can someone please explain this 50% rule to me?

[Jason Schmidt]

I have heard from people on these boards that I can expect the operating expenses of the house I purchase to rent out would be about 50% of what I can get for it monthly. I could be misunderstanding it, but how is this so?

For example: because of the tax rates here, we can expect to generally pay in rents about 1% of the home value. this includes insurances, taxes, interest, etc. SO - a working example:

If I buy a $100k house for $70k (assuming i can get in at 70% value), and I can rent at $1k a month, how would $500 of that each month go to operating expenses?

[Michael Rossi]

That's exactly the way it is in my area also (and in many areas of the country). Rents generally run about 1% of the home value here. However, your statement that this includes insurance, taxes, interest, etc is meaningless. There isn't necessarily any correlation between what the tenant pays in rent and what the landlord pays in insurance, taxes, interest, debt, etc. That's why the vast majority of newbies fail in this business. They take in less money than they pay out.

What you pay for a house has ABSOLUTELY NOTHING to do with the operating expenses. In your example, it would make absolutely no difference whether you paid $70,000 for the house or only $10 for the house - the operating expenses would be exactly the same! Operating expenses include everything you spend to operate the business, but do not include the mortgage (principal and interest).

The 50% rule simply reflects the fact that throughout the United States, operating expenses run 45% to 50% of the gross rents. That includes taxes, insurance, vacancies, advertising, utilities paid by the owner, management, maintenance, entity maintenance, legal fees, evictions, damage done by the tenants in excess of the security deposit, capital expenses, lawsuits, etc, etc, etc. (I could go on and on). Some of these expenses don't occur on a regular basis (such as excessive tenant damage), yet the effect on the bottom line is still profound.

What type of business are you in? Whatever it is, you should still have operating expenses and the principle is the same (although the numbers may be different).

Mike