Want to know the 3 most common rules of thumb when it comes to investing in real estate? Well, you’re in luck!
This is a question that Dan and I are asked frequently. “Can I apply this rule of thumb?”
This week we have done some research, poured through tons of material, and selected 3 of the most common rules of thumb we could find when it comes to investing in real estate. And now, we are going to compare them to our portfolio and see if they work!
The 1% rule, 50% rule, and even the 70% rule… do they apply to commercial real estate? What do all of these percentages mean?
Find out on this week’s episode of Multifamily Investing Made Simple.
“The problem with the rules of thumb is they don’t shift with the business model or the person’s hand.” – Anthony Vicino
“The main thing you want to focus on is having a concrete strategy and really clear investment parameters that you follow over and over again.” – Dan Krueger
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[00:00:00] Anthony: Hello and
welcome to multifamily investing myths. Simple. This is the podcast. It’s all about taking the complexity out of real estate investing so that you can take action today. I am your host, Anthony, the CEO of Invictus capital in this here. This guy next to me, his name is Dan. I’m very. Krueger, you sound
[00:00:30] Dan: like a, like a 12 year old giving a book report.
That’s what I
[00:00:33] Anthony: was going for. I did it. Yeah. That’s exactly what I was channeling.
[00:00:37] Dan: Absolutely
[00:00:38] Anthony: horrible. As I started, I was like, I really hope you get what I’m, what I’m shooting for here. So if you did the not means maybe the listeners did as well, and they won’t think I’m. A very special person. Who are I am my girlfriend, my mom, they all tell me.
So, so guys and gals, thank you for joining us for another episode. I’ll okay. I’ll stop with the voices for now. Uh, today we’re going to talk [00:01:00] about, we actually did some research for this one. We did some math. We busted out some spreadsheets and that’s something. I think this might be one of the most well-prepared episodes that we did.
We’ve done. Like we usually just go, Hey, what do you wanna talk about? And then hit, hit.
[00:01:13] Dan: Yeah, this one warranted a little bit of due diligence because we thought we knew how we felt about these things. We’ll get into it, but we thought we knew what we thought. And then we’re like, let’s double check and make sure that what we think is that.
[00:01:25] Anthony: Reality to make sure that we’re. Yeah. Yeah. So today we’re going to be talking about in real estate investing, you always hear about like some common rules of thumb, and we’re going to talk about three of the most common ones today. And usually I get the question all the time when I’m talking with like, the students is like, Hey, can I use this rule of thumb?
It doesn’t hit this metric. Is that okay? Nope, no rules of thumbs are stupid. Don’t use rules of thumb. So then as I sat down and we busted out these rules of thumb, we started looking at our portfolio and like looking at the spreadsheets, we’re like, all right, dude, do our deals actually hit these, like, like, why don’t we like rules of thumb?
[00:02:00] So we’re trying to like articulate that. And I think we’ve come to some pretty interesting conclusions on that. Stick around. If you’re interested in learning, does the 1% rule does the 50% rule and does the 70% rule actually
[00:02:13] Dan: work? And maybe you just want to know what those rules, he, no idea. We’re going to tell
[00:02:17] Anthony: you.
Yeah, I’ll be honest. That 70% rule, uh, joked me. I didn’t know it coming in. So yeah, we did a little bit of research. We’re we’re good to go here. All right now, before we do that. So now we’ve laid the field. You understand what is in it for you to stick around to the end and also it really awesome book report.
I’m going to give it the end and move forward, full report.
[00:02:37] Dan: A nine-year-old
[00:02:38] Anthony: read by Anthony as a nine-year-old school. Yup. Um, so stick around for that as well. But before we get to all of that meaty, good goodness. Uh, what do you think, should we figure down into the muck, into the, into the weeds, into the
[00:02:54] Dan: sewers?
As far as like how much you’ve referenced [00:03:00] meat on the show, because I feel like he used that word in a few different ways. Freedom
[00:03:05] Anthony: 90 beats. He saved me. I saved me a lot. Um, I’m hoping that someday when we are like Joe Rogan and we’ve, and I’m not saying Joe Rogan. And have a big podcast like Joe Rogan, but I’m saying like when we’ve done 11,000 episodes that somebody will go back and they’re going to like take these little clips from us and they’re going to be like, Anthony is always talking about meat.
This guy’s obsessed in Dan, Dan, I don’t know if you say it on the podcast ever, but the thing that you say all the time got a few things. Would you say a couple of things, but one is you do the lip smack. Oh, I know. Um, but the, the other one I wish, I wish you did this on the podcast is you always say. Yeah.
