Author Topic: How reliable is the 1% rule?  (Read 3844 times)

parkette

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How reliable is the 1% rule?
« on: January 04, 2014, 06:11:55 AM »
My husband and I own 4 single family home rentals, some which adhere to the 1% rule and some that don't. The two that don't still have some cash flow, though perhaps not as much as we'd like (we would like to sell one, and the other is in a high appreciation area).

What I've never been able to work out about the 1% rule though, is how exactly it applies. 3 of our properties are in an area that has oil heat and very cold winters. We received very good advice early on to not include heat in the rent, as it can be unpredictable, and makes the rent look very high. However, the actual rents then may or may not adhere to the 1% rule as they are lower than those in the market who include rent/utilities.

- Does the rent under the 1% rule include utilities? Or should it be calculated without utlities?
- Do you calculate the 1% based on what you paid, what the value is, or what you paid + reno costs?

I realize the rule is somewhat arbitrary, but I'm wondering if it is well-defined anywhere, as one method of evaluating properties.

arebelspy

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Re: How reliable is the 1% rule?
« Reply #1 on: January 04, 2014, 09:54:42 AM »
Pretty reliable.  I generally use that as the minimum cutoff.  I actually tend to look in the 1.3%-2% range for cash flow properties.

If you already have properties, they may be worth keeping based on a number of things despite not hitting the 1% rule (selling costs, intertia, taxes, etc.), but it's worth evaluating, and if you're looking to purchase new properties for cash flow, it's probably best to ignore anything that doesn't hit the 1% rule.

(Of course you may have a different strategy - appreciation - in which case you may even accept negative cash flow, in order to try and achieve that.)

To answer your questions:
1) It is the gross rent you are receiving.
2) Initially you calculate based on what you paid plus rehab costs, and then on an ongoing basis you can calculate it based on the value is as a potential metric to look at whether or not you may want to sell.

Rules like this, however, are merely initial broad tools to demarcate and easily narrow all the properties out there (e.g. cut out any that don't meet it right away).

If you are making a small wooden toy boat from a giant tree, you will need several tools to eventually whittle it down.  The 1% rule is the ax that fells the tree - you need much more fine analysis after that to determine more.

So your property may be significantly worse than the 1% rule if you have higher than expected expenses (if, for example, you have high heating bills that you pay, and not the tenants, for some reason).

Back to the question title, I'd say it's quite reliable, and personally wouldn't be buying a property for 100k that only rented for 800/mo.

If your primary goal with these investments is cash flow, you'd better be getting much better than that.  (For example, my latest property, purchased last month, was for 27k and is rented for 600 - but market rent is closer to at least 700-750, it just currently has a tenant already in place.. another property I put an offer on last week will be for 37k purchase, 8k rehab, 45k total, rent for about 950/mo.  These are straight cash flow plays in decent areas, but I'm not factoring in a ton of appreciation.)  If you are an accidental landlord not treating it as a business, you may be getting worse than that.  I'd advise anyone getting into rentals purposefully though to be looking for good investments, not just mediocre ones that happen to be near to them.

And, as always, it greatly depends on your local market.  It can be hard to get 2%, 1.5%, or even 1% in certain markets.  My advice to people in that situation, however, is: go find another market.

As the RealEstateGuys Radio Show and Podcast say: "Live where you want to live.  Invest where the numbers make sense."
« Last Edit: January 04, 2014, 09:56:19 AM by arebelspy »
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MKinVA

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Re: How reliable is the 1% rule?
« Reply #2 on: January 04, 2014, 06:50:38 PM »
When you are looking for an area outside of your own, how do you research rents? I know what rents are in my home town. No room for buying a rental here. Is craigslist reliable? What other sources if I am trying to judge another town?

arebelspy

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Re: How reliable is the 1% rule?
« Reply #3 on: January 04, 2014, 07:04:51 PM »
When you are looking for an area outside of your own, how do you research rents? I know what rents are in my home town. No room for buying a rental here. Is craigslist reliable? What other sources if I am trying to judge another town?

Well.. sort of off topic, but okay.

Craigslist, Rentometer.com, Zillow Rent Estimates, and MLS comps (rental comps, not sales comps).

Other things you probably want to check out are economic, population, and employment factors.

There have been a few other threads discussing this you may want to search for and read.  :)
We are two former teachers who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and are now settled with three kids.
If you want to know more about us, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
We (rarely) blog at AdventuringAlong.com. Check out our Now page to see what we're up to currently.

MKinVA

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Re: How reliable is the 1% rule?
« Reply #4 on: January 04, 2014, 07:06:01 PM »
Thanks for the info!

arebelspy

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Re: How reliable is the 1% rule?
« Reply #5 on: January 04, 2014, 07:12:16 PM »
Sure!  :)
We are two former teachers who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and are now settled with three kids.
If you want to know more about us, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
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parkette

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Re: How reliable is the 1% rule?
« Reply #6 on: January 05, 2014, 05:54:00 AM »
Thanks for the info, arebelspy! It's something I use when evaluating properties, but sometimes I wonder if I'm using the right metrics. It's an oft-thrown around rule, but I had never truly seen it defined.

Our properties have generally hit the 1% rule, but I'll admit we haven't been as calculating as we should be. We really enjoy the process of renovating and are in it for gains over the long term, but for our next purchase we'll amp up the strategy and be less emotional (I just love renovating houses that old ladies are moving out of! I fall in love every time I see retro wallpaper... terrible :). We're doing well so far, and we're fortunately in a good market that can meet the 1%-- but I know we should be digging deeper to find even better deals that will yield more cash flow.

arebelspy

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Re: How reliable is the 1% rule?
« Reply #7 on: January 05, 2014, 09:26:48 AM »
If you're enjoying yourself, building wealth, mostly hitting the 1% rule, and are satisfied with how you're doing, nothing wrong with that at all!
We are two former teachers who accumulated a bunch of real estate, retired at 29, spent some time traveling the world full time and are now settled with three kids.
If you want to know more about us, or how we did that, or see lots of pictures, this Business Insider profile tells our story pretty well.
We (rarely) blog at AdventuringAlong.com. Check out our Now page to see what we're up to currently.

parkette

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Re: How reliable is the 1% rule?
« Reply #8 on: January 05, 2014, 05:52:07 PM »
Hey, that's lovely to hear! Thanks for the reassurance :) We love it and it's satisfying. FIRE is still a clear goal though, so we'll keep working on marrying our fun with an improved strategy.