Listen, guys, I hate to get feisty, but some truths need to be revealed about the infamous “2% rule.” I’m going to spell out some of these truths, so listen carefully. I can only dream of the day that I get on the forums and I don’t hear a single person ask any of the following questions:

• How come I can’t find any properties in my market that meet the 2% rule?
• What if I found a property I like, but it doesn’t meet the 2% rule?
• Where can I find properties that meet the 2% rule?

Sound familiar? Been wondering about any of those yourself? Well, let’s all work to get the 2% rule concept solely to the background of any thoughts about buying properties, and I’ll tell you why.

Note: In no way do I want to suggest that if you have been asking any of these questions, it’s your fault for thinking it’s a thing or you’re a dumb investor or anything like that. If I were just starting out, I’d think I need to do something with this rule, too. It’s not your fault. It’s simply “misleading marketing.” It can get the best of anyone.

What is the 2% Rule?

Some of you might be wondering, “What is this “rule” she keeps ranting about?”

The 2% rule says that the rental amount a property brings in should be at least 2% of the total purchase price of the property. The 2% rule pertains specifically to rental properties.

So, for example, if you are looking at a property that costs \$100,000, then the rent you would need to be able to collect in order to meet the 2% rule would be \$2,000/month. Make sense? Because \$2,000 is equivalent to 2% of \$100,000. Let’s say you find a property for \$80,000, but it only rents for \$1,000/month. Those who are set on the 2% rule would eliminate that property because it doesn’t meet the 2% rule — \$1,000 is only 1.25% of \$80,000. Follow me?

Something to note on that last example — while the property doesn’t meet the 2% rule, it does meet the little sister of the 2% rule — the 1% rule. The 1% rule works in exactly the same way as the 2% rule, but it only requires that the rental amount be 1% of the purchase price. Some will argue that as long as you hit the 1% rule, you are still making a good rental property investment. None of these are hard, fast, or concrete rules, so you can do or use whatever you want with them. But first, let me caution you about how much you use them at all.

Reality Checks about the 2% Rule

To be clear, the 2% rule used to be really handy. There was a time, a few years ago, where it was completely feasible to buy rental properties that fit the 2% rule. So I don’t want anyone to think that this rule has never served a purpose because it certainly did. But here are the reality checks about this rule, and I want you to understand them very clearly.

Inaccurate Terminology

First of all, in no way is the 2% rule a “rule.” It is strictly a “guideline.” Maybe someone just called it a rule because “2% guideline” does sound pretty dorky, but do know that there is nothing “rule-like” about it. A “rule” means that you are supposed to follow it. You don’t have to follow the 2% rule by any stretch, and quite honestly, following it could lend you to getting in some trouble (will touch on that in a few minutes).

Related: This Deal Analysis Proves the (Disappointing) Truth About the 2% Rule

The intended purpose of the 2% rule back in the day was simply to be a guideline to help you sift through properties faster. If you were scrolling through 100 properties in an initial property shopping spree, you could quickly eliminate any that didn’t hit the 2% rule. It was very simple to quickly see if a property hit it or not — you just had to know the purchase price and the rental income. Boom, done. You could eliminate properties lickety-split. That lends me to my next reality check…

Estimations vs. Actual Numbers

Oh man, does this one get my blood boiling. This one pertains to even back in the days when the 2% rule was a viable guideline! Hear me when I say — and this goes for every single investor out there, no matter what kind of investing you are doing — never, ever, ever use estimated numbers when you can use actual numbers! I have never understood why people have such a tendency to do this. If you are buying a rental property, the only numbers that you need to use estimates for are estimating future vacancy and repairs expenses. Otherwise, you can find just about every number you need.

If you have no idea what I’m talking about in terms of the numbers, check out “Rental Property Numbers So Easy You Can Calculate Them on a Napkin.” Now, where this comes into play with the 2% rule is that the whole 2% bit is leading to only an estimation. It doesn’t tell you for sure what the numbers will pan out to be — or that they will pan out to be good.

I’ll use a dramatic example. Let’s say you find a condo unit that you could buy and rent out and it meets the 2% rule upon first glance. But then as you start to gather actual numbers on it, you find that the area you are buying in has high property taxes, the condo fee is quite high, and for some reason, insurance isn’t overly cheap. Those higher numbers, once you plug them into the equations in that article, suddenly show this property projected to provide minimal, zero, or negative cash flow. But it met the 2% rule! Well, that’s why I say don’t estimate. No rule or guideline can say for sure whether you can expect cash flow on a property. So don’t use them for anything more than quick elimination of properties — if even that! Which leads me to my next reality check…

Good Properties Don’t Always Meet Rules (or Guidelines)

The fact is there are perfectly fine properties that don’t necessarily meet the 1% or 2% rules. There’s way too much to discuss as far as the details of what makes a good rental property investment to put in this article, but the short of it is that there are trade-offs between returns and cash flow and risk. You could find a property that meets the 2% rule but is such a high-risk investment (maybe because of location, property quality, tenant quality, declining market, etc.) that the projected cash flow is likely to never pan out as advertised (or even if it does, maybe the headache isn’t worth it).

