Like many rules of real estate investing, the 50 percent rule isn’t always accurate. However, it can be a helpful way to estimate expenses for a rental property. To use it, an investor takes the property's gross rent and multiplies it by 50 percent, providing the estimated monthly operating expenses. That sounds easy, right? If the property rents for $4,000 a month, operating costs should be approximately $2,000.
What Expenses Should You Include when Calculating the 50 Percent Rule?
Typically, investors should add up the operating costs of the rental property:
- Property insurance
- Property taxes
- Maintenance/Repairs
- Utilities
- Property Management
- Homeowners Association (HOA) Fees
Notice that mortgage costs are excluded, as are taxes on rental income and property depreciation. In some markets, investors argue for excluding HOA expenses, but most investors include this as an appropriate operating cost.
Does the 50 Percent Rule Work?
Like most "rules" associated with real estate investments, this one has value and limitations. Nevertheless, it can be a handy “back of the envelope” formula for determining how much a property will need in monthly expenditures. It can produce a rough estimate, but investors should evaluate the property and its potential operating costs individually.
Suppose you are considering buying an apartment building and using the 50 percent rule to assess operating expenses. For example:
There are ten units in an apartment complex, each renting for $3,000 monthly, for a total of $30,000. Suppose the expenses are estimated at $15,000, leaving $15,000. From that amount, you need to be able to cover the mortgage expenses, your overhead, and profit. This quick, albeit rough, calculation can help you decide whether to continue performing a more detailed evaluation of a potential acquisition.
The Rule Can “Rule Out” a Purchase
While the 50 percent rule doesn’t provide enough detail to move forward with a purchase, it might make it easier to decide to pass one up. Here’s another example.
You are considering buying a duplex as a rental property. Each unit will rent for around $1,200, providing $2,400 monthly. However, if the mortgage payment for the property is $1,800, that will absorb substantially more than 50 percent of the rent. This will leave only 25 percent for expenses and profit. In that instance, the rule can help you decide it’s not a wise investment.
Operating Costs May Change Over Time
One challenge with relying on the 50 percent rule for estimating deal attractiveness is the variation in operating expenses. For example, some buildings pass the utility costs to residents, which could significantly reduce costs. If the building is older, a series of costly repairs may boost the expenses past the 50 percent threshold. Similarly, if the property experiences a series of insurance claims, the coverage cost may increase. HOA charges are subject to unexpected increases. On the other hand, if the previous owner was not frugal, they may have overspent on some things you can save on (like landscaping or maintenance). So, when evaluating the ratio, you may want to consider the trends and potential as well as the current costs attached to the property.
This material is for general information and educational purposes only. Information is based on data gathered from what we believe are reliable sources. It is not guaranteed as to accuracy, does not purport to be complete and is not intended to be used as a primary basis for investment decisions.
Realized does not provide tax or legal advice. This material is not a substitute for seeking the advice of a qualified professional for your individual situation. Examples are hypothetical and for illustrative purposes only. Withdrawal strategies should take into account the investment objectives, financial situation and particular needs of the individual.
FAQs
The 50% rule is a general guideline used by real estate investors to estimate the operating expenses associated with owning and managing a rental property. According to this rule, approximately 50% of the property's gross rental income should be allocated towards operating expenses.
What is the 50% rule in real estate investing? ›
The 50 Percent Rule is a shortcut that real estate investors can use to quickly predict the total operating expenses that a rental property investment is likely to generate. To work out a property's monthly operating expenses using the 50 rule, you simply multiply the property 's gross rent income by 50%.
What is the 4 3 2 1 rule in real estate? ›
Analyzing the 4-3-2-1 Rule in Real Estate
This rule outlines the ideal financial outcomes for a rental property. It suggests that for every rental property, investors should aim for a minimum of 4 properties to achieve financial stability, 3 of those properties should be debt-free, generating consistent income.
