The Rule of 200

Question:

Should I first get a car or a property?

Answer:

Welcome to adulthood where life is about making decisions. Unless you are born with privileges, in most instances, you are responsible and accountable to your finances once you are done with college and have landed yourself a job. The question above is a common dilemma to most millennials living in the Klang Valley. If that is you, let me assure you that you are not alone and it takes a few tricks (that 90% wouldn’t know) in mind to work out a simple financial plan to get your dream car and dream property.

One of the tricks is to know: The Rule of 200.

Let me work out a simple illustration. For instance, we have John, a local boy in his 20s, earning a stable salary of RM 5,000 a month.

Banker’s Point of View

In general, bankers want to calculate the maximum amount of your monthly debt servicing capability before lending money to you. The exact calculation varies from bank to bank and from time to time as it is determined based on the bank’s credit and risk management policies.

But, you can make a rough estimation on it. Here, let us assume that John is assessed based on a debt-servicing ratio (DSR) of 60%. As such, his monthly debt services is estimated to be RM 3,000 at maximum.

Max Debt Services

= Monthly Salary x DSR

= RM 5,000 x 60%

= RM 3,000

So, should he:

#1: Get a Honda Jazz

Guys, isn’t tempting to have the latest Honda Jazz or Mazda 2? If these two models are not your ‘thing’, I’m just referring to any car models where their price ranges between RM 80,000 – RM 100,000. Apparently, you may expect to fork out at least RM 1,100 in monthly instalments assuming that you put 10% down payment for the purchase of your car.

Obviously, John is able to afford the Honda Jazz as RM 1,100 in instalments is within his maximum debt services of RM 3,000 a month. Then, he still has a balance of RM 1,900 a month where he can use it to shop for properties.

John’s Balance Debt Services

= Max Debt Services – Current Debt Services

= RM 3,000 – RM 1,100 (Note: Use it for Honda Jazz)

= RM 1,900

Now, we can apply the Rule of 200 which is used to calculate the maximum amount of property loan that he can obtain. By multiplying RM 1,900 with 200, John is able to apply for a maximum of RM 380,000 in mortgage. If he is buying his first property where the down payment is 10% of the property value, then, John is able to hunt for a property that is priced at a maximum of RM 422,222.

John’s Mortgage (Maximum)

= RM 1,900 x 200 (Note: The Rule of 200)

= RM 380,000

John’s Property Value (Maximum)

= RM 380,000 / 0.9 (Note: 90% Loan)

= RM 422,222

#2: Buy a House First

So, what if John decides to secure a house first? Then, the maximum amount of mortgage that John can apply is RM 600,000. Instead of RM 422,222, he is able to shop for a property that is priced at a maximum of RM 666,667.

John’s Mortgage (Maximum)

= RM 3,000 x 200 (Note: The Rule of 200)

= RM 600,000

John’s Property Value (Maximum)

= RM 600,000 / 0.9 (Note: 90% Loan)

= RM 666,667

So, what are the key differences between the two?

In a glance, their differences are summarized as followed