If you want to live well and prosper, King Solomon says, it’s important to “incline thy heart to know prudence.” (Proverbs 2:2) And if you want to prosper in real estate, it’s prudent to look behind the scenes at what seems like a good deal. Figuring out a property’s RV (Rent to Value) ratio is a good place to start.
The Rent to Value Ratio is one of the Three Dimensions of Real Estate Investing – Jason Hartman’s trademark system for evaluating the investment potential of any property. That ratio – the amount of rent charged in relation to the property’s actual value – is a key benchmark of determining term returns on the investment.
An ideal RV ratio is 0.7 percent or higher, with 0.5 percent the bottom acceptable point. For example, a $200,000 property renting for, say, $600, the RV ratio comes in at a dismal 0.3 percent. Increase the rent to $1000 and the ratio improves to the minimal 0.5 percent. But a rent of $1400 yields an RV return of 0.7 percent – that sweet spot for getting a good return.
That’s why ads such as this one that showed up on a recent listing by Zillow are misleading. The ad shows a property with an estimated value of nearly $600,000. But the rent estimate is $2,408 – hardly the best numbers for building wealth. According to our RV ratio formula, that estimated rent in the listing is far too low – yet the property looks like a good deal.
That kind of listing also demonstrates why properties in some of the country’s top markets have hit the ceiling in terms of getting a good return from rentals. Higher-priced properties that have to command equally high rents leave no room for making a profit from rents hat hit the ideal RV range. Less expensive, solid purchases in less flashy markets can.
The solution? Investing in properties capable of generating RV ratios that work – mid range homes in markets able to sustain rents in that zone of 0.5 percent or better. And for prudent investors willing to diversify by tapping into the less glamorous – but more profitable – markets around the country and do the math, that RV “sweet spot” may not be hard to find. (Top image:Flickr/JPhillips)
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The Solomon Success Team
