody L. I am with Todd, I haven't had a problem getting them either. Of course they mask their personal information and other properties if on the same Schedule-E.
It is also something I request towards the end, if everything is a go. I don't rely on them a lot but they are more or less to double check my numbers and also to see whether they were lying on information they previously provided. Not uncommon for them to understate utilities a little bit. Sure they were maybe going with the current month but that cost is different in January in MN!