[00:03:44] Dan: I, I think I purposely, well, yeah, there’s really nothing that would lead me to say that on the podcast. I should say that before we get into a project or something, and we’re not really doing projects
[00:03:55] Anthony: on the show, let’s just say listeners. When we’re in our meetings, our L [00:04:00] tens with the team, Dan has a pounded out type of guy.
[00:04:03] Dan: And I don’t think anyone else likes it. Nobody likes,
[00:04:06] Anthony: nobody likes it. Makes everybody a little bit uncomfortable. Everyone
[00:04:10] Dan: gets away from the conference table really
[00:04:12] Anthony: quick. Give him some distance. All right. Let’s all right. You’ve been stalling long enough. Let’s get down to the sewers and talk bad investing advice.
Yeah. Let’s pound it
[00:04:21] Dan: out. This week’s bad investing advice or tip of the week is design your investment strategy around your desired returns that you want to make
[00:04:36] Anthony: portfolio design. Okay. Yeah. Isn’t just kind of go hand in hand with being like, um, understanding what your investment parameters are like your investor profile.
Like what’s my risk returns that I’m looking for. Shouldn’t
[00:04:48] Dan: deal with it. From a high level, you do want to decide, okay, here’s my goals for the next 30, 40, 50 years. If I’m kind of playing for retirement, how much do I need to make over the next 40 years to retire? That’s great. [00:05:00] Uh, the point I want to make with this one, I’m why I’m going to try and label this bad advice is that if you are looking at your short term outcomes, uh, and trying to see those numbers show up in your short term outcomes and, and use that to judge whether or not your strategy is viable.
That’s not a good thing. You want to be more process-focused now you do want to try to figure out what you need to accomplish over the next 40 years to achieve your goals. And you’ve got to quantify some things there, uh, but then don’t look at each deal that you do as being a winner or loser based on whether or not it hit your desired returns.
The main thing you want to focus on is having a concrete strategy and a really clear investment parameters that you follow over and over again, because there’s going to be some high flyers to do amazing. And there’s going to be some that, that aren’t that great. And if you get too focused on the short term outcome of each individual occurrence, you might’ve done all the things, right.
And for whatever reason, the deal just didn’t really perform as, as well as you had hoped, that doesn’t mean that you should deviate your strategy. If you followed all the things, if you, [00:06:00] if you set your parameters and you checked all those boxes, then that was a good deal, regardless of how much money you put in there.
In my opinion. So the point of this isn’t that you shouldn’t quantify how much you need to make. It’s just that you don’t want to use that as your be all end all metric. In the short term, you want to be more focused on the process and then give it enough occurrences. Assuming your strategy is viable.
I’m assuming you’re getting into asymmetric type of deals where the upside is much bigger than the downside than given enough occurrence as you should.
[00:06:29] Anthony: I agree with this a hundred percent actually. Um, let’s if we just tweak a couple of words here, it makes it a lot more sense in another context, which is instead of focusing on your goals, you know, focus on the process instead of the outcomes, focus on the process.
When we look at returns, returns really are the outcome. They’re the goal, but that’s really largely outside of your control. You throw the ball at the, at the wall and you hope like, I don’t know where that metaphor has gone, so let’s just scrap that right away. But this is something that Charlie Munger talks about, which is like, [00:07:00] what matters is the process that you employed when making the decision?
If that was sound in with the information that you had given the circumstances, if your decision-making process with. And the deal doesn’t work out well, that doesn’t matter. Right. Cause it’s how you came to the conclusion that that ultimate ultimately matters, which is again, the process, not the outcome.
[00:07:23] Dan: another angle on this one is that’s important to recognize is it’s not all about, um, you know, trying to make sure that you’re, you’re looking at your, uh, your, your shortfalls in the right light and looking at them from the process perspective, as opposed to the results, but also. Uh, your huge successes, because sometimes you might do a bunch of stuff wrong and it happens to put a bunch of money in your pocket.
And so if you’re looking at the outcome there, the returns that you made, that’s just going to reinforce that all the stuff you did is correct, and you should go out and do it again, even though you’re processing. So this is,
[00:07:55] Anthony: this is something that I recommend everybody do is go and start, uh, creating a [00:08:00] decision journal.
I have a template that I use. So if anybody wants to get a hold of that, you know, shoot me an email, Anthony at Invictus multifamily, I’ll share that with you and what the decision journal is is it’s something I picked up from Charlie Munger. And from, uh, this, this blog called Farnam street, these guys are, they’re all about mental models and thinking like, how can we become better thinkers?
