Key Takeaways
- • Investors screen rental properties with several rules of thumb, including the 1% rule (monthly rent equal to 1% of purchase price), the stricter 2% rule common in low-cost, high-risk markets, and the 50% rule, which assumes roughly half of gross rental income goes to operating expenses excluding mortgage principal and interest.
- • Gross rent multiplier (property value divided by annual gross rent) is used mainly to compare properties within the same market, with a score of about 4 to 7 often viewed as a reasonable deal in many areas.
- • Lenders typically look for a debt service coverage ratio (NOI divided by annual principal and interest) of 1.20x to 1.25x or higher on investment property loans.
Summary
Rental property investors rely on a set of screening metrics to judge whether a purchase is likely to produce adequate income relative to its price. The 1% rule, which holds that monthly rent should equal 1% of the purchase price, remains a widely used starting point. The 2% rule applies a higher rent-to-price target and is more common in lower-cost, higher-risk markets, while the 50% rule estimates that about half of gross rental income will be consumed by operating costs over time, excluding mortgage payments.
Beyond these shortcuts, investors use gross rent multiplier (GRM), calculated by dividing a property's market value by its annual gross rent. A GRM of roughly 4 to 7 is often considered a reasonable benchmark in many markets, though the metric is most useful for comparing properties within the same local market. Because GRM does not account for operating costs, it indicates how many years of gross rent would equal the property's value rather than how long a mortgage would take to repay.
Lenders evaluate debt service coverage ratio (DSCR), defined as net operating income divided by annual principal and interest payments, to confirm that property income supports the loan. Lenders generally look for a DSCR of 1.20x to 1.25x or higher. Investors also track capitalization rate, which divides net operating income by purchase price, and cash-on-cash return, which measures annual cash flow against the out-of-pocket cash invested. The 70% rule, which caps purchase price at 70% of after-repair value minus repair costs, is aimed primarily at house flippers rather than long-term landlords. Source material for this item did not include specific findings on current renter trends, so this summary covers the underwriting framework investors apply to rental properties.
Beyond these shortcuts, investors use gross rent multiplier (GRM), calculated by dividing a property's market value by its annual gross rent. A GRM of roughly 4 to 7 is often considered a reasonable benchmark in many markets, though the metric is most useful for comparing properties within the same local market. Because GRM does not account for operating costs, it indicates how many years of gross rent would equal the property's value rather than how long a mortgage would take to repay.
Lenders evaluate debt service coverage ratio (DSCR), defined as net operating income divided by annual principal and interest payments, to confirm that property income supports the loan. Lenders generally look for a DSCR of 1.20x to 1.25x or higher. Investors also track capitalization rate, which divides net operating income by purchase price, and cash-on-cash return, which measures annual cash flow against the out-of-pocket cash invested. The 70% rule, which caps purchase price at 70% of after-repair value minus repair costs, is aimed primarily at house flippers rather than long-term landlords. Source material for this item did not include specific findings on current renter trends, so this summary covers the underwriting framework investors apply to rental properties.
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