In Pennsylvania, using the 50% rule for estimating the potential cash flow of rental properties can help investors avoid the common pitfall of overestimating profits and underestimating expenses. Applying the rule provides a quick foundation for additional research, and the following details what the 50% encompasses and how to calculate the formula.
Defining the 50% rule
In transactional real estate, the 50% rule refers to a methodology for assessing a property’s financial viability. Also called the 50 Rule, this principle says that a rental property’s expenses should equate to approximately 50% of its gross income. Applying this rule can give real estate investors a realistic gauge of an investment’s financial viability.
Providing a safeguard
The 50% rule helps real estate investors avoid unintentionally inflating future profits by using an expense rate that covers more than a monthly mortgage payment. The 50% expense figure safeguards investors against underestimating the operational expenses of owning and renting the property.
What does the 50% cover?
The 50% expense margin represents non-mortgage costs vital to operating the property. Expenses include property taxes, insurance, upkeep, maintenance, and repairs along with utilities. It also covers the loss of rent due to vacancies. The 50% expense figure excludes mortgage payments, HOA dues and property management fees because these require separate calculations.
The rule benefits and limitations
The 50% rule provides a simple, straightforward way to calculate estimated expenses. Begin with a property’s gross rent (monthly or annually) and divide it in two to approximate a property’s maintenance and operating expenses.
The rule has limitations, however, as it serves only as a guide. It does not cover potential changes, such as insurance rate increases, losses from natural disasters or unforeseen circumstances.
The 50% rule provides a foundation for assessing a property’s potential profits. Supplementing the result with situational analysis and comprehensive research can help investors make informed decisions about potential property acquisitions.