And the decision journal is really interesting because. Everybody like we’re constantly having to make decisions in the quality of our life and our results is predicated on the quality of our decisions. Right. And yet I would hazard a guess that very, very few of you guys and gals listening to this at home right now, have a actual process for documenting and then quantifying and evaluating your decisions, whether they’re big or small.
And so what the decision journal let’s you do is as you’re struggling with a decision. Whatever that might be like, you go through the template and you say, hell, okay. What’s my emotional mood right now. How am I feeling? Okay, what, what are the options in front of me? What have I [00:09:00] considered? What do I think are the probability of results of ABC and then going through, why am I choosing what I’m choosing?
Because a lot of times, you know, you make a decision and then six months later you look back on it and you know, life has crumbled in one way or. And then you justify the decision and be like, oh, I meant I, this is why I decided this thing is it, it’s not right. And the decision journal is an objective measure of saying, this is what you really were thinking.
And until you know that, then you can’t accurately like course correct. And say like, okay, here’s where my judgment was off.
[00:09:32] Dan: Yeah. And I think it’s especially important to, to actually write this down to the, you know, kind of, to reinforce the whole fact that. Doing this in your head is okay. That’s probably a good start, but actually like putting it on paper is so imperative because you’d be surprised what stuff comes out when you’re writing that you didn’t even know was ticking around in your head.
So specifically, like on that mental side, trying to note where you’re at mentally. If you don’t write that down, you’re not really going to have a good idea of what’s actually going on in
[00:09:59] Anthony: Yeah. And [00:10:00] a hundred percent guys, like you’re going to lie to yourself. It’s just our human nature. Like you, if you don’t write it out and you just like, okay, this is why I made the decision.
Then six months later, whatever you look back on it, like you’re gonna lie to yourself and you’re going to paint yourself in a better light. And. You’re going to say like, oh, I knew this and this, and this is we’re going to happen. When in reality you can possibly have known that. So like, do yourself a favor, get in the process of keeping a decision journal so that you can look back and evaluate was my process good.
And if it was then the re result in the outcome, you know, you can chalk that up to external factors and say like, okay, you can’t do anything about that. But the pro what I could control my decision. Was as good as it could be.
[00:10:42] Dan: Yeah. And it should be simple. I think, um, you know, it’s going to be unique for everybody.
You want a simple framework. That’s something that you can complete pretty quickly, maybe max four or five or six things that you’re checking off and that you’re notating. So this isn’t a big worksheet necessarily. It’s just, you know, for, [00:11:00] for a lot of my stuff, there’s like four things. I try to whittle it down to like the four things that need to the four boxes that need to be.
Um, and so there’s, you know, the real estate side where we’ve got those kinds of, uh, uh, boxes that we’re checking in and I’ve got stuff on the personal side, you know? So the, the actual format of this is going to vary relative to what a you’re applying it to. But from an investing perspective, there’s probably, you know, four or five boxes that you want to check.
It’d be a little bit different for everybody, but try to keep it simple. Yep.
[00:11:28] Anthony: So that’s your homework. People get out there and go create your investing process so that you can start focusing on that rather than getting hung up on the return. I think if your process is good, the returns will come. Can’t put it any simpler than the nudge.
All right. So let’s get into this week’s meat and
[00:11:48] Dan: potatoes. How about some vegetables, more
[00:11:51] Anthony: meat? Yeah, I saw that. Yeah. Um, now that you mention it, I maybe do have a fixation with me. But can you
[00:11:59] Dan: blame [00:12:00] me? It’s delicious. Yeah. I’m just curious what the data says. How many?
[00:12:04] Anthony: Maybe a lot. Um, all right. So listeners, if you want bonus points and extra credit, you go listen to all 170 plus episodes.
We’ve done document every time I’ve said. And then, um,
[00:12:19] Dan: or just write an algorithm to look
[00:12:21] Anthony: through the, that could work too. So we have transcripts on the website. You can always go and read everything that we’ve we’ve talked about here. Um, so go create an AI and then take all those references to meet, put them in a review on, uh, apple iTunes and say something to the effect that Anthony talks a lot about me.
Um, great podcast. Anthony loves me. Now let’s talk about real estate, something else. I love just as much. Um, let’s talk about the three rules, uh, rules of thumb, of, of real estate investing and on, and then full disclosure. I used to hear about these rules of thumb a whole lot more when I [00:13:00] first started my journey into real estate.
