Residential Real Estate Investor · Kansas City, MO · Member since 2014 · 10k+ posts · 5k+ votes
I am not a fan of the 2% rule, although I will say I think rent/cost is my favorite calculation. We usually determine what type of rent/cost we can accept in any given area and go from there. According to Gary Keller, the national average is 0.7%. Pushing for 2% at all times, I fear, will push investors to war zones with bad contractors doing subpar rehabs.
Cash flow is also variable, for example, a property you're all into for $20,000 that rents for $400 will not cash flow as well as a property you're all into for $40,000 that rents for $800 even though the ratio is the same. The fixed costs of maintenance, turnover and what not outweigh the more variable costs of taxes and debt service. Insurance can even have an inverse relation to price.
We've gotten 2% before quite a few times, but in our lowest end areas. In the nicer areas, we get more like 1.5%, but do just fine. In our nicest, it's around 1.3%, which is tight, but the appreciation potential is better. So in other words, I don't think the 2% rule is very good, what are your thoughts?
Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
12y
Before we start discussing whether a rule is good or not, I think we should all be on the same page as to the definition of that rule...
For me (and I think for many others here), the 2% Rule simply states that, "If your gross monthly rent is at least 2% of the purchase price of the property, the investment is likely a good one."
To say that the 2% Rule is a bad rule would be to say that you could be earning 2% of the purchase price in gross monthly rent and the deal is still likely not good. And I'm pretty sure that's not what you're suggesting.
In my opinion, the 2% Rule doesn't say that an investment that doesn't meet this threshold is not a good investment; only that an investment that does meet the threshold *is* a good investment.
This has been discussed in many other posts here on BP. The end result of every conversation is that the 2% rule is not a law and it changes based on location. It is just a quick measuring rule for investors. It is probably best just to use 2%, 1.75%, and 1.5% to get a general idea. Personally I just use a spreadsheet provided in the FilePlace by @J Scott to see what I am willing to pay and how the numbers work out.
Madison Heights, MI · Member since 2014 · 471 posts · 132 votes
12y
The higher the rent to price ratio, the better, IMO. I just purchased a property that will gross almost 5%.
I first learned about RE investing from Carleton Sheet's book. They mention that a property should have at least 1% to have cash flow. I think 2% is more conservative and can help new buy and hold investors to avoid not being able to pay the bills.
This has been discussed in many other posts here on BP. The end result of every conversation is that the 2% rule is not a law and it changes based on location. It is just a quick measuring rule for investors. It is probably best just to use 2%, 1.75%, and 1.5% to get a general idea. Personally I just use a spreadsheet provided in the FilePlace by @J Scott to see what I am willing to pay and how the numbers work out.
I kinda figured it had been discussed before, but I haven't run across a thread on it. I would be interested in viewing that spreadsheet, is it publicly available? Thanks
SFR Investor · Dallas, TX · Member since 2011 · 604 posts · 243 votes
12y
There are a lot of "rules" which are really just general guidelines to START looking at a deal.
Two years ago I might get close to 2%, today at 1.5% I'm a really happy camper.
I'd rather buy at 1.3% in an up and coming area, than at 2%+ in an area that is dying...
It's really according to what your looking for, what your goals are,,if you want to just invest for cash flow, go into war zones and go for 2%+, that's just not what my business plan is
Rental Property Investor · Manteno, IL · Member since 2009 · 2k+ posts · 2k+ votes
12y
The 2% rule has no value other than to say that, if you got it, you're going to cash flow really well. That being said, there are so many variables to investing as to what makes a good deal, I don't know what else you would do.
My rule of thumb is gross profit. I want my deals to have a gross profit (i.e profit before maintenance and vacancy) of around 350 to 400 for me to do the deal. But there are exceptions to that too.
If the house is built in the 90's, I might take less because it will be so much easier to rent and likely need a lot less repair than one built in the 70's, etc.
To me, the 2% rule though is completely slanted to the low end homes. If you're market is 150k homes, and you're getting all in at 100k (65% roughly), then the house would have to rent for 2k? Thats just not happening in most areas of the country. Maybe 1300 to 1400 tops.
