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How to follow the 1% rule in real estate – When it comes to the one percent rule, one of the biggest questions that many people tend to ask is whether or not it’s a strong enough guideline that every investor needs to follow in order for it to truly be successful. Despite the fact that it may be a useful enough tool in terms of evaluating overall cash flow for a property, it still doesn’t tell the full story of overall investment potential.

The one percent rule is a specific guideline that real estate investors frequently reference whenever they evaluate any and all potential property purchases. It essentially states that the total amount of monthly rent should always be either equal to or greater than one percent of the total purchase price of any investment property. It’s also important to note, however, that this rule doesn’t take into account other types of property expenses, such as the following:

*Loan/acquisition fees

*Closing costs

*Repairs

*Maintenance

*Insurance

*Property taxes

In order to determine whether or not a certain property is able to pass the one percent rule, the following calculation must always be made:

*Rent/purchase price x 100

For instance, if an investment property costs $100,000 and also rents for a total of $900 per month, then the calculation would be made as follows:

*$900/$100,000 x 100 = .9%

As a result, the calculation shows that the property comes in at being just under the one percent rule. Even though the one percent rule isn’t necessarily a strict benchmark for every investor in terms of “make it or break it,” it remains a useful tool in terms of screening for quickly estimating just how a property will cash flow. Additionally, it will also be able to serve as a form of target for setting rental rates in the event that the property itself is presently unoccupied by any tenants.

Technically speaking, the one percent rule itself is seen as being more of a guideline as opposed to being an actual rule; however, it’s also something that should never be followed blindly. For instance, imagine that you have purchased an investment property for a total of $50,000 that also rents for a total of $500 per month. While this is something that may actually satisfy the one percent rule, this doesn’t necessarily mean that it’s a great investment opportunity. In the long run, it essentially depends on both your personal criteria and goals as a real estate investor, as well as how many of those specific boxes that the property itself checks, such as the following:

*Strong cap rate

*Type of neighborhood the property is located in

*How far the commuting distance is

*The type of expected appreciation

*How recently the property may have been renovated

*When the property was constructed

One of the most important factors to keep in mind is that properties that don’t end up meeting the one percent threshold are still able to have their share of upsides in terms of investment potential. This means that if you currently have your eye on an investment property that may come up just a tiny bit short of meeting the one percent rule, this doesn’t necessarily mean that you should consider ignoring it without first thinking about all of the other potential upsides that will end up influencing the overall rate of return. These upsides include the following:

*Local market

*Neighborhood amenities/quality

*Current renters

*Condition of the property

*Total forecasted home price appreciation

*Projected rent growth

*Demographic/socioeconomic trends

*Rates of foreclosure

*Rates of vacancy

*How many days the property has been on the market

Of course, when it comes to selecting the right investment property, there are plenty of factors to consider in order to ensure that you’re making the right decision. These factors include the following:

*Total return

*Specific location of the investment property

*Age of the property

*Qualities of the neighborhood

*Overall rental demand (i.e. rates of vacancy, how many days the property has been on the market, total population growth, total number of rental units as opposed to the total number of available listings)

As previously noted, the one percent rule doesn’t tale into account specific other types of expenses. For instance, you may be taking a look at a listing that could meet the one percent threshold; however, certain stipulations for the property could apply such as higher taxes or the property needing a new roof the next time the property itself ends up turning.

There are many different costs that owners generally assume when they end up purchasing an investment property, which typically include the following:

*Repairs

*City taxes

*Property taxes

*Property insurance

*Costs associated with financing and mortgage

*Fees associated with property management

*Fees associated with a homeowners association (if applicable)

*Landscaping (if applicable)

*Any and all capital expenditures (i.e. additions, larger-sized renovations, etc.)

*Costs associated with vacancies (generally calculated as a percentage before it is then factored into your total projected expenses as a conservative oversight in the event that the property itself sits empty between tenants)

These costs are often used by owners to help with calculating rental property return on investment, which is most commonly referred to as ROI. Some of the most common metrics used for helping to calculate rental property return on investment include the following:

*Cash flow (the amount of money that you end up having left over every month from a rental property once you have paid all operating expenses, as well as setting aside money for any and all future repairs)

*Cash-on-cash return (determines how well an investment property will end up performing, and also expresses the overall ratio of annual cash flow to the amount of actual cash that you ended up investing upfront)

*Net operating income (similar to cash flow except that net operating income never factors into mortgage expenses)

*Cap rate (the estimate rate of return on an investment property that is similar to cash-on-cash return, yet never factors into loan expenses and also looks at the total purchase price rather than the total amount of cash that you originally invested)

*Appreciation (an increase in the overall monetary value of your rental property)

*Internal rate of return (measures the overall rate of return that is earned on an investment during a specific amount of time)

*Intangibles

Thank you for visiting the Barton Harris & Co. blog, an Austin real estate company. If you are still wondering how to follow the 1% rule in real estate they have the answers. Contact their office to help you buy or sell in the Austin area.