And the reason for that was because I went to BiggerPockets. I listened to. A lot of those people are doing like single families they’re doing fix and flips, maybe duplexes, triplexes, not allowed a lot of large commercial multi-family complexes. And so you would hear people talking a whole lot more about rules of thumb.
And I think the reason largely is because you’re turning through a lot of deals. Like there’s just a lot of inventory when you’re talking about fixing flips and single families that you have to have some, some quick ways to fill. And say, is this a good investment that I should pursue? Or should I just ignore this one with multifamily?
I don’t know, like in the twin cities, there’s, there’s probably less than 2000 buildings that qualify for what we do. And so we can afford to go and not just use rules of thumb and then actually underwrite them. So, yeah,
[00:13:49] Dan: and also with the larger stuff you’re dealing with larger dollar amounts. So it makes a lot more sense to take a look at.
Uh, house that you’re going to buy and flip for $80,000 using rules of [00:14:00] thumb, as opposed to a $20 million building. If you’re going to be doing a $20 million thing, you probably going to want to actually dig a little bit deeper. These rules that we’re getting so full
[00:14:10] Anthony: disclosure is that I really don’t hear anybody talking about these rules of thumb in commercial multi-family real estate.
So right there. But you know, when we looked at these initially, we just kind of dismissed them out of hand, but then we said, okay, let’s apply them to our portfolio and see like, do these rules actually hold up. Do they, do they make sense? Um, cause I just assumed that they wouldn’t really, because nobody uses them in the space.
I assume that they just wouldn’t really make any sense. It turns out maybe they do. Maybe they don’t. So the first rule of thumb is what’s called the 1% rule. Some people call it the 2% rule. If you rewind about a decade ago, you started, you heard a lot more about the 2% rule. These days, you hear more about the 1%.
Um, maybe more like the 0.7, 5% rule these days is like, it’s a hot market. So, uh, basically already
[00:14:57] Dan: the rules are relevant. If you keep
[00:14:58] Anthony: changing the rules, keep [00:15:00] changing. Well, the rules change because the market changes, right. And people are
[00:15:03] Dan: just lowering their threshold for what’s.
[00:15:06] Anthony: What’s happening there.
Yeah, that could be, that could be so the 1% rule or the 2%, whichever one you want to call it here
[00:15:14] Dan: 1%. I think that’s
[00:15:15] Anthony: what we were playing around with. That’s what we’ve been playing around because nobody, nobody is talking about the 2% rule in this market anymore. It’s so hot. And your ability to go and buy something at a 2% is it’d be really crazy.
So what it effectively says is that the expected monthly. Rental income divided by the after repair value of the home. So what’s that mean? Let’s say we are buying a house for a hundred thousand dollars. The 1% rule says that each month I should be making our, I guess, annually to a 1% in rental income of that purchase price.
So that was about $1,000 a month. So if I buy a home for $100,000, a single family home and I can rent it. For [00:16:00] say $2,000 and then maybe 50% of my expenses goes towards or 50% of my income goes towards expenses. And I’m leftover at the end of the month with a thousand dollars, then I’ve hit the 1% rule.
[00:16:12] Dan: Yeah. Yeah. So it’s basically saying that if a deal that you’re looking at hit hits this threshold, then it should make money and cashflow. I think that’s the, the goal of the rule is try to figure out, does this cashflow and. That’s factually it. Yeah.
[00:16:29] Anthony: And this doesn’t factor in one of the interesting things and why it really doesn’t apply to what we do is because it’s really just looking at cashflow in, in a microcosm and it doesn’t take into consideration equity and appreciation and all the other things that we’re going to go do to force appreciation into a building.
It’s just saying, what’s the cashflow situation? How much are we generating? Um, and we looked at the last deal that we did mini haha. And,
[00:16:53] Dan: and it’s interesting far off. Yeah. Well, I mean. It didn’t hit the number. And it’s interesting [00:17:00] because the question there is we’re looking at a value add deal or we’re coming in and the rents are below market level.
So the question is, do we look at the, uh, the market rents where we’re going to relative to our purchase price? Do we look at the current rents? Do we factor in other income? There’s all these kinds of nuances that are left out because these are rules that are primarily coming from a smaller marketplace where the other income on a single family home.
Much less of a thing, right? You don’t have a laundry room. Um, you don’t have, um, you typically don’t have like pet fees and stuff like that. So as
[00:17:34] Anthony: I understood, as I understood the way that this was defined, cause we went to Investopedia in bigger pockets, like how was this actually defined? Um, it says expected monthly rental income.
