Understand the 2% rule or the 50% rule

[Daniel Shipman]

I’m new to the investing in real estate world. So I have been doing the 2% and 50% rule and nothing around my area which is central ohio added up a positive cash flow? So say a house that cost 180k to create a positive cash flow would have to rent for 2410/m to break even is that correct or am I don’t the math wrong? But even at that it’s only 1.3% on the 2% rule. So any help would be greatly appreciated. Thanks 

[Evan Polaski]

@Daniel Shipman I think you are trying to mix and match "rule of thumb" tests into one.

2% was last used in roughly 2013.  Then it became the 1%, then the 0.75% rule...  But using the 2% rule, you start with market rent: say it is $2,000/mo, and then back into your purchase price.  In this case, you would need to pay $100,000.  The rule is technically 2% of your purchase price in monthly rent.  But given your purchase price is negotiable before buying, and market rents are driven by market, I start with rent and work backwards.  Either way, 2% is long, long gone.  1% might be more realistic, but still likely putting you in low end submarkets.

The 50% rule is, again, a rule of thumb that says you can estimate your operating expenses at 50% of your rent. So $2,000 in rent will likely have about $1,000/mo in expenses, meaning your NOI before debt service is $1,000. While this may be a fine rule of thumb to roughly estimate cash flow, on a single asset property, it doesn't help much. You could be in a high real estate tax area. You could have higher insurance costs. If the property is in rough condition, and you choose not to fully improve it, you will have higher maintenance costs, etc.

At the end of the day, you need to look at each property on its own.  You can figure out RET and insurance on your own.  You then need to figure out your improvement budget, if any.  Older systems have more repairs, so if you have an old HVAC, you can expect more issues than a new one, and therefore a higher repairs and maintenance line item.  You have to guess at your vacancy levels, your turnover costs, your management fee (including leasing commissions), etc.  All of this will add into your budget.

And of course, the biggest factor is how much money you put down. If you buy the property in cash, your breakeven will be very low. If you buy it on an FHA loan with 3.5% down, you will likely need to get more than market rent to have any positive cashflow.