%2 rental rule does not work

Landlord Forums & Rental Property Questions 36 Replies

Forgot to add this disclaimer:

You will need to check with city for permits. You might not be permitted to add the additional unit.

If you chose to build without the permits where it is not permitted, they have the right to stop your progression with a red tag, and fines. In addition you will have to set up a time with them to check that it is converted back to a garage.

I think 2% deals are possible, just difficult to find.

Michael.. I agree that garages converted to apartments, even efficiency's are a great way to get to 2% however we have learned the hard way that sometimes you have to jump through hoops to get the proper permits. We bought a house with a large 2 story garage on an extra lot. We had to re-zone the parcel to pout the two units in it we wanted. It has its own electric and we paid to have water& sewage put in. A neighbor fought us all the way because she didn't like rentals because she had one of her own right next door to her house and had a bad experience. Took a couple of months to drag through it but we got what we wanted. Still a work in progress, but hope to turn it into a good $maker son

ah, the 2% again takes on a life of its own. KISS concept - Keep it simple stupid.

I can't emphasize enough. Ignore the 2% rule. Do the 50% rule. Your taxes/insurance may be higher in some areas & you gotta look at your market rent. You also got to consider the rehab budget into your purchase price. Add in 10% for vacancy, etc & 10% for maintenance/repairs/upgrades.

The 50% rule is the way to go to figure out your return on invesment, if you're doing a rental.

I can definitely attest to the fact that the 2% and 50% guides do work but you need to those markets that are suited to these parameters. They are not rules as has been stated but do reflect some basic realities. I invest in Dayton Ohio because these guides do not fit my local market and what I a seek is current income from cash investments. I can buy properties that rent for $600 a month for under $30,000 in non war zone neighborhoods in the city. Most properties that need rehab will be in the 2 to 3 bedroom 1000sq foot range with taxes and insurance under 1400 per year. Most cash prices are in the area of 15,000 with 6,000 in rehab. The problem is that there is no resale market at this time. Most sales are cash investors with little retail activity. Dayton is not unique in that there are markets similar to this across the rust belt and i am sure in many other parts of the country.

Originally posted by Michael Lauther:
I can definitely attest to the fact that the 2% and 50% guides do work but you need to those markets that are suited to these parameters. They are not rules as has been stated but do reflect some basic realities. I invest in Dayton Ohio because these guides do not fit my local market and what I a seek is current income from cash investments. I can buy properties that rent for $600 a month for under $30,000 in non war zone neighborhoods in the city. Most properties that need rehab will be in the 2 to 3 bedroom 1000sq foot range with taxes and insurance under 1400 per year. Most cash prices are in the area of 15,000 with 6,000 in rehab. The problem is that there is no resale market at this time. Most sales are cash investors with little retail activity. Dayton is not unique in that there are markets similar to this across the rust belt and i am sure in many other parts of the country.

Seller financing could be an exit for these low value homes that can't get bank mortgages. Within the boundaries of regulations, of course.

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@Jon Klaus , I have though about seller financing I am concerned that I may be trading a risk of eviction with the risk of foreclosure. your post however has me thinking.

People are WAY over complicating the 2% idea.

I see a property I can get for $50,000, I see it will rent for $1000, wow that's 2%, which I know is great...DONE. I know that equates to a gross of 24%.

I see a property for $50,000 that will rent for $750, that's 1.5%, I know I can achieve 2% in 'this' market, I might try and get the price down or look for something higher yielding.

That is all the 2% guideline is for...nothing else. Don't get all caught up on 'rules', these are simple metrics to do a preliminary run of the numbers in your head to see if its worth pursuing.

The 50% guideline would then come next to show that on a 2% monthly, you would net 12% annually, now as some people rightly point out, your costs may be lower. But err on the side of caution, if your costs are lower, great, have a party. If they are higher than you factored in, there may be some heartache on the way.

Andrew

Originally posted by @Mark Reynolds :
The problem here is that the 2% rule is simplistic. ...

You need to learn Capitalization rates if you are going to get a little more sophisticated. 2% ROI per month would work out to be a 24% cap rate if there were no expenses-- but some operating expenses are inevitable. ...

Mark Reynolds - although I agree with your statement that the "2% rule is simplistic", I have to disagree with your understanding of the 2% rule otherwise. You see, the 2% rule is GROSS rents, not NET rents, so it has nothing to do with ROI - it just says that gross rents should be 2% of acquisition costs (and it pays no attention to actual expenses either, as you pointed out),

Jon Holdman and J Scott give some of the best advice on Bigger Pockets, along with a few others. Jon broke it down and you are getting around 12% cash on cash, nothing wrong with that number!

While there are dozens of financial terms used in Real Estate, terms like Capitalization Rate, Gross Multiplier, Return ON Investment, Return OF Investment, and on and on, the final number is HOW MUCH ACTUAL DOLLARS will you make that you can spend. For example, you can make 100% "Cash on Cash" on a Black Jack hand, but if your bet was $5, you only made $5.00. Or you can make only 1% but if you invested $1,000,000, you have $10,000.00 to spend. (most of the BP members can do better than 1% though)

The point being that as an investor, you need to have a TARGET RETURN that you are trying to make. For me, if I can make 500% of the 10 Year T Bill rate, which is currently 2.00%, I am happy. So anything that makes me 10% or more, with everything else being equal, I am happy. (being equal I mean a newer home, in a nice middle class neighborhood with a strong chance of long term appreciation).

What I have discovered about the 2% "rule" is that generally, it is an OLDER home, in a lower class neighborhood with a small chance of appreciation. I have a friend who bought several residential rentals in Riverside, California for $50,000 that rent for $1,200 a month. BUT, he has to carry a sidearm to collect rent, make repairs or post eviction notices. Sure, bigger returns with greater RISK, but that is too great of a RISK for me!

So just establish a rate of return you want, and go from there, don't pay attention to how much of the price you get in rent.

Originally posted by Suzie B.:
I think 2% deals are possible, just difficult to find.

Suzie, I'm about 90 miles north of you. There's 2% property all around you.

When talking about 12% or 24% return cash ON CASH, I guess you are making the assumption that property is purchased and paid off full in cash.

What about a scenario where you put the 20% down payment and finance the rest with a low interest rate that is available in the market nowadays?

In that case ROI will be higher as your down payment was only a fraction of purchase price.

Originally posted by J Scott:
Alex -

That's like walking into a Chinese restaurant, looking at the menu, and saying, "Hamburgers don't exist!" :-)

Just like in that example, the problem is, you're not looking in the right place. There are some places where you can generally find properties that will meet the 2% rule and there are other places where you won't find any properties that meet that rule.

And just like when you walk into that Chinese restaurant looking for a hamburger, your options are to find someplace else to eat or to just suck it up and find the best thing you can on the menu. In this case, you can either find a new investing location that does allow you to meet the 2% rule or you can choose to stick in your location and find the best deals available.

Crazy analogy, but I'm hungry right now, and I can't decide what to eat... :-)

You seriously have to stop this! I am checking to see if I can set up an alert for all J. Scott postings just to get a laugh, but I'm afraid I wouldn't get anything else done. That is hilarious - and yet - somehow spot on too!

Chris

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