[00:17:44] Dan: So I took that as total,
[00:17:46] Anthony: total. I would take that as total
[00:17:47] Dan: as well. Um, but again, it’s, you know, if you’re looking at a value idea where let’s say right now, the rents are on this hundred thousand dollar house right now, there’s somebody in there paying 800. Uh, but it [00:18:00] should be a thousand. Right. Do we look at it with a thousand?
Do we look at it with the 800 that’s in place?
[00:18:05] Anthony: I don’t know. Yeah. That’s a good question. I think. And also like for us, where did it come out? It was like 0.8. Yeah. I think we
[00:18:11] Dan: landed around 0.8, seven looking at our current monthly income. At the day of acquisition and, uh, over the year to valuation, which is effectively where our after repair value would be, because that’s not really the terminology we’d use.
And yeah, we don’t use army space, but that’s effectively once we’ve got our business plan executed in that property, up to par with the rest of the. That’s effectively our after repair
[00:18:38] Anthony: value. And that’s why I think you don’t hear people in this space really talking about the 1% or 2% rule is because we’re not buying these things just for cashflow, right?
Like that’s one aspect of it. But honestly, in the first couple of years that we do a deal, it’s not cash flowing. Super great. Maybe five, six, 7%. Right. But in the later years after we do a cash out refinance and we get it stabilized and get rents up, maybe it’s, you know, double digits, [00:19:00] you know, but for us, that’s only.
Part of the equation. The other part of the equation is the forced appreciation that we can put into the building and then realizing that equity gain through a refinance. And the 1% rule is, is just overly simplistic. And doesn’t have a method for accounting for that, for instance, you know, no development deal, whatever hit the 1% rule.
No, right. Because there is no cashflow, so therefore never do that deal. And so it’s a little bit like using. Um, just the wrong tool to measure the wrong thing. It’s like using a book to measure. Um, I think you’re looking for like a ruler to measure
[00:19:36] Dan: like liquid.
[00:19:37] Anthony: Yeah. There you go. I like that. That’s perfect.
Yeah. We’re using a ruler to measure liquid don’t. Yeah. Yeah. I don’t know where it’s going with a book to measure things. I just looked down and saw a book and it jumped started going there. I appreciate that’s what partners are for. All right. So I can leave now. Yep. Yep. We’re done. So what’s interesting, kind of tied into the.
Of cash flowing. It is. And you’ll hear this a lot on bigger pockets and other forums is people talking about [00:20:00] how much they want to make per door. Like I want to make, I want to buy a building and I want to make $200 per door. Now
[00:20:06] Dan: this one, I, um, I didn’t use this to make any decisions on my first deal, but I did use it on my first one or two deals to see if.
Uh, as good as it should be, right? Because there’s this kind of common consensus that one 50 to 200 is what a good stabilize multifamily should produce. I’ll
[00:20:28] Anthony: be honest. I usually the same thing on mine, on mine too. And mine was coming in at like 180 and I was like, okay. Yeah. Yeah. I mean, it’s enough, it’s enough coming in to justify the expenses of doing the work.
And I think that’s where this one comes in is like, at the end of the day, like how much are you really going to be making on this thing? If you’re gonna go buy a single family home and you’re only making $70 at the end of it, it’s like, is it really worth it the time and energy? Probably not.
[00:20:50] Dan: Yeah. And I, I actually probably go as far as to say that you probably want those numbers a little higher on single family home.
Yeah, for sure. Cause I mean, if you’re going to spend any of us, we don’t want to go on a tangent there, but, [00:21:00] uh, as far as like the 1% rule goes, I think. For the right product kind of makes sense as like a really quick sniff test, but that’s all JV is to judge really quickly. If something’s even in the realm of being a good deal, you don’t want to buy a deal because it hits the 1% rule.
And so if I think the way I would interpret this as if a deal hits the 1% rule, that’s implying that there’s probably a good deal there, but to the point we just made our deal that we just, uh, Uh, close on a couple of months ago, which is a great deal. Didn’t hit this threshold. So it doesn’t mean that you need to hit the special to find a good deal.
There’s a lot of other factors that are
[00:21:37] Anthony: different business after strategies, but honestly, like this is if I was doing single families or duplexes like this number, actually I, I do even now mentally think about it. It’s actually interesting. Cause like, if I, and I don’t do this, but if I was going to go by.