Maybe there’s a property that is in an excellent location and of excellent quality and in a seriously growing market, but it would only make, say, a 0.8% rule (if one existed). That one, even despite the lesser projected cash flow, might be the better investment! So the answer to the question, “I found a property but it doesn’t meet the 2% rule — does that mean it’s not a good investment?” is who knows! There are a million other factors to look at. Does it cash flow? How’s the location? What’s the condition of the property? Is the market growing or declining? How will the quality of the tenant pool be? How high-maintenance will it be? How risky is it? Those are the questions that matter — NOT a supposed “rule.” Forget the rule. Speaking of forgetting rules, I have one last reality check for you…

Times (and Rule Applicability) Change

What used to be a good guideline or “rule” at one point, may not be a good one now. That is currently the case with the 2% rule. As I mentioned before, a few years ago, the 2% rule was actually viable. Finding good properties that met the 2% rule was a fairly easy thing (if you were looking in the right market). Nowadays, however, that’s not the case.

Related: Put to the Test: Are the 2%, 50% & 70% Rules REALLY Useful to Investors?

Why? Because the real estate economy in general is in a completely different place than it was a few years ago. A few years ago was after the big recession and crash, when housing prices dropped like crazy. It was an interesting time because in a lot of markets, despite the property prices dropping, rents didn’t drop. Since rents stayed high and prices dropped, it became very easy to obtain a property meeting the 2% rule. Since then, though, the real estate economy has stabilized — and more than that, prices have gone up significantly. Rents did go up as well, but not at the same pace as prices. So the gap between prices and rents has closed significantly from what it once was.

Today, I don’t know of a single (good) market where you could expect to find properties meeting the 2% rule. A few years ago, yes; now, no. The economy is always changing, the markets are always changing, and the numbers are always changing. Maybe the 2% rule will come back for properties, but right now it’s kind of disappeared. Honestly, you’re lucky to hit the 1% rule these days. It doesn’t mean rental properties aren’t worth it anymore, but it does mean the gaps have closed to a noticeable degree.

I know, I’ve crushed all of your 2% rule souls. It’s OK, I understand. Maybe it will come back one day. Even if it does, though, don’t expect it in cities like Los Angeles or New York City or any of those. Even when the 2% rule was a big thing, I never saw it anywhere on the West coast, much less the big, expensive cities.

As of today, I can tell you that if you find a property meeting the 2% rule, you need to be very leery. Find out why it’s priced so low compared to what it brings in for rental income. I guarantee you it’s a high-risk property. High-risk properties aren’t necessarily bad, but you’ll be doing yourself (and your bank account) a major disservice if you go into a property not knowing where exactly the risk lies and how to overcome it — should you continue to pursue that property.

And now, a moment of silence for the 2% rule.

Do you ever use the 2% rule to inform your buying decisions?

Let me know your thoughts with a comment!

Ali Boone(G+) left her corporate job as an Aeronautical Engineer to work full-time in Real Estate Investing. She began as an investor in 2011 and managed to buy 5 properties in her first 18 months using only creative financing methods. Her focus is on rental properties, specifically turnkey rental properties, and has also invested out of the country in Nicaragua.

1. Is the 2% rule only considering purchaee price or purchase+rehab?

• Purchase + rehab.

2. I’m gonna give you an A+ on this post. You did a great analysis and broke the 2 percent rule down to a point where I think every investor could comprehend. On a side note my wife thought you were a different person because of the new profile photo minus the hat. Once again great post and very detailed!

• Haha Angel. Well I actually tried to get that hat picture changed a long time ago but for some reason on only the blog articles it never changed. If your wife saw me in real life, now she wouldn’t recognize me either! I have super long bright blonde hair now. Lol. But I don’t have any good pics to match…

Thanks so much for the compliments on the article! 🙂

3. I use the “How long does it take to get my cash back” rule.
My general guideline is NEVER EVER allow more than 5 years. My norm is more like 2-3.

• I like your rule! I try to do something similar. Three years is my target. Especially important when you have a preferred equity partner. The sooner they can get their initial investment back, the sooner I can more fully participate in the cash flow.

