Question about the 2% Rule...

6 Replies

Hi! I'm completely new here, so apologies for any incorrect formatting. I've recently become interested in multi unit rental properties, and have read/heard in numerous places about the 2% rule. The rule basically states that monthly rent should be approximately 2 % of the purchasing price. 

I live in Denver and ran quick numbers on a few of the properties that I have been researching here, and can't imagine that I would be able to get anything  close to 2% of the purchasing price, as most duplex and triplex properties seem to be in the $550,000 and up range. This would mean needing to collect $11,000 in rent or $5,500/duplex and roughly $3500/triplex per month. 

Therefore I've got a few questions...

-Am I simply misunderstanding this rule in general and applying it incorrectly when crunching these numbers?

-Alternatively, I realize that the Denver market has been extremely hot, and am wondering if the prices have been driven so high that common real estate knowledge (such as the 2% rule) would indicate a poor buying opportunity?

Thanks so much for any assistance and info! I hope that I can provide the same in the future!

Hi @Alexander Gruber !

Generally speaking, you have it right.  The 2% rule should be viewed as a rule of thumb that lets you quickly evaluate a potential investment property.  To do a deeper analysis, I'd recommend using the Rental Property calculator under tools on the BP site.  There are some things about it that are a bit cumbersome, but it's pretty thorough.  It will guide you through capturing key cost drivers and assumptions and then provide you with several key property investment performance indicators.  I used to use my own spreadsheet and my build some of those functions into that, but it's pretty good.  

You will find that you can find good cash flowing properties that might be under 2%.  I'd also add that most of the time its more like the 1% rule.  I've found that 2% is pretty rare.  I think I have 2 that perform that well and over time I've been able to raise rents to get them closer to 2%.  

Good luck!

@Alexander Gruber I am also in Denver. What I’ve found for the area, as well as coastal markets is that the 2% rule isnt attainable. Even in the south and Midwest, it is difficult. Most of the properties I’ve looked at in other areas near 2% were in really bad parts of town... after all, there is a reason why an investor would be potentially rewarded with higher return. They are taking a higher risk. If your numbers work out at 1% in Denver, you are doing well. I’d say .8% is probably a more accurate benchmark. Some markets are not as attractive as others for rental properties. When homes appreciate dramatically, rents lag behind, comparatively speaking. This makes finding rentals harder, but the properties have appreciated more. Don’t be discouraged, deals are out there. 2% probably won’t happen in this area (if it does, make sure you aren’t missing something). Good luck!

The 2% rules applies to very cheap properties. It is not applicable to higher priced properties.

@Joe Hines Thanks a ton for that advice with the Rental Property Calculator, I will definitely use that going forward in my evaluations.

@Samuel Webb Thanks for the insight about the Denver market being closer to .8%, and your point regarding higher risk and higher return makes total sense. Quick question, when you mentioned home appreciation making finding rentals harder, were you referring to finding good rental properties to purchase as an investor? Or more difficult to find tenants to rent from you? I would think rapid home appreciation would make folks more likely to rent since housing prices may be too expensive, but figured I would ask. Anyway, great to meet someone else in the market, and thanks for the words of encouragement!

Alexander Gruber, 

There are lots of metrics that you can use to determine if an investment meets your criteria. The first question then is what are your criteria? Cash flow? Appreciation? Cash on cash return?

Your Castle Real Estate in Denver has free seminars on investing in real estate every week. Go to their website and review their seminars and find the ones that most suit your needs, register for them, and go hear some very experienced investors tell you what is going on in this hot market. 

I just attended their Advanced Real Estate Investing seminar and it was the best two-hours I have spent in a long time. 

Agreed. The 2% rule is really old news. Don't focus on rules, just focus on real numbers. How much cash flow should the property bring in? Denver will be hard to find one that brings in any.