Author Topic: How much profit does it take to make renting out a property worth your while?  (Read 1098 times)

RusticBohemian

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I have a very small one-bedroom condo in a high cost of living area. There is no income tax here, just really high property taxes. The property taxes for the unit are now $3294.92 and likely to increase continually. Yearly HOA fees total $4037.52. Insurance is $267.00. I own the property outright. So total for this is $7599.44/year.

Above this will be the cost of maintaining the property. Not sure what I should budget for this.

Similar units seem to be rending around $1,000/month in the area. Maybe you could get $1,200 if lucky.

So my question is, how do I go about deciding if there's enough money to be made renting out my condo vs just selling? I like the unit and want to hang on to it (I lived there for five years, and may go back to it at some point).

I've never landlorded before and am unsure of what my thought process should be. How would you evaluate the situation?






Gronnie

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Seems in your case to be a very small amount of profit to have a large amount of capital tied up.

rothwem

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Whatís the value of the condo?  Could you put that money into the stock market and make more every month?

Shane

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This blog post on Paula Pant's site, Afford Anything, might be a good place to start.

Quote
The One Percent Rule
How does this relate to the One Percent Rule of Thumb?

First, a refresher: the One Percent Rule states that the gross monthly rent should be at least one percent of its final price.

A property that costs $100,000 should rent for at least $1,000 per month
A property that costs $200,000 should rent for at least $2,000 per month
A property that costs $300,000 should rent for at least $3,000 per month
When I talk about a propertyís price, Iím referring to purchase price plus urgent repairs. After all, you might buy a $100,000 house needing $175,000 in immediate renovation.

If a property meets the One Percent Rule, itíll take 100 months for the property to recoup its cost.

Example:

$100,000 property / $1,000 monthly rent = 100 months
$200,000 property / $2,000 monthly rent = 100 months
$300,000 property / $3,000 monthly rent = 100 months
$400,000 property / $4,000 monthly rent = 100 months
What timeline are you aiming for? A reasonable goal is 100 months or fewer. Thatís 8.3 years.

Freedomin5

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Another quick way to calculate is to compare your profit to how much you would make if you sold it and put the net proceeds into an index fund.

So in your case:

Rent: $12000 rental income - $7600 expenses = $4400 net rental income

This does not include repairs so it is the best best best best case scenario. Repairs are usually factored in as 1% of the cost of the condo. You also need to factor in fees for property management or if youíre managing it yourself, you need to consider the time and work involved.

Index investment = [(Price if you were to sell today) - (Closing costs)] x 7%

I used 7% as the average return of the stock market, but you can adjust it to be more conservative or more aggressive.

If the index investment return is greater than net rental income, then it makes more sense to sell. Otherwise it makes more sense to rent out your unit.

« Last Edit: August 29, 2020, 07:11:50 PM by Freedomin5 »

cchrissyy

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you don't say how much money it would sell for so we can compare rental income to investing that amount

hypothetically if there was a place that rented for $400 profit per month i want NOTHING to do with it because of the tenant headaches, the liability, and the occasional large expense. the $400 is a best case scenario and realistically that's not worth my time.

former player

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When was the 1% rule formulated, for what purpose and in what property market?  I can't believe that in any HCOL area it makes sense.  It seems to ignore the reality of current property prices.

I'm not saying that OP's condo makes a worthwhile rental.  But I am questioning the immediate reflex to turn to the so-called 1% rule.  If you are looking only at financial returns then a comparison to the stock market seems more realistic, although the need for a balanced portfolio potentially including property also needs to be taken into account.  And in this case OP has expressly stated that financial return is not the only concern here.

Freedomin5

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True. If youíre planning to move back into the condo in a few years, and the appreciation on the condo is such that it would make it difficult to purchase it again at a reasonable cost in a few yearsí time, you may wish to rent it even if itís cashflow neutral.

For example, we have a condo in a HCOL city that we are renting out even though it doesnít meet the 1% rule, because housing in the city appreciates at a much greater rate than 7%. This way, the value of our condo grows at the same rate as the increase in real estate values, and when we move back to Canada, we can either live in the place or trade up.

Papa bear

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Moving back in changes the calculation completely.  Otherwise, sell that house and take the tax free capital gains that you already have.  The house is not a good rental, even without knowing itís market value.  Covering your monthly cash outflow costs doesnít account for maintenance, capital improvements, or vacancy.

If you want to have a rental property to be a landlord, go find a property that makes sense as a rental.  If you are going to move back in a few years and need a placeholder, then sure, go ahead and rent it out.   


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waltworks

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When was the 1% rule formulated, for what purpose and in what property market?  I can't believe that in any HCOL area it makes sense.  It seems to ignore the reality of current property prices.

I'm not saying that OP's condo makes a worthwhile rental.  But I am questioning the immediate reflex to turn to the so-called 1% rule.  If you are looking only at financial returns then a comparison to the stock market seems more realistic, although the need for a balanced portfolio potentially including property also needs to be taken into account.  And in this case OP has expressly stated that financial return is not the only concern here.

It's not always a good time to rent out your place, or invest in a rental.

Keep in mind that the 1% rule is intended as a filter when looking at properties, which will eliminate the bad ones, so that you'll earn at least as much as historical stock market returns. There are sometimes, but rarely, great properties that don't make 1% (cheap insurance and property taxes help!) and terrible ones that do (low end homes in the mid-atlantic with crazy high taxes can be *negative* cash flow even at 1%). So it's just a rule of thumb, not the end all and be all of analyzing a rental.

If RE in your area is super expensive... then it's probably not a good time to buy/keep a rental. There's nothing stopping you from doing it anyway, but you should just assume returns will be poor.

High property prices/low rents don't mean the 1% rule is broken or wrong. They mean RE is probably not a good investment in your area at this time.

-W

bacchi

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I haven't seen the 1% rule in the wild for 20 years in my city. Just outside the city, I had a duplex that met 1% and it was a PITA due to tenants and distance.

The non-1% properties have been better for me because of appreciation. The duplex broke even after 10 years and drinks were shared when it was sold.

Chris Pascale

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Bigger Pockets on YouTube has some vids about this you might want to check out.

Good luck.

rab-bit

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The 1% rule is just a guideline that can be used to compute the return on your rental property investment called the cap rate. The 1% rule combined with the "50% rule" (which is another guideline that says that operating expenses, like taxes, insurance, property management, repairs, etc., will average about 50% of rental income) implies a cap rate of 6% per year. You can certainly accept something less than the 6% cap rate implied by the 1% rule, and it might even make sense to do so in this era of very low interest rates.
« Last Edit: August 31, 2020, 04:20:01 AM by rab-bit »

waltworks

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I haven't seen the 1% rule in the wild for 20 years in my city. Just outside the city, I had a duplex that met 1% and it was a PITA due to tenants and distance.

The non-1% properties have been better for me because of appreciation. The duplex broke even after 10 years and drinks were shared when it was sold.

Yes, everyone everywhere in the US did well on appreciation for the last decade or so. This has led to lots of people saying the 1% rule doesn't apply/is garbage/etc.

I'll be happy to buy those people's distressed properties from them when there's a RE downturn, just like last time.

-W

Paper Chaser

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Seems to me that the greatest benefit of investing in Real Estate might be the amount of control. An investor can look at an area and find a deal that's very likely to outpace the market because they've done the math. No guarantees of course, but they should have a pretty good idea based on math.

If your property gains all come from appreciation, that's completely out of your control, negating one of the biggest benefits. That seems a lot more like stock picking or gambling to me, where you just try to catch the right property at the right time and hope that market forces work to your benefit.