1% Rule - Realistic?

41 Replies

I know we're all read about the 1% when it comes to real estate investing.  For those who don't know what it means, it goes like this -

  • A property that costs $100,000 should rent for at least $1,000 per month
  • A property that costs $200,000 should rent for at least $2,000 per month
  • A property that costs $300,000 should rent for at least $3,000 per month

So on and so forth.  

The markets I'm in (and feel like I'm successful in), these numbers are very difficult to attain - specifically when you get about $150,000 purchase price. Granted, I focus in the SFR territory so I'm sure it's more attainable in multi-unit deals but I seem to settle more in the 0.7-0.8% realm. Is this more of a rule of thumb for multi-unit deals? Should this also apply to SFRs? Any input would be greatly appreciated!

@Bryan Beal

I'm getting about 1.5 all the way to to 2.25 on my rentals. I'd look in different areas if I was you

Its one of many 'math numbers' to consider but its still important. I'd rather be in an market that is appreciating than to get 1%+ with little or no long term growth. Often I started at .8 and its grown to 1%+ after 3-5 yrs. SFH, townhomes, condos are similar metrics, MFH may have a higher or 1% now but generally are older and will require higher maintenance costs.

@Earl McFarland thank you. That’s where I’m at - these markets I’m in have a solid long term potential while cash flowing well enough for now. Appreciate the input!

@Bryan Beal personally mine are 40-80k. I'm in indianapolis. rents will usually keep up with the 1 percent rule till about 150-180k range. after that they fall off a little. That is if you buy smart.

@Bryan Richardson well that makes a lot of sense at that price point. I’m buying in the $200-$250 range so it’s tough to get to that 1%. Maybe it’s just tough in general to get to that number after you got that $150 range...

@Bryan Beal , I do BRRRR. So, I can buy and rehab a distressed house for $35k and rent it for $850 or maybe buy and rehab for $45k and rent for $900.

If I were to buy C class single family homes and rent them in my area instead of rehabbing, I could find $40-50k homes and rent them for $800 without an issue. 

The 1% rule is a rule of thumb. In many markets its around the bare minimum for a house to cash-flow. So, it can be an easy way to screen out deals that won't work without detailed analysis.

Yeah, I do SFR Class A/B in very good neighborhoods and high rents, yielding less than 1% rule. I'm about 0.8% of the 1% rule, but I do have high HOA costs. The up side is appreciation and good tenants, less recurring maintenance, vacancy is very low also. Market is always hot and properties will sell fast if needed. Still cashing flow about $200/month.

@Josue Vargas that’s EXACTLY where I’m at. Appreciate the input!

For me 1% is more than realistic it is a mandatory minimum. SFHs are terrible investment for cash flow. More suitable for speculating on appreciation.

Without meeting a minimum 1% they are really not worth investing in as rentals. 

@Bryan Beal I’ve typically been between 1 percent and 3 percent purchase price to rent ratio. Higher ratio (stuff around 2 percent or higher) cash flows a lot better for me personally

@Bryan Beal yes, the 1% rule is realistic in numerous markets, however, every investor is different and has different goals.

There are many here that want immediate cash flow and typically the homes that are lower in price will achieve the 1% to 2% but these SFR's typically don't appreciate as much.

If you're able to achieve your goals on achieving the 0.7-0.8% than that's okay and you don't have to be at 1%.  The 1% is only a guideline.

I personally invest out of state to achieve the 1% rule and often achieve 1.5% then invest in Southern California and Los Angeles for appreciation.

@Bryan Beal the 1% rule is a freakin HOAX. Run in through any commercial lenders debt coverage requirements and see if any of them even finance the property. Conventional lenders just look at you, the buyer. They don't care about the property's cash flow. So they'll let you buy any bad deal if you've got the income for it.

I've recently put together a 1% deal calculator to demonstrate realistic income and expenses on a different post.

Here's the link: Summary. 3% cash on cash return with normal expenses and a .87 debt coverage using US Bank's commercial division pro-forma. 1.25 debt coverage ratio is required to fund the loan. 1.00 debt coverage means you're breaking even each month. Don't use that rule. Build a pro-forma to put each property through a real income and expense analysis rather than using rules of thumb. 

I think your numbers are a bit aggressive. Owner utility on a duplex $100. Most of the duplex's I have run into have their own meter. While I understand using a percentage for maintenance, 2400 a year feels a bit high. Assuming you don't need a roof or A/C, spendings $2400 in a year is unusual. I prefer to take an actual cost approach (cash accounting).  The assumption that I am going to hold a savings account and add 3600 a year per property is not what I would consider sensible approach.  