How do you calculate 50% rule? ›
Follow these steps to calculate the 50% rule for the potential rental property you're considering:
- Determine the gross monthly income collected from the property.
- Multiply the gross income by 0.50.
- The result estimates the property's monthly operating expenses and cash flow.
Corcoran's Golden Rule: a 2-Step Strategy
The first part is good advice for any real estate purchase: make a 20% down payment. The second part is renting the property out to tenants for enough to cover the mortgage, even if you don't profit initially. Let's break down why this is such good advice.
What is the 50 percent rule? ›
What is the 50% rule? The 50% Rule is a regulation of the National Flood Insurance Program (NFIP) that prohibits improvements to a structure exceeding 50% of its market value unless the entire structure is brought into full compliance with current flood regulations.
What is the 50 50 investment strategy? ›
This investment strategy seeks total return through exposure to a diversified portfolio of fixed income and equity asset classes with a target allocation of 50% equities and 50% fixed income.
What is the 80% rule in real estate? ›
In the realm of real estate investment, the 80/20 rule, or Pareto Principle, is a potent tool for maximizing returns. It posits that a small fraction of actions—typically around 20%—drives a disproportionately large portion of results, often around 80%.
What is the 90 10 rule in real estate? ›
Roger shared his 10/90 rule, balancing risk by investing 10% in higher-risk projects and 90% in stable, cash-flowing properties. This strategy helps navigate economic cycles and maintain a steady income stream.
What is the 7 rule in real estate? ›
In fact, in marketing, there is a rule that people need to hear your message 7 times before they start to see you as a service provider. Therefore, if you have only had a few conversations with the person that listed with someone else, then chances are, they don't even know you are in real estate.
So what is the 50% rule? When quoting a job for a customer and you don't know the price. Sit and compute all the costs to finish the job, then add a 50% gross profit number. . It will help you allot a percentage for unforeseen events, taxes, and such.
What is the 50 50 technique? ›
With the 50/50 rule, managers assess 50% of a project's value at the start and 50% when it's complete. So, for example, if a project team is working on a fence that goes around an entire property, they can use their progress on the first portion of the fence to expect their total time and spend.
What is the 50/50/50 rule? ›
50-50-50 Rule
A person has 5 minutes to swim 50 yards in 50°F (10°C) water and has 50/50 chance of surviving the attempt.
What is the number one rule in real estate? ›
According to this rule, after purchasing and rehabbing the property, the monthly rent should be at least 1% of the total purchase price, including the cost of repairs. This guideline helps ensure that the rental income covers the mortgage payment and operating expenses, leading to positive cash flow.
What is the rule of thumb for real estate investment? ›
Simply divide the median house price by the median annual rent to generate a ratio. As a general rule of thumb, consumers should consider buying when the ratio is under 15 and rent when it is above 20. Markets with a high price/rent ratio usually do not offer as good an investment opportunity.
Why 90% of millionaires invest in real estate? ›
Federal tax benefits
Because of the many tax benefits, real estate investors often end up paying less taxes overall even as they are bringing in more income. This is why many millionaires invest in real estate. Not only does it make you money, but it allows you to keep a lot more of the money you make.
What is the 80 20 rule in real estate investing? ›
In the realm of real estate investment, the 80/20 rule, or Pareto Principle, is a potent tool for maximizing returns. It posits that a small fraction of actions—typically around 20%—drives a disproportionately large portion of results, often around 80%.
What is the 70% rule in real estate? ›
Basically, the rule says real estate investors should pay no more than 70% of a property's after-repair value (ARV) minus the cost of the repairs necessary to renovate the home. The ARV of a property is the amount a home could sell for after flippers renovate it.
What is the 5 2 rule in real estate? ›
If you owned the home for at least 24 months (2 years) out of the last 5 years leading up to the date of sale (date of the closing), you meet the ownership requirement. For a married couple filing jointly, only one spouse has to meet the ownership requirement.
