Aug. 22, 2021
The 1% Rule: A Real Estate Investing Tool
Most experienced real estate investors have probably heard of the 1% rule. The 1% rule is a tool investors use to help you determine whether the monthly income you earn from a rental property will provide sufficient revenue to cover expenses and return a reasonable rate of return on your investment.
How Does The 1% Rule work?
The 1% rule states that when evaluating properties, investors should calculate monthly rent to be at least 1% of the total purchase price including repairs that are required to make the property ready to rent. The idea is that if you can meet or exceed the 1% rule, you should be able to meet your monthly expenses and generate a positive cash flow on the property.
So how does the 1% rule work in real life? Well, let’s say you’re looking at investing in a rental property in Beckley WV that costs $100,000 that requires $25,000 in repairs prior to renting it. Using the 1% rule, you should be able to charge $1,250 in monthly rent. If you are securing a mortgage to finance the purchase you would want to make sure that your payment + expenses are less than your expected rent of $1,250. The difference between your mortgage + costs = your profit. Simple right? But does the 1% Rule always work?
When It Works
The 1% rule can be helpful in quickly prescreening rental properties. If you’re evaluating different properties, then using the 1% rule can help you quickly narrow down which properties may be a good investment. From there, you can do additional research on those properties.
When It Doesn't Work
The 1% rule shouldn’t be used as the determining factors as to whether or not you’ll invest in a property. Before buying a rental property, you should always consider the neighborhood, the condition of the property, and current market trends. And the 1% tool is best used when you’re looking at smaller single-family homes. If you’re looking at high-priced markets or multifamily units, then 1% rule may be too small.
Applying The 1% Rule To Beckley Real Estate
According to BestPlaces.net Beckley West Virginia Homes For Rent the median rent for Beckley area homes is as follows:
Median means that 50% of the available units of a given size rent for less and 50% of the available units of a given size rent for more each month.
- 1 Bedroom Home or Apartment $585 Monthly*
- 2 Bedroom Home or Apartment $693 Monthly*
- 3 Bedroom Home or Apartment $984 Monthly*
- 4 Bedroom Home or Apartment $1,181 Monthly*
*Rent for any given house, condo, or apartment will vary based on area, condition of the property, market conditions, and market demand.
A current Beckley WV Home for Rent is listed at $1,250 a month which is above the median rent listed above, which is fine as long as the market supports it. This home has 3 Bedrooms, 1 Bath and 1,900 SqFT and is close to the Beckley WVU campus. Applying the 1% rule to this property means that the investor should have no more than $125,000 invested in this house via purchase and repairs. Ideally, the investor in this home would be making a good return on investment at this level taking into account his expenses and mortgage. In general expenses less the mortgage should not exceed 50% of rent, this is referred to as the 50% rule. This does not include any mortgage payment (if applicable) but includes property taxes, insurance, vacancy losses, repairs, maintenance expenses, and owner-paid utilities.
So a hypothetical analysis of this property is as follows:
- Purchase Price $125,000
- 1% Rule Expected Rent $1,250 per a month
- 50% Rule Expected costs $625
- Gross Profit $625
- Mortgage Costs at 80% Financing for 30 Years at 3.92% $461.
- Net Profit = 625-461 = $164 a month
Your actual costs and profit may vary. For instance if the purchase price of this house was $100,000 and mortgage was based on $80,000 the monthly mortgage payment would drop to $378 a month, increasing the net profit to $247 a month. So as you can see the 1% is a minimum rent, you definitely would want more rent if the market supports it and your negotiations around purchasing the property should take into account the maximizing of your profit.
The 1% rule isn’t foolproof, but it can be a good initial tool to quickly evaluate whether a rental property is a good investment. As a general rule of thumb, it should be used as an initial prescreening tool to help you narrow down your list of options followed up by detailed rental and market evaluation.
The investing information provided on this page is for educational purposes only. Betty J. Moore and Associates Realtors does not offer Real Estate Investment advice nor does it recommend or advise investors to buy or sell any Real Estate for any particular purpose nor guarantee any return on investment. Use of this information is at your own risk.