Question for Kansas City Buy-and-Hold Investors-2% Rule of Thumb Question

[Brady Hanna]

So I am new at investing in real estate and live in the Kansas City market. My wife and I are looking to do buy-and-hold rental properties and eventually (5-10 years) build up a portfolio of 25 properties. Since I'm a new investor, I have been reading through several books including bigger pockets ultimate beginners guide. In the book, Brandon Turner talks about a 2% rule of thumb, where you should shoot for monthly rents of 2% of the purchase price of your home.

So if you buy a $100,000 house, you should shoot for projected rents of $2,000.

In my very little experience, I haven't seen this applicable in KC (other than in awful parts of town, and we aren't looking to be slumlords). What would your rule of thumb % be that you look for? Any areas in town that give you better returns than others that aren't in bad areas of town?

We are working on our business plan right now, and this is an integral part in getting started.

Thanks in advance for the tips!!

[Jon Holdman]

You have it backwards. You must first figure out rents in the area. That's the number you have the least control of. Then, if you're determined to apply the stupid 2% rule, work from the rent to the price you can pay. So, if rents are, say, $1000, then you can afford to pay $50,000 for the property.

When selling or renting a property, you can NEVER EVER use your investment as a basis for setting the price or the rent. The market determines those. If you've paid too much, tough luck. If you say "I have to sell for X or I will lose money" or "I have to get Y rent to pay the mortgage", then you're in trouble.

I say this is a stupid rule of thumb because it makes a bunch of assumptions, most of which don't apply.

Better to look at an actual deal. Say you can buy a house for $80,000 and get $1000 in rent. Use the 50% rule (which is one of the assumptions in the 2% rule, one that is valid) to determine expenses. Use your actual terms for the loan. Figure out what return you will get. It might look like this:

Price: $80,000
Rent: $1,000
Rehab: $0
Down %: 20%
Rate: 4.50%
Term: 30
Down Pmt: $16,000
Total cash: $16,000
Loan: $64,000
Payment: $324.28
Expense %: 50%
Expense Amt: $500
NOI: $500.00
Cash flow, monthly: $175.72
Cash flow, annual: $2,108.66
Cash on cash: 13.2%
CAP rate 7.50%

Also keep in mind that you can get 30 year fixed rate loans for the first few properties. Certainly up to four mortgaged properties, maybe up to 10. After that you're looking at commercial type loans and probably 15 years max.