Uh, a single family home for $300,000. My mind would immediately go to all right. We need to, [00:22:00] it needs to be making at least three K. And if I go in there and I see that it’s only being rented out for two K, I’m like, there’s no way it doesn’t make any sense.
[00:22:06] Dan: And it’s also a lot easier to do that in your head for a single family.
But if you’ve got like a 30 unit good luck, you know, you’ve got to like do all this, you’re going to have to bust out a spreadsheet. So, but at that point you might as well just kind of underwrite the thing. And
[00:22:18] Anthony: again, because of what you said before about like the. Forms of income on a single family home, really easy to calculate, like the laundry pet feeds, like whatever it is.
It’s not going to be hard mental math. Once you start factoring in all that and parking into a 30 unit building, like you’re at some like Goodwill hunting levels of mental math, so good luck. All right. So that’s the 1% rule. Not so
[00:22:42] Dan: what’s our verdict. I mean, honestly
[00:22:43] Anthony: fine. It’s fine. Use it. Yeah, we don’t, we don’t use it for what we do.
I think it’s applicable for the right business. Yeah. And it’s just not our business
[00:22:52] Dan: just as like a quick sniff test, not as a catalyst to
[00:22:56] Anthony: start putting th even decide if you want to give that broker a call. Yeah, that’s it. [00:23:00] Okay. So rule number two. Is the 50% rule. And I already alluded, I pretty much already laid this one out earlier.
Um, it unintentionally really what this one says is that 50% of your rental income is going to go straight to your operating expenses. That’s not counting debt by the way, just your operating expenses. So if I’m making $10,000 a month in income, Or, you know, um, revenue, top line revenue, then 50% of that is going to go to op ex, which means I’m going to have 50 or $5,000 leftover for debt service and cashflow and all that other stuff.
[00:23:36] Dan: Yeah. This one, we actually like a lot because it is a fairly conservative yet, not too conservative, a number to plug because of the way the market works for the multifamily spaces. Something comes across your desk and. Usually the very first information you get is a potentially a whisper slash, which is, um, you know, kind of a, [00:24:00] a preview of what the seller’s expectations are on price and a rent roll.
Those are usually the first things you can get your hands on. Usually the expenses, the P and L and all this other information that you want is going to come later when the seller knows you’re. So typically you’re able to get your head wrapped around the income really early and know what that is. And if you need to just plug a number in for the expenses to figure out if it’s worth looking at, uh, then you can actually make some decisions without getting a ton of information.
So we use this one, uh, a decent amount because our stabilized portfolio for C plus B minus class assets tends to shake out to low forties to mid forties. Um, and so if we plug a 50% in there, Fairly confident that that’s, um, setting us up with a conservative assumption about what the expenses are actually going to be.
So this one we actually use, I actually use
[00:24:46] Anthony: this one constantly. Like if I, if I know no other number besides like how much income this bad boy is bringing in, I’m like, cool. I can give you what I would roughly pay. Just real, real rough, uh, which is really [00:25:00] nice. And it doesn’t always work because sometimes you’re going to get the, you know, the T 12, you’re going to dive into the, um, the financials and realize they’re running at a 68% expense ratio.
And you’re like, uh, why are your expenses so high? And sometimes they’ll come back and they’re going to running it at 32%. You’re like, okay. But 50% is a nice, I think, good place to start for mental math. And again, like rules of thumb are just for. I’m hoping you decide is this worth like calling the broker, going on a tour and taking that next step.
This is, this is not part of any formalized underwriting process. So do not judge the merits of an investment based off of these rules of thumb.
[00:25:37] Dan: Yeah. Yeah. You don’t want to put something under contract. I mean, you,
[00:25:42] Anthony: you shall be it foolish mistake. Don’t do that. All right. Rule number. So rule number two.
Good to go use it. 50% rule for
[00:25:51] Dan: back of the napkin back of the napkin.
[00:25:52] Anthony: Yeah. All right. Rule number three is the 70% rule. And this is one that I actually had to research because I wasn’t sure what this even was. [00:26:00] Um, and it, it makes more sense for single family fix and flips. So it comes from that world. So it says that the maximum purchase price of a.
Is 70% of the after repair value minus the repair cost. So let me explain, I know that’s very key. I was like, I had to do hula hoops with this one too. I was like, what does this mean? So let’s say I, after repair value is after I buy the building, I do all the repairs. What’s what am I gonna be able to sell it for?
Let’s say I can sell the. After repairs for a hundred thousand dollars, and let’s say I put $10,000 into it. So I’m going to take that 10,000 from the 100 I’m left with $90,000. So the 70% rule says, okay, the most that I can afford to pay for this flip is 70% of that 90,000. So the after repair value minus repair costs, whatever 70% of that 90,000 is, that’s what I can afford that.
