How to buy your first rental property – Step Six

In this article, I will explain to you how you can pick the best rental property to purchase.

We have covered a lot of ground thus far in this article series.

In Step One we discussed the importance of determining WHY you are buying a rental property.

In Step Two we talked about financing the property.

In Step Three we changed gears a bit as we talked about how to pick a location that you will invest in.

Step Four examined how you should examine the economic influences of the area you chose to invest in.

As well, our most recently discussed step, Step Five outlined the importance of picking your property type.

In this article we are going to examine how you filter your potential rental properties.

Filtering potential rental properties

Believe it or not, this step is quite easy. At this stage, you will have picked the location that you are investing in, as well you will be focusing on a particular property type.

At this point you should have established a relationship with a local realtor who is knowledgeable about the local market, and who specializes in buying and selling rental properties.

If you have not formed a relationship with this type of realtor yet, this should be your number one priority before you do anything else. You can refer to Step Three in order to see what types of questions you should ask the realtor. These questions should be asked, so that you can determine the realtor’s level of knowledge and comfort in dealing with real estate investors and with rental properties.

There are other methods that you can use to find potential rental properties, however we are not going to get into these methods at this stage.  At this point, my goal is to make this an easy to follow process for you.  Working with a knowledgeable and quality realtor who specializes in rental properties, will help you tremendously, and make this process easy for you.

The 10% Rule

When your realtor is bringing to you properties of interest that match your property type, you must use the 10% rule when examining the property.

What is the 10% Rule?

• The 10% Rule is an incredibly important step that you cannot skip.

• It is a formula that you have to use in order to filter properties.

• If the property passes the 10% rule test, you put this property on your list of ‘properties of interest’.

• If the property fails the 10% rule test, then you want nothing to do with the property. Move onto the next property, and start to analyze that one.

• You must perform the 10% rule test on every single rental property that you review.

The 10% Rule Formula

• You get from your realtor the monthly current rents of the rental property

• You multiply this value by 12

• You take this new value and divide it by the total purchase price of the rental property

• When you calculate this, if you get a number of 10% or greater, you should put this property on your short list.

• If you get a number below 10%, please forget about this property and move on.

The 10% Rule in Action

Here is a practical example of the 10% rule in action.

• I recently purchased a rental property in Hamilton, Ontario, Canada. The rental property was a 3 bedroom townhouse.

• The current rents on the property are $1250/month.

• If I take the value of $1250 and multiply by 12 (months of the year), I get a value of:

$1250 * 12 = $15,000

• I purchased the rental property for $150,000.

• Therefore, I now divide $15,000 by $150,000…

$15,000 / $150,000 = 10%

As you can see, with this example, I obtained a value of 10% after completing the 10% rule. This is a good thing, and these are the types of properties that you want to research further.

Had the rents on this property been only $950/month.

The 10% Rule Test would have looked like this…

$950 * 12 = $11,400

$11,400 / $150,000 = 7.6%

If this was the case, and I obtained a value of 7.6%, I would not have been interested in this property, and I would have moved on to analyze the next property.

At this stage, do not fret too much about understanding the intricacies of the 10% Rule formula.  Just remember that if a property passes the 10% Rule test, it is a good property that you need to further research.

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