The other day, I was on Realtor.Com analyzing properties. One of the ways I analyzed the property was to use the 1% Rule. The 1% Rule is a corollary to the 2% Rule in real estate. It is an analytic tool that measures how well a rental property will cash flow. The rule states that the rent on the property is divided by the purchase price on a property plus any necessary repairs. If the result is greater than .01, then the property is considered a 1% property. If the result is less than .01, then the property is not considered a 1% property.
The advantage of having an analytic tool such as the 1% rule, is that it shows an investor how much of a mortgage payment that the investor would be willing to seek. Under no circumstances would the investor seek a mortgage payment that is greater than the rents on a property.
For example, assume that a property is selling for $200,000 and the rents on the property are $2,000 per month. Under this example, the property is considered a 1% property and the investor can seek a mortgage up to $2,000 to break even on the investment.
However, assume that the repairs on the property are $15,000. This means that the $2,000/$215,000 is equal to .0093. Under this scenario, the rental property is not considered a 1% property and any mortgage over $2,000 would be a loss on the part of the investor.
As is the case with the 2% rule, the rule also does not consider issues such as HOA fees, the property’s condition, the property’s location, the cap rate, or appreciation.
From a personal standpoint, I have used the 1% rule to examine my own properties. My Towson, MD property rents for $1,650 and it was purchased for $175,000 back in 2012. Under the calculation, my property is close to the 1% rule and is at .0094.
What if I refinanced the note? The note is currently at $138,000 and, of course, the property rents for $1,650. Under this scenario, my property meets the 1% rule as the calculation yields a 1.14% result.
The other issues that I consider is that the property is in good condition and is located near a university. The property has also likely appreciated, especially in this 2021 seller’s market. I, however, have no interest in selling the property and would rather hold it as a long-term investment.
My view is that the 1% Rule is more realistic in today’s market than the 2% Rule. If a property does meet the 1% Rule, then it is worth investigating whether the property should be acquired. After assessing the analytics, then consider the property’s condition, location, and the potential for appreciation.
One way to test out the rule is to go to Realtor.com and test your skills on identifying properties that meet the 1% Rule.