What is the 1% Rule in Real Estate?

Key Takeaways

• The 1% rule in real estate is a guideline that helps investors determine, based on the property’s purchase price and monthly rent, the potential profitability of a particular property.

• While the 1% rule is a quick and helpful guideline, it does not consider all the factors that could impact whether a property is worth the investment.

• Before buying, an investor should still factor in the rental rates in the area where the property is located to ensure they can find a tenant. 

Investors in real estate, and those interested in entering the market, would do well to understand the 1% rule. After all, before investing in property, they will want to be certain they can generate enough cash each month to at least cover expenses. Enter the 1% rule.

But just what is the 1% rule in real estate? This blog covers it and more.

What is the 1% Rule in Real Estate?

It is a rule of thumb in real estate that helps investors determine, based on the property’s purchase price and monthly rent, the potential profitability of a particular property.

In other words, it is a guideline that allows investors to swiftly approximate the minimum monthly income they can charge to at least break even on the property in question. The rule can be used as a baseline for tenants in commercial and residential properties.

How Do You Calculate the 1% Rule?

To use the 1% rule to calculate monthly rent, the property’s purchase price is multiplied by 1%. If repairs are necessary, repair costs may be added to the purchase price. 

To illustrate, say a person is considering buying a duplex property that is in good condition with no immediate need for repairs for $250,000. To cover the costs, the investor or buyer would need to bring in at least $1,250 for each unit. 

The rule may also be applied to assess whether, based on its historical rent, a property might be a good investment. For example, say a property listed for $200,000 recently had tenants who paid $1,500 monthly. Because that is less than 1%, it is probably not a viable investment. Charging $2,500 monthly, though, would meet the 1% rule. 

What Does it Mean if a Property Passes the 1% Rule?

If an investment passes the 1% rule, it means that the property’s monthly rent is at least equal to 1% of the property’s purchase price. So, it potentially is a good investment.

What Does it Mean if a Property Does Not Pass the 1% Rule?

An investment property that does not pass the 1% rule, and thus may not be a good investment, is one where the property’s monthly rent is under 1% of the purchase price.

What Does the 1% Rule Not Consider?

Note that while the 1% rule is a helpful guideline, it does not consider all the factors that could impact whether a property – at the time – is worth the investment. Such factors include the ongoing costs of home ownership. Usually, such costs are bundled into the rent, but using the 1% rule, such expenses are not reflected in the rent total.

Other 1% rule limitations include the fact that it does not factor in insurance, property taxes, and operating expenses.    

Note, too, that monthly mortgage costs depend on the mortgage’s interest rates. Thus, before investing in a property, investors must be certain to factor in their loan terms and the amount of what their mortgage payment will be. 

What are Other Common Real Estate Rules?

• 2% Rule. With this rule, the monthly rent should be at least 2% of the purchase price.
• 28% Rule. According to this rule, no more than 28% of monthly gross income should be spent on the monthly mortgage payment.
• 70% Rule. The premise of this rule is that an investor should pay no more than 70% of the real estate’s estimated value post-repairs.

What are Other Considerations of the 1% Rule?

Before buying, an investor should still factor in the rental rates in the area where the property is located to ensure they can find a tenant. 

Property maintenance must also be considered since that is the owner’s responsibility. Thus, the owner must set a portion of the rent for maintenance.

How Does the 1% Rule Apply to Investments?

If it is to pass the 1% rule, a potential investment must have a monthly rent that is at least equal to the purchase price.

If an investor seeks to buy real estate, the 1% rule can help them find the property that meets their investment goals, as it can be used to swiftly see how the property would cash flow. With unoccupied properties, the rule can be employed to help establish monthly rent. 

How to Invest in Real Estate

Real estate remains a popular investment for a number of reasons, including potential leverage, tax benefits, and possible appreciation and steady cash flow.

Likewise, there are many ways to invest in real estate, including through buying and renting, wholesaling, or house hacking.

One can also invest in a real estate investment trust (REIT) such as the one offered by Yieldstreet, the leading platform for alternative investments — asset classes other than stocks, bonds, or cash. More and more, investors are turning to alternatives such as art, transportation, private credit, and, yes, real estate, for their low correlation to public markets.

Yieldstreet, on which nearly $4 billion has been invested to date, has private and commercial opportunities among its many offerings, including a Growth & Income REIT . Private real estate alone has outperformed U.S. fixed income and equities in almost the last 25 years.

Yieldstreet’s real estate investment trust, with a minimum buy-in of just $10,000, makes equity and debt investments across key U.S. markets in varying commercial real estate properties. Helping to improve the trust’s ability to produce returns.

Another advantage to investing in real estate and other alternatives includes decreased volatility and diversification. Building investment holdings that include a variety of assets helps to mitigate overall risk. In fact, diversifying one’s portfolio is key to long-term successful investing.

Portfolio Diversification and Alternative Assets

Alternative investments such as real estate can be a good way to help accomplish this. Traditional portfolio asset allocation envisages a 60% public stock and 40% fixed income allocation. However, a more balanced 60/20/20 or 50/30/20 split, incorporating alternative assets, may make a portfolio less sensitive to public market short-term swings. 

Real estate, private equity, venture capital, digital assets, precious metals and collectibles are among the asset classes deemed “alternative investments.” Broadly speaking, such investments tend to be less connected to public equity, and thus offer potential for diversification. Of course, like traditional investments, it is important to remember that alternatives also entail a degree of risk. 

In some cases, this risk can be greater than that of traditional investments.

This is why these asset classes were traditionally accessible only to an exclusive base of wealthy individuals and institutional investors buying in at very high minimums — often between $500,000 and $1 million.  These people were considered to be more capable of weathering losses of that magnitude, should the investments underperform.

However, Yieldstreet has opened a number of carefully curated alternative investment strategies to all investors. While the risk is still there, the company offers help in capitalizing on areas such as real estate, legal finance, art finance and structured notes — as well as a wide range of other unique alternative investments. 

Learn more about the ways Yieldstreet can help diversify and grow portfolios.

In Summary

When looking for prospective rental properties, investors can employ the 1% rule for a quick glimpse into the potential for profitability. While the tool should not be used in isolation, it can ultimately help investors decide whether buying the real estate is worth the income it will likely produce.