This Is Better Than the 1% Rule (New Real Estate Rule)

What's up, everyone? I'm Dave Meyer, Chief Investment Officer at BiggerPockets.

And today, I'm going full data nerd on you guys with a new investing metric, the rent-to-payment ratio.

Now, if you're investing back in the 2010s or even a couple of years ago, you may have heard of a rent-to-price ratio, or you may have heard of the 1% rule as a rule of thumb for measuring cash flow.

That rule of thumb is exactly what it sounds like.

You would compare one month of rent to the purchase price of a property.

And if it was at or near 1%, your deal was probably going to cash flow.

If it was higher than 1%, you were probably getting a great cash flowing deal.

And it was a really useful metric for a really long time.

During the 2010s, when interest rates were lower and taxes were lower and insurance was lower, it worked really well.

But it has become a little bit outdated.

I personally haven't used rent to price ratios in my own underwriting analysis for a while because I don't think it actually tells me that much anymore.

First and foremost, it's really hard to find 1% rule deals right now.

And it can be really discouraging using a benchmark from a different era when cash flow was easier to find in today's market.

because you're probably missing good deals and good opportunities using an outdated metric.

The other thing is that sometimes now when you use rent to price ratio, you might find a deal that looks really good by rent to price, but if it's in an area that has super high property taxes or super high insurance, it might not actually cashflow and you could actually be getting a false positive because of an outdated metric.

So instead I created a new metric.

It is a slight variation on a debt service coverage ratio.

If you're familiar with that or if you've used a DSCR loan before, this will be very familiar to you.

I didn't like make this up out of thin air.

But what I did was pulled together a bunch of different data sources that don't normally talk to each other to create this new metric.

What it is is the rent to payment ratio.

So instead of comparing rent to the purchase price of a property, what I'm doing is comparing the rent to what you're actually paying to your mortgage company each and every month.

This is also known as your debt service.

That's why it's similar to a debt service coverage ratio.

Your full debt service includes your principal, that's paying down your mortgage, interest, that's the profit that goes to the bank, your taxes, super important in this new era of real estate, right? Because taxes have gone up a lot.