And really what this is saying. Like it took a little bit of mental, like [00:27:00] jujitsu for us to figure this out is like, really all it’s saying is you want to make sure that you have like a 30% margin after repair values are accounted for it to even justify doing the deal.
[00:27:10] Dan: Yeah. If something’s going to be worth a hundred grand, you don’t want to pay 90 for it.
That would be bad. It. Yeah. So that’s, that’s what we kind of got out of. It was trying to make sure that there’s a cushion built in there when you’re trying to figure out an offer price for something. Um, and I think part of the reason why this just isn’t applicable in our space is because we’ve got a much more quantitative valuation model in larger multi-family.
So we don’t need to try to reverse engineer things in this convoluted way. With a 70% rule, we can look at the NOI and we know what the cap rate is. And so we can fit. What the market deems this property, uh, to be worth theoretically today based on the NOI and the cap rate. So we don’t need to. Jumped through hoops to the 70% rule to try to figure that out.
Um, [00:28:00] it, and that’s really what I liked about this model. Initially, what drew me in was the lack of subjectiveness of the valuation.
[00:28:06] Anthony: Th the, the other, the other reason that this rule kind of doesn’t apply and falls apart for us is this is really only looking at a single family that say, fix and flips where there’s only one way to make money in that.
Right. Like you go, you do the work, you sell the thing. There’s no cashflow in the meantime, you’re not getting into the tax benefits. Right. Whereas what we’re, we’re doing, you’re getting a whole lot of other benefits associated with that, which this just doesn’t take into consideration adequately. Yeah.
[00:28:31] Dan: So, because we’re making money like five different ways in our deals, basically in a flip it’s one and you get
[00:28:37] Anthony: so, but what’s interesting is we went and we applied, like we did, we applied this one. Um, And let’s say, when we’re looking at a deal, we like to see if there’s like about 150 to $200 of a Delta between in-place rent versus market rent, which means, okay, how much upside is there potentially on this thing, $200 in our [00:29:00] market is about 20%.
Um, and so if you do the math on this and we can go in and we can, you know, add 20% more value to our asset and then go and do the refinance. And return up to 40% of our investor capital. Then
[00:29:15] Dan: when we were backing into this before it was really the 20%, um, increase was we were looking at increasing the value of the building 20%.
So that may or may not translate to the rent’s going up the same amount. Um, it could be a combination of reducing operating expenses. It could be any fee revenue that wasn’t there before. So the rent, so there’s a bunch of different ways that we, we could be adding value here, but before looking at this rule, Uh, we’ve just known from all the deals that we’ve done, that we typically want to see 20% upside in the value of the building.
So if we buy something for a million, we should be able to get it to 1.2 for it, to make sense for value, add cash outreach. Deal. If we’re not increasing it by 20%, if we’re only raising a, the value of the building [00:30:00] by like 10%, that’s not going to leave a whole lot to pull out at the refi. And it’s, it’s probably not worth all the effort for all these things.
So 20% was kind of our threshold for that, which actually kind of worked out to, um, be pretty similar to what this. Shakes
[00:30:14] Anthony: out too. Yeah. On mini haha. What was the number it came out? Was that like 28? Uh,
[00:30:18] Dan: yeah, it was mid twenties. Cause we initially didn’t back out. It was like 35%, but we didn’t back out.
Yeah. It was mid twenties, I think.
[00:30:25] Anthony: So. All told it kind kinda came in line. And really when you really boil this one down is it’s just saying like, and this is good for business in general is like understanding, like what’s the margin that’s expected in the industry. So like in grocery stores, like your margin is like 2%.
Whereas if it’s a service-based or service space or a consult consultation, it’s gonna be very, very high, like 70, 80%. This is just saying in real estate for. You should be getting a 30% margin and it actually kind of holds true on the multi-family side too. Like it’s not too far kind
[00:30:59] Dan: of makes sense, [00:31:00] but I mean, the statisticians who are listening to this right now are probably ripping their hair up because we have one data point, which is absolutely horrible data set to be trying to extrapolate from.
So we looked at one deal
[00:31:09] Anthony: to me. This is Mo this is, this is for entertainment purposes. Don’t make us do homework
[00:31:15] Dan: and you can save to say people’s expectations of us are pretty low. So I don’t think.
