You’re probably interested in multifamily properties because you have done your research and know that it is one of the most reliable types of commercial real estate, with a solid history of staying resilient against economic dips.
But commercial multifamily — those with five or more units — are capital-intensive and complex assets to manage, which means the stakes are also higher.
Even if you enjoy spotting undervalued buildings and fixing them up, at the end of the day, the deal only makes sense if the rents cover your expenses and leave money in your pocket.
So how can you know if a property is likely to perform before diving into a full underwriting process?
The 1% rule in real estate, used together with the 2% rule in real estate are shortcut worth understanding.
They let you run a quick check to see if the projected rents stack up against the cost of acquisition and improvements.
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What is the 1% rule in real estate?
In a nutshell, here’s how the 1% rule works: Add up the purchase price of the building and any immediate repairs or renovations. Then take 1% of that number. That figure is your monthly rent benchmark. If the property can generate more than that, you may be looking at a profitable deal.
What is the 2% rule in real estate?
The 2% rule sets a high bar by doubling the 1% threshold — and in today’s commercial multifamily market, it’s almost impossible to hit unless you work with very good commercial real estate agents.
You’re not likely to see it in major metros where prices per unit are high. Often, where it does pop up is in smaller lower-cost markets or in buildings that need heavy management and constant oversight.
If you specialize in distressed assets and have access to experienced commercial real estate property management, you can sometimes make the numbers work.
But for most investors targeting Class A or B properties in strong rental corridors, the 2% rule simply isn’t a realistic benchmark.
You can instead think of it as a ceiling that highlights just how rare those kinds of cash-flow-heavy deals really are.
How the 1% and 2% rules play out?
Say you’re considering a 20-unit multifamily property with a purchase price of $5 million.
To meet the 1% rule, the property would need to bring in at least $50,000 in gross rent every month. $50,000 is 1% of $5 million.
To hit the 2% rule, you’d be looking at $100,000 per month — something you’re unlikely to find unless the building is distressed or in a market with much lower valuations.
Now let’s factor in renovations. If you’ll spend $500,000 upfront for all the upgrades to make the building tenant-ready, you need to redo the math and add that to the purchase price.
The total basis after renovations is now $5.5 million, which means that the 1% benchmark rises to $55,000 per month.
The 2% benchmark jumps to $110,000.
Accounting for these adjustments captures the real cost of taking the property to a rentable state, not just the acquisition price.
Gross rent multiplier connection
The gross rent multiplier (GRM) lets you quickly compare a property’s price to the income it generates. It’s essentially the number of years it would take for the gross rents to equal the purchase price (assuming no expenses).
GRM = Purchase Price ÷ Gross Annual Rents
Using the $5 million property example, if it clears the 1% rule at $50,000 per month ($600,000 annually), the GRM works out to 8.33.
In other words, at that income level, it would take a little over eight years of gross rent to match the acquisition cost. Here’s the connection: the higher the rent compared to the purchase price, the lower the GRM.
A lower GRM suggests you’ll recoup your initial investment faster (at least in theory). That’s why the 1% and 2% rules and GRM are essentially two sides of the same coin.
How do the 1% and 2% rules help you evaluate deals?
When you’re looking at a new acquisition and want to quickly test the numbers, simply:
- Take the purchase price plus any immediate renovation costs.
- Multiply that number by 1% to check the lower threshold.
- Multiply that by 2% for the upper benchmark.
If your projected monthly rent comes in above those figures, the multifamily property might be worth digging into further.
For example, if you buy a $5 million multifamily and spend $500,000 to renovate, you’d need $55,000 in monthly rent to hit the 1% rule.
If your projections show $70,000 in gross rent, the property clears the test, and you might have a __ in your hands.
But remember that the 1% and 2% rules stop at revenue and do not account for the full financial picture.
Use them to filter out obvious mismatches quickly and then move on to a detailed analysis of expenses, market conditions, tenant demand, and financing terms. This brings us to the next point.
Limitations of the 1% and 2% rules
The 1% and 2% rules in real estate are quick and convenient, but they’re not enough on their own, so you have to think of them as a starting point and not as a full investment strategy.
They’re there to give you a way to quickly compare potential rental income against your monthly mortgage payment, so you can decide if a certain property deserves more attention.
Many landlords rely on these rules because they’re easy to run in your head and can be used to flag properties that may be undervalued.
But you need to be careful. These shortcuts don’t factor in operating expenses, maintenance, taxes, insurance, or property management fees.
A building might technically clear the 1% or even the 2% hurdle, but if it’s in a struggling neighborhood or requires a lot of repairs, your returns could erode very quickly.
A Class C multifamily property with high gross rents but aging infrastructure can look great on paper yet drain your capital in the long run.
That’s why you should never make a final decision based solely on these benchmarks — use them only when screening properties fast and identifying which ones deserve deeper underwriting.
Other factors to look into
While the 1% and 2% rules can point you in the right direction and give you a baseline for what the minimum rent might need to be, they won’t guarantee strong performance. You need to check these other metrics to truly see whether a property is profitable.
Operating costs
Your gross rent doesn’t matter if expenses eat it up. Property management fees, taxes, insurance, utilities, repairs, and capital reserves all cut into your bottom line, so before you commit to a deal, you need to build out a full expense schedule.
Local rental market
Like we already mentioned, the 1% rule often doesn’t line up with reality in high-value cities.
For example, a $1.2 million property would need $12,000 in monthly rent to meet the 1% rule, but if the median rent in that area is only $3,525, you won’t find tenants willing to pay anywhere near the threshold.
Always compare your projections against actual market rents in your submarket.
The condition of the property
An outdated property in a strong market may fall short of the 1% rule because tenants won’t pay premium rents for old finishes and outdated systems.
On the flip side, a recently renovated multifamily with modern appliances and amenities may outperform the benchmark even if the percentage rule suggests otherwise.
Looking at multifamily acquisitions and need a partner who understands more than just the numbers?
Here at Private Capital Investors, we help you move beyond quick rules of thumb with custom financing strategies built around your goals.
Reach out to see how we can structure commercial mortgage solutions based on your property’s cash flow and long-term potential.
