The 6% Rule Applicable to Multifamily Real Estate Developments
A lot of people understand that real estate is an important part of an investment portfolio. Throughout history, growth in real estate has always been higher than most other investment options. Even if it doesn’t grow, it keeps up with inflation. The vast majority of people who invest in real estate do so by buying their own home. Some, however, take this further and become real estate development investors. For Dean Kirkland Vancouver WA is one of the best areas to do this in. Vancouver Washington is a popular area and one that has seen substantial growth. To encourage more people to consider this type of investment, he refers to the 6% rule, which relates to a number of key factors.
First of all, most people need a mortgage to purchase real estate. In case of an investment, this down payment usually has to be higher than in owner occupied properties. In fact, a down payment of 25% is generally required. Hence, you must consider whether this is possible for you.
The Monthly Expense
The monthly expense you have to calculate is the loan principal and the interest, but also real estate taxes, escrow, insurance, and other associated costs. To be safe, you should keep money aside for times in which there are vacancies in your property. This should be, at a conservative estimate, one unit for one month, which equates, on average, to 8% of the anticipate revenue.
The Monthly Revenues
This calculate looks at what you expect to earn in rent, minus the 8% discussed above. You also need to deduct all your monthly costs, including the fixed costs and anticipated costs for repairs, and so on. The net revenue should be at least 6% of your acquisition cost and 6% of your expenditure. To highlight this: if you purchase a property, including all renovation costs, for $250,000, you must have a net income (rent revenues minus fixed expenses) of $15,000. If you took out a 75% mortgage on that property, with fixed expenses of $1,250, then you need to add a further $75 (6% of $1,250), the 8% vacancy ($100), and 5% for reserves ($62.50). Hence, what you really need in rent is $1,250+$75+$100+$62.50, which equates to $1,487.50. You have to work this out before you decide to buy, and determine whether it is reasonable to assume that you will earn this. This is also why it is called “the 6% rule”.
Last but not least, investing in real estate development is about hoping for appreciation and an increase in value. This may not be visible in your cashflow, but it is there regardless. You can depreciate property from income taxes, which means more money is potentially earned.
It is a very good idea to invest in real estate, and particularly in real estate development. However, Dean Kirkland warns that it must be done attentively, wisely, and while keeping the bottom line in mind. This is a common sense risk/reward approach.