[00:31:18] Anthony: Got I started this podcast pretending I was a, nine-year-old doing a book report. So I don’t think we have to worry about expectations being set up to properly.
Yeah. So again, we didn’t go super deep. We didn’t look at the entire portfolio, just a single data point, but it is interesting to note that that one single data point did kind of. These three rules, not that on, but you know, close enough where you’re like, Hmm, that’s interesting. I wonder if there’s something they’re
[00:31:44] Dan: still not going to use them.
I mean, you’re not going to get on the back of the napkin, but the other ones, I’m not going to factor them into
[00:31:49] Anthony: anything. Yeah. The 70% rule, I won’t call it the 70% and I would never define it in this way, but definitely going into a deal and saying, we’re looking for a minimum of 20% upside. Like [00:32:00] that’s not so hard to say, actually I think that one’s pretty, I might be a rule of thumb that we employ here at Invictus.
I don’t know. Sometimes.
[00:32:08] Dan: Yeah. And it’s, it goes out the window for doing, uh, like a stabilized turnkey though. It’s just like by the whole thing, then it’s
[00:32:14] Anthony: again, and that’s the problem with the rules of thumb is they don’t shift with the business model or the person hand, right? Like your rule of thumb, your, your hands are different than mine.
So your thumbs don’t fit on my thumbs. Um, we can do a thumb war. It probably when you’re climber,
[00:32:31] Dan: I feel like I got,
[00:32:32] Anthony: yeah, I got, I got those jujitsu climber thumbs. Like you don’t, you don’t want to get in here. I’ll pin you. I am double
[00:32:38] Dan: joining those so I can do this. I don’t know if that’s a big,
[00:32:40] Anthony: ah, for the listeners at home that are not on YouTube, watching that you should go.
Maybe not. I get that checked out, get that checked out. Definitely. But for our listeners, if you want to see what Dan just did with this thumb, you go to YouTube and look up. Multi-family investing made simple. Remember all of these podcast episodes are available in video [00:33:00] live 4k, HD, um, way more pixels than you need of us, but they’re there.
You can see what Dan did with his thumb is kind of gnarly. You can also see,
[00:33:10] Dan: I can do this. What, how was that?
[00:33:13] Anthony: Even that’s worse. Okay. Yeah. That was where it’s actually. So if you’re curious, what I just did to freak Dan out there, go to YouTube and watch the video that you’re, you’re not going to regret it.
All right, guys. So I don’t know where to go from here. There’s no place to go, but down. So book recommendation, um, let’s pull somebody else into, into this Meyer. So it just so happens that I got this book, hunter Thompson. Great. Bad-ass capital raise. And just all around cold human sent me a book called, driven is said, Hey, I wanted to get you a book that I thought you’d probably never read before.
And I was like, you’re right. I’ve never even heard of this. So it says understanding and harnessing the genetic gifts shared by entrepreneurs, Navy seals, pro athletes, and maybe you by Douglas Brackman who has two PhDs. And, um, I started [00:34:00] reading in a, I started reading it. I’m halfway through it. I’ve listened to a bunch of his podcasts cause he also has a podcast on this topic and it’s a lot about.
ADHD and people who have ADHD, but it’s also largely applicable to people who are just high-performers and who have like this internal angsty about becoming better versions of themselves, but then never being able to sit back and actually enjoy the fruits of their labor, like just so driven to accomplish.
And I’m guessing a lot of our listeners will resonate with that message. So, so far, but never satisfied. Exactly. I’m halfway through the book, I’m enjoying it immensely so far. So thank you, hunter. And I would, I would recommend it so far, but. I, I do harp on the fact of never making a recommendation. So I finished the book.
So here I am like,
[00:34:44] Dan: Hey, when is, I mean, sometimes, you know, you get halfway through and it’s like, this is amazing. Unless the last half is completely.
[00:34:52] Anthony: Once it gets real weird, gets real racist in there. It could, I’m leaving the door open and I’ll revise my recommendations. It gets weird chapter [00:35:00] six, but the book, the podcast, he does have a podcast called I think it’s called.
It was also very, very good. I would recommend that. So that’s the book recommendation. Those are the three slash four. I think we snuck a fourth one for rules of thumb. Yeah. The 100 to $200 per door. Yeah. That was kind of like a little nubby thumb. It was not a full-time hopefully got a little bit of value out of this.
That’s really surprising. I’ll take it. Cool. Uh, we appreciate you taking some time to join us. Maybe go leave a review. If not. Um, that’s fine. That’s cool. We appreciate you, but we’ll see guys in the next episode, .