I think the 2% rule is more like 80k houses that you're all in at 55k and rent for 1100. That might be more doable. But in most areas that I'm familiar with, that also means a pretty low appreciation type area.
So maybe a low end buy and hold investor might take that 2% rule to heart. But everybody else in here simply has to have another way to factor a good deal.
Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
12y
Before we start discussing whether a rule is good or not, I think we should all be on the same page as to the definition of that rule...
For me (and I think for many others here), the 2% Rule simply states that, "If your gross monthly rent is at least 2% of the purchase price of the property, the investment is likely a good one."
To say that the 2% Rule is a bad rule would be to say that you could be earning 2% of the purchase price in gross monthly rent and the deal is still likely not good. And I'm pretty sure that's not what you're suggesting.
In my opinion, the 2% Rule doesn't say that an investment that doesn't meet this threshold is not a good investment; only that an investment that does meet the threshold *is* a good investment.
Investor · Willow Spring, NC · Member since 2009 · 5k+ posts · 3k+ votes
12y
I also agree with J Scott. This Rule... OF THUMB is for an affirmation of the "gut indicator" that "...the investment is likely a good one."
I'd contend that 2% deals exist in more places that the average REI realizes. I say this after doing some analysis. See my post on 12/23/2013 in this thread. http://www.biggerpockets.com/forums/88/topics/110262-thinking-of-an-investment-in-a-hedge-fund The example was in an area I was told "it is impossisble to find a 2% rule property. PERIOD." But it happens. Granted, this was not SFR... but a "720 unit complex, with average rent of $1,487 per unit and "Financial reporting cost" of $53.528M.... $1,487 / ($53.528M / 720) = 2.000%"
I also showed a Metro NJ complex at 1.6%... yes they FAILED to get 2%. Today. This is a $201K per unit property. $3,255 monthly average rent for an (average) 1,143 sq.ft. place. In a few years, they may well be at 2% or better. Note that many other investors are very happy with 1%. Which leads me to....
Upshot: If you insist that you can't acheive 2% (or 1.5% in the coastal states) in your acquisitions, then analyze the area you invest in and see if anyone else is making that mark. Personally, I can in my area. I've done it in non-war zone areas in multiple locations in Wake county. My current project is about 1.5% (@2015 rent rate) acquired in 2014. 2011 acquisitions were closer to 2% and 2016-8 were at 2%, some better. Not war zone.
The 2% rule of thumb (in many areas) forces you to find deals you didn't know you could find. In my mind, in markets where 1% is the norm, that is kind of the point. Do better.
Before we start discussing whether a rule is good or not, I think we should all be on the same page as to the definition of that rule...
For me (and I think for many others here), the 2% Rule simply states that, "If your gross monthly rent is at least 2% of the purchase price of the property, the investment is likely a good one."
To say that the 2% Rule is a bad rule would be to say that you could be earning 2% of the purchase price in gross monthly rent and the deal is still likely not good. And I'm pretty sure that's not what you're suggesting.
In my opinion, the 2% Rule doesn't say that an investment that doesn't meet this threshold is not a good investment; only that an investment that does meet the threshold *is* a good investment.
I would strongly disagree with the statement that "an investment that does meet the threshold *is* a good investment." There are economic reasons that the market is saying I'll ONLY pay you $40,000 for a possible $800 a month rent. If you don't understand the economic reason for that then you are just buying ignorantly and probably being sold a "good" investment that is not. In my experience the rent to price ratio has no value in determining the worth of an investment.
Investor · Sarasota, FL · Member since 2008 · 17k+ posts · 17k+ votes
12y
Originally posted by @Account Closed:
I would strongly disagree with the statement that "an investment that does meet the threshold *is* a good investment."
I would strongly disagree with my statement as well. And I would disagree that the opposite is true.
In reality, an investment that meets the 2% Rule may or may not be a good investment.
That said, if I were more careful with my words earlier, what I would have said is:
An investment that meets the 2% Rule will generate a strong (compared to a typical rental property) cash-on-cash return when managed well.
Personally, I've owned several rentals that have met the 2% Rule in areas that I consider to be very good neighborhoods (I'd define a "very good neighborhood" as one where I'd be perfectly comfortable with my wife walking around in a bikini in the middle of the night :). 2% Rule investments don't have to be in bad areas.