• I lie that Joseph. What aspects of ROI do you include in your analysis? Is it cash flow + appreciation + tax benefits + anything else, or is it some combination of streams of income?

• *like

4. @joseph what level are you investing in? That sounds like a great plan

@Ali spot on article

• I buy up to \$100,000. But most of my deals are smaller. Yesterday: \$22,500
Today \$28,500. (Three lots-two with mobile homes; one vacant, ready for mobile home).
I do mainly “little deals”
You?

• Thanks Kevin!

5. I do evaluate in our area based on the 2% rule a lot. Disclaimer: very small town about 30 miles from a town of 15,000. I pay very little for the house and don’t get the rent of the big cities. The lowest percent I get is 1.98% and the highest is 6.43%. My lowest is in the town of 15,000 and is a duplex that is doing very well for us. We are able to buy houses for a very low prices, so that is our advantage. So there are some places the 2% rule is still holding up.

• Dean, great info. It’s very easy for all of us bigger market/city investors (me included) to not think about the teeny weeny towns. I guess for all of us it would be extremely hard to find those properties unless we knew someone in one of those towns…otherwise we’d have no way of knowing about it. Just thinking about it makes me want to take a vacation to the country for some grade-A relaxation! 🙂 That’s awesome it works for you. You don’t have to say if you don’t want, but what general region are you in? (I ask out of curiosity, not so me or anyone else can invade on the good properties)

6. I agree with you in that there are a million reason for any property that makes them a good/bad investment but your dead wrong about the 2% rule. I live in north central Indiana and they can be bought, we have a couple dozen and the most recent about 3mo ago. The house also appraised for double what we paid before we put a new kitchen in and added a full bath upstairs and yes the 2% was after rehab.

Our local market isn’t perfect, none of them are. We have been doing this for 25yrs and its been good to us. One downside is our market doesn’t appreciate much but the cash flows are excellent and in general in Indiana you buy rental properties for cash flow.

Thanks for the article and I always enjoy reading them as you never know when you find something that helps you out.

• Well how about a compromise Max… instead of saying I’m dead wrong, how about I specify that there are some small regions out there that do hit the 2% rule, so it’s not completely undoable, but for all of us who are in bigger cities and markets who might have a hard time finding those little areas of town, be cautioned about focusing too much on the 2% rule. 🙂

You’re very welcome!

7. What creative financing did you use to get your properties Ali?

• Gil- most of it was through use of an investment partner and some of it was through use of non-conventional loans.

8. Interesting post. I’ve found the 2% Rule to be a sliding scale based on purchase price. Low purchase price (\$25k w/\$600 rent) areas produce north of 2%, higher purchase price (\$90k w/\$1,350 rent) <2%. However, the \$90k property cash flows better than the \$25k. We are focused on cash flow so we use the 1-3% rule to initiatly evaluate and if the property passes that rule, we continue our due diligence seeing where cash flow will land. A minimum of \$200/door is our cash flow target.

• Well Put Jay, I live in your \$25k/\$600 area and your right about the north of 2%. I don’t know about the other markets you mention, only mine. We too are focused on cash flow. I agree whole heartily about continuing to do your/our due diligence. I’m not sure how your arriving at the \$200/door target though as it has too many factors to make that higher/lower. Can you share how you arrive at that target. Thanks and great reply.

• Hey Jay, you are very right about the sliding scale. I’d say that sliding scale is directly proportionate to risk level, which is directly proportionate to cash flow usually. A \$25k property will almost always be more risky than a \$90k property (extremely market dependent…). Lots of factors have to be considered.

3% rule?? Have you ever found properties that hit that? I can’t imagine how a seller isn’t jipping themselves by selling something that rents that well for that cheap!

• Hi Ali,
We have actually purchased 2 properties 2yrs ago that met the 3%. The circumstance is generally we are in a very small niche market, the economy was worse even just a couple years ago. The seller lives a couple hours away and just wanted out. He had owned both properties(1 sfr & 1 tri-plex) and after having owned both for about 10yrs had to bring cash to the closing.

9. Great post Ali. I find that it is harder and harder to find deals that meet the 2% rule – especially with so many variables. Curious question that I did not see anyone ask, what rules or guidelines for returns do you like to analyze deals with? Cash on Cash returns? ROI? Cap rates?

Thanks for posting!

10. Great read Ali. Thank you for posting!

11. Hey Ali, in a perfect LA world, I can’t say I’m “glad” to hear you say that the 2% rule is dead or even the 1% (because such close margins are obviously less desirable) however, I AM “glad” to hear you say this because I’ve never come across anything close to something like this is a decent part of LA, so I guess you could say it makes me feel better to know I’m not just missing things. I am understanding why you invest out of our area…