Anyone in the real estate game has heard about the “1% rule”, yet many still have a tough time understanding it. So, we’re here to clarify: the 1% rule is used to determine whether or not the monthly rent earned from an investment property will exceed that property’s monthly mortgage payment. As you may have already guessed, the goal of the rule is to ensure that the rent received will be greater than or at the very least equal to the loan payment, so that the investor can at least break even on the property. After all, what’s the point in investing in a property that’s losing you money?
Example of the 1% Rule
Let’s break down how one can determine whether a property is a worthwhile investment opportunity. Suppose you find a property you want to rent out that you can purchase with a $100,000 loan. To calculate 1% of that amount, you multiply $100,000 by 0.01 (1%) and the product is $1,000. This means you will want your monthly loan payments to be $1,000 at the very most to be able to break even and not lose money. Ideally, the lower the loan payment amount, the better your chances of paying off the loan quickly and turning a profit. When it comes to evaluating a rental property, there are other calculations to consider.
Gross Rent Multiplier
Working in tandem with the 1% rule is the gross rent multiplier, which helps determine the amount of time it will take to pay off your investment. This is done by dividing the total borrowed value by the monthly rent you’ll be charging. Continuing with the example above, for a property valued at $100,000, you will divide that amount by 1% ($1,000), and the answer, 100, means it will take 100 months of $1,000 payments to pay off the loan, that’s a little over 8 years. Not too shabby, especially considering once those 8 years have passed and the loan is paid off, your property will become almost entirely profitable (minus upkeep, expenses, and taxes). There is another rule to consider when considering buying and flipping a home.
The 70% rule
This is a lesser-known rule, but it’s one we find important to mention as it can be especially helpful in deciding whether or not an investment is worth the trouble. This rule states that an investor should only consider flipping a property if they are certain they’ll be able to resell the property for at least 30% more than what was originally paid (after repairs). So, the next time you see a property and think “I can flip this and get rich!” take a minute to assess what repairs need to be made, what nearby comps are representing, and then you’ll be able to determine whether flipping is right for you.
One important thing to remember is that this 1% rule is simply a preliminary look at value. It doesn’t take into account a variety of important factors used in evaluating an investment property. That’s why we at Metro REIG have a detailed and robust investment analysis spreadsheet that more accurately evaluates an investment opportunity. Give us a shout, we’d be happy to share and discuss that spreadsheet with you. We’re a full-service brokerage that will go a long way in getting you access to the most recent Intel on real estate trends, tips, and recommendations. If you’re looking to invest in real estate, and aren’t sure where to start, we can help. Set up a free consultation with us, and we’ll get you started on your real estate journey.