In an investment property, there a few different metrics you can use in order to determine its success. And there is nothing more critical than cash flow.
When you are owning and managing a rental property, there is a significant number of costs that should be considered such as loan payments, repairs, insurance, property tax, repairs, etc. If you do not anticipate those significant numbers of costs, you might find yourself in the red.
Luckily, there are a few rules you can follow that will help you plan accurately and make a decision around an investment opportunity to make it profitable – the 1% rule.
What is the One Percent Rule in Real Estate Investing?
The basic benefit of a real estate investment is its ability to produce rental income. Thus, the one percent rule easily and quickly measure how well the rental property makes.
The one percent rule is an analysis tool used by real estate investors to quickly see the potential of a rental property.
It has to do with the rental fee you charge a tenant. The principle states that the rent should be 1% or more of the total investment price of the property.
Monthly Rental Price ≥ 1% of Total Investment Price
Example 1:
For example, according to the 1% rule, a rental property with a total investment price of $200,000 should have a rental rate of $2,000 or more per month in order for it to be deemed as a good investment. So if the monthly rent would be less than $2,000 would not meet the 1 percent rule.
Example 2:
If the purchase of the rental property is $50,000 and the renovations cost you $25,000, then the monthly rent should be at least $750.00
Example 3:
If a house is on the market for $120,000 but is only renting for $650, you would not want to come in at the offer price. You could divide $650 divide by 1% to get an offer price that would make it more profitable. So in this case, it should $65,000 instead.
Drawbacks of 1% Rule
The one percent rule applies to the gross rental income. However, not all properties that fail to meet the 1% criterion are bad real estate investments. There are of course other factors to consider that influence the overall rate of return. Such factors include quality of neighborhood, demographics, socioeconomic trends, vacancy rate, property condition, etc. Therefore, the 1 percent rule can only be used for fast estimations.
Another challenge to the 1 percent rule, it should not be used in high-priced markets. It is more applicable in the evaluation of small residential real estate investments. And for large multi-family dwellings, your rental income should be more than one percent of the total investment price.
Main Point
To make sure for a good return on investment, you need to go a thorough analysis before buying a rental property. The 1% rule in real estate investing is only a prescreening tool that can help you filter potential deals when it comes to cash flow. It can help you avoid common investing pitfalls and allows you to make more money.
Best of luck with your investing!
Your Home 901 is a property company based in Memphis, TN. We offer turnkey real estate properties. For more information, you may call 901 3082815 or email us at info@yourhome901.com