With that said some lenders may include a hold back in the DSCR (debt service coverage ratio). I cannot explain why or how banks come up with their underwriting criteria They live in a world of Geoffrey Dollars (Toys R Us Reference) . Many solid deals do not get written because of arbitrary rules that may not have existed a few years ago or may not in the future. The real world of RE investing bears little resemblance to lending. Some lenders pull out depreciation from personal income and others do not. Depreciation is only on paper, further it increases actual dollars in your pocket not decreases.

      

My point is projections are just that.  They can be manipulated to say anything you want.  Add percentages for trash,  utility and landscape and the deal goes down in flames.  There are very few actual numbers available in advance (mortgage & tax, insurance) the rest are only available after the period closes.   

Originally posted by @Elliott Elkhoury :

@Bryan Beal the 1% rule is a freakin HOAX. Run in through any commercial lenders debt coverage requirements and see if any of them even finance the property. Conventional lenders just look at you, the buyer. They don't care about the property's cash flow. So they'll let you buy any bad deal if you've got the income for it.

I've recently put together a 1% deal calculator to demonstrate realistic income and expenses on a different post.

Here's the link: Summary. 3% cash on cash return with normal expenses and a .87 debt coverage using US Bank's commercial division pro-forma. 1.25 debt coverage ratio is required to fund the loan. 1.00 debt coverage means you're breaking even each month. Don't use that rule. Build a pro-forma (or make a copy of mine (below) to put each property through a real income and expense analysis rather than using rules of thumb. It's view only, so make a copy of it and use it!

https://docs.google.com/spreadsheets/d/1PgLY0eEdYV1qJVlyUUJUOrSDf1KpoNU7WaCswPGIxKI/edit?usp=sharing

@Bryan Beal So the 1% thing is definitely realistic, but I see you are in the LA market as for me I'm in Portland Oregon in these hot markets it is very hard to find a 1% deal. I think you just have to get creative. Something that I just started is on my SFH I will rent each bedroom out separately and most of the time that will put you into the 2% range.

But from my experience if you don’t meet the 1% rule doesn’t mean that the deal you have is a bad deal. I think it more along the lines of if you meet it you definitely have a great deal.

I would have a minimum of 2% but shoot for 4% which I have got . I have a 4.5% triplex

I get 4%+ in Portland but I did have to wait a while-uh that would be 28 years, but who is counting. The real return has been appreciation. With the 50% rule you are talking a 3 cap or 1/2% and it has been that way a long time. Appreciation drags rents up and it is easy landlording with happy renters. 

The value add people are the only ones around here making a decent return from rents and you need to know what you are doing.

@Bryan Beal

In my local market, I can only get that to work on MF, buying something that needs a little work. Have a 4-plex that comes in around 1.4%. Buying in the Midwest you can get that easily. SFR:

$23k - $700 rent

$34k - $800 rent

$34k - $800 rent

$42k - $900 rent

My issue with the 1% rule is that the worst areas provided the highest rent to cost ratio.   Newbies learn the 1% rule and think it accurately reflects return but in many areas it reflects the effort/risk.

In my market I can get duplex to quad at close to 1% that I would not desire in my RE portfolio.  I realize that if I am at 0.7% to 0.8% in a better area my cash flow is not worth the effort of owning/operating. 

So what do I do: I look for value adds and through the value add force appreciation. This results in some instant ROI (a lot if I refinance to take out much of my investment). It also results in a increase to the rents that helps the cash flow compared to purchase cost and/or what I have invested in the RE (but not typically to the RE value).

Therefore the 1% rule can indicate expected cash flow only when comparing similar properties.  If I have a RE at 1% in the hood and a property at 0.8% in a B- area, I suspect the actual cash flow will be greater on the 0.8% RE.

I think it's all dependent on your goals. For me - I use the 1% rule and my main focus is cashflow while getting the highest amount on a unit (who isnt??). That being said if you're OK with your returns and your'e cashflow positive - does it really matter if its .8 or 1%?? 

Again I really think it's a matter of opinion and your goals.

I would stick in Southern California and not migrate to "higher return" areas like the Midwest.   You can make more money locally.  But the strategy is going to be different.  

We invest in row homes 70,000 with rents at 1100. Taxes 3000.  I am older and am looking for cash flow. Also look for 20% net cash on cash.  I have invested in limited partnerships that were all about appreciation that did well. 

I feel it is all about the objective appreciation vs cahflow.  As I said I am 62 and only care about cash flow and no headaches. 

So define your objectives and go for it

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