That said, I've known several investors who specialize in deals in very bad neighborhoods (places I wouldn't want my wife walking around in the middle of the day fully clothed) -- and when managed well, their properties generate tremendously strong cash-on-cash returns. Some people would call them slum-lords -- while I might not want to own investments in those areas, that doesn't detract from the fact that they generate great ROI.
Before we start discussing whether a rule is good or not, I think we should all be on the same page as to the definition of that rule...
For me (and I think for many others here), the 2% Rule simply states that, "If your gross monthly rent is at least 2% of the purchase price of the property, the investment is likely a good one."
To say that the 2% Rule is a bad rule would be to say that you could be earning 2% of the purchase price in gross monthly rent and the deal is still likely not good. And I'm pretty sure that's not what you're suggesting.
In my opinion, the 2% Rule doesn't say that an investment that doesn't meet this threshold is not a good investment; only that an investment that does meet the threshold *is* a good investment.
I think you're correct, but when boiled down to that it's not much of a rule, not much of a rule of thumb even. Yes if you can get 2%, it's almost certainly a good deal (unless it's a terrible area where those returns can only be found on paper). I don't like the 50% rule much either, but I do think it is usually relatively close to being accurate. I think the 2% rule is way too vague to be helpful, and could potentially be used to steer some investors right toward a warzone.
BTW previously I bought I bought a property in the "very good neighborhood" where the yearly rent was 82% of the purchase price, so it complied with the 82% rule!
BTW previously I bought I bought a property in the "very good neighborhood" where the yearly rent was 82% of the purchase price, so it complied with the 82% rule!
Haha, I figured paying money would be part of the deal.
How on Earth did you pull off that 82% if you don't mind me asking? I've got a couple 3% but for whatever reason have yet to break that 82% threshold.
I don't like the 50% rule much either, but I do think it is usually relatively close to being accurate.
Not sure what you mean by the fact you don't like a rule of thumb, but consider it to typically be accurate...
Do you mean you don't personally use it?
I just mean that it's more universally applicable, although it should always be used as nothing more than a quick rule of thumb (for example it will vary depending on who pays the utilities or the age of the building). The 2% rule is, in my judgement, much less applicable since it depends so much on the costs and rents in any particular area.
Flipper/Rehabber · Nashville, TN · Member since 2013 · 76 posts · 3 votes
12y
This thread has been very helpful for me. I'm in the process of purchasing my first multi-family and I've been struggling to make this work. I haven't exactly found the right property yet but I've crunched numbers on a few. Most have come in between 1.3 and 1.75. I'm purposely avoiding lower income areas for this multi-family. I have a SF in a lower income area that has been doin fairly well. I have to work with my tenant every now and again but they have always paid in the end.
I have been shooting for 1.5 to 1.75 on this deal. I feel I can make this work. Nashville is pretty hot right now and maybe I just dont have enough knowledge yet to find these 2% deals, but I haven't seen any that are multi-family.
This thread has been very helpful for me. I'm in the process of purchasing my first multi-family and I've been struggling to make this work. I haven't exactly found the right property yet but I've crunched numbers on a few. Most have come in between 1.3 and 1.75. I'm purposely avoiding lower income areas for this multi-family. I have a SF in a lower income area that has been doin fairly well. I have to work with my tenant every now and again but they have always paid in the end.
I have been shooting for 1.5 to 1.75 on this deal. I feel I can make this work. Nashville is pretty hot right now and maybe I just dont have enough knowledge yet to find these 2% deals, but I haven't seen any that are multi-family.
If it's a multi-family, I would definitely look at the operating history and try to put together what you think the cap rate would be (I would do it even if there isn't a history, just be conservative).
Flipper/Rehabber · Nashville, TN · Member since 2013 · 76 posts · 3 votes
12y
Thanks @Andrew Syrios. I've been working on those as well I'm just not exactly sure what a good cap rate would be exactly. I'm pretty green at all of this but I'm learning fast. I've been finding that many of these owners don't have much in the way of numbers and records. Either that or they don't want to disclose them.