AMA - The 1% Rule
James from British Columbia asks:
I have been scouring a lot of Canadian town and cities and have not come across any properties that rent at 1% of houses value let alone 2%. What do you recommend for Canadian’s and am I focusing my search in the wrong areas? I live on the west coast, so I have been primarily looking in the interior of British Columbia and Vancouver Island.
James, that’s a great question. There is sometimes a paradox when it comes to making the numbers work for rental properties. The one percent rule, or the 2% rule are a proxy for not paying too much for your income stream. It’s not exact math by any means. Properties that tend to adhere to the 1% rule fall into one of two categories.
1) Working class, C Class housing in areas where there is steady employment and houses are quite inexpensive to purchase. This happens usually in mature markets. I’m thinking of pretty industrial towns like Sudbury Ontario where there are large Nickel Mines and Smelting operations. But Sudbury isn’t growing like a major Metro like Toronto or Vancouver or Nashville. You need growth to drive up the price. Areas that are more rural like Vancouver Island and the Interior of British Columbia have very high infrastructure costs. The cost of building roads and bringing electricity is high. A good US example where you can often meet the 1% rule is in Indianapolis, Indiana. Boise Idaho would be another.
2) The second area where we often meet the 1% rule is by building new apartments in markets where there is strong demand. This is what my company does. We don’t set out to adhere to a 1% rule. We use more sophisticated measures, but when we look in the rear view mirror, we often discover that we indeed did meet the 1% rule. When we purchase vacant land in the core of the city, next to a great area, we often purchase the land at a deep discount to the market. This is our buy on the line strategy that if you’ve been listening to the show for a while you would have heard me talk about. We consistently build new apartments in Philadelphia that meet the 1% rule, even though we’re not actively setting out to meet that metric.
It’s absolutely true that properties in many markets in British Columbia are expensive. There has been a tremendous amount of immigration and homes that were once very affordable are now out of reach for many average people with real working class incomes such as you would have in those communities. The growth in the cities has had a spill over effect and now even outside the major cities, prices have increased considerably. Sale prices have increased much faster than rents.
I find that the opportunities in many expensive Canadian markets is to focus on very specific under-serviced needs. For example, there may be a shortage of student housing next to a growing community college. There might be a need for luxury rental apartments for senior citizens who are downsizing and don’t want to tie up a lot of equity in their home.