Real estate investing can be a great way to build wealth, but it's essential to understand the rules of the game before you get started. One of the most important rules to follow is the 4-3-2-1 rule, which is a simple ratio that allocates 40% of your income to expenses, 30% to housing, 20% to savings and investments, and 10% to insurance. This ratio can help you budget your money and make sure you're making smart investments. The 1% rule is another significant rule for real estate investors to comprehend. This rule states that the monthly rent for an investment property should be equal to or greater than 1% of the purchase price.
This rule can be used as a formula for pre-selecting and comparing rental properties, and it can provide a financial safety net if you're having difficulty filling vacancies or need a major repair. However, it's essential to note that there are other factors that the 1% rule doesn't take into account, such as repairs and maintenance, property taxes, homeowners association (HOA) fees, or neighborhood classification. The 50% rule is another useful tool for real estate investors. This rule states that an investor should not pay more than 70% of the after-repair value (ARV) of a home, less the cost of repairs. By understanding this rule and the 1% rule, you can quickly do the calculations and know in 5 seconds if an investment property is worth analyzing further. Jeff has more than 25 years of experience in all segments of the real estate industry, including investment, brokerage, residential, commercial and property management.
He recommends using these rules solely as general guidelines since they don't take into account costs such as maintenance, property taxes, insurance and operating expenses. These elements can have a significant impact on the potential return on investment (ROI), even when a property generates enough rent compared to the purchase price to exceed the 1% rule. If you want to buy an investment property, understanding the 4-3-2-1 rule and the 1% rule can help you find the right home and determine the right monthly rent to collect it. Knowing these rules can help you make smart investments and build wealth through real estate.