Should Military Members Buy or Rent a Home? Use the 1% Rule to Decide!
You’re in the military, and you just got orders to your next assignment. Here’s the big question.
Should you buy a house at your next location, or just rent?
Your friends bought a house at their last duty station, and it went up $50,000 in a couple of years! Everybody keeps telling you to buy properties at each assignment, and then you can retire with several properties paid off.
You’ll be rich.
But remember that horrible property meltdown and all those people that went through home foreclosures?
What to do? Well, I can tell you what not to do. Don’t buy a property at every assignment! This is a guaranteed bad idea. Let’s talk about why.
Whether or not you should buy a property depends on one thing: If the property you buy will make a good rental once you move away.
In other words, will the property be a good investment? You do not buy a property unless this is the case.
Do not get confused by these two commonly overused and misunderstood arguments for buying:
- But someone is paying my mortgage off for me!
- But it’s a great tax write-off!
These don’t matter unless it’s a good investment to begin with. Is there an easy way to know if it’s a good investment?
I’m glad you asked!
There is a simple way to tell if a property will make a good rental. You can calculate it in your head; no need for pen and paper. It’s called the 1% rule.
The 1% Rule: If a property can be rented for at least 1% of its purchase price per month, it will be a good rental property.
In other words, it’s a good investment. If it can rent for more, great. Less, not good. To really simplify this, if it rents for 1% of the purchase price, it will make you about a 6% return on investment (ROI). Again, this is a very rough estimate, and you should do much more detailed calculations before actually buying.
This is just to give you an idea if you are even in the ball park of a good deal.
I moved to Monterey, CA in 2005, and knew I would be there for three years. Everybody was making money in real estate. I had already made money with my first home purchase in 2003. I wanted more! I was looking hard at buying a second property, but boy was Cali expensive!
Best deal I could find was a 2 bedroom/1 bath for $900K (yep, almost a cool mil). There were multiple bids on the property, so I would have to make up my mind right away. How much would it need to rent for per month according to the 1% rule for it to be a good rental?
$9,000 a month!
Well, similar homes on that street only rented for $3,000 a month. So, what did that mean? It would have been a horrible investment--not even close to passing the 1% rule.
I decided not to purchase that property (Thank God). I rented a tiny apartment for $1,300 a month and pocketed the extra $1,000 a month I was getting. That was a much better investment than buying. It’s very hard for houses in expensive areas like Hawaii, L.A., San Francisco, and Washington, D.C. to make profitable rentals. In areas like these, you are often better off renting. Save up for a down payment on a property in a more affordable location!
Even in cheaper cities, the same goes for expensive or new houses as well. While you or your spouse may feel like you can afford it or you deserve it, and that might be true, these typically don’t make good rentals. The numbers don’t always work. You pay a premium to live there, and when you try to rent it out, you just don’t make enough money.
If you are not sure, run the 1% rule to get an idea how financially sound it will be as an investment.
I moved to Montgomery, Alabama in 2013. At that time, it was possible to find a 3 bedroom/2 bath property for $80,000. According to the 1% rule, these would have to rent for $800 or more a month to be a good investment. Luckily, they were renting for about $800.
This is a location where it made financial sense to purchase a property and live in it as opposed to renting. When I leave Montgomery, I will take the property I bought, put renters in it, and turn it over to a management company that I’ve already pre-vetted while living here.
When I get to my next assignment, I'll use the 1% rule again and decide if it makes sense to rent or buy.
As a military member who needs to move every few years, you should only buy a house if it will make a good rental. This means it needs to pass the 1% rule test. If it doesn’t, and you want to live there, rent it if you can.
Curious what I’ve actually done with my personal rental portfolio? I used to have one rental property in Alexandria, VA that I bought in 2003. It did NOT pass the 1% rule and it was not a very good investment. I rented it out for several years, but eventually sold it in 2016. I now have several rental properties in Montgomery, Alabama that are very good rental properties.
Read more about how I buy real estate from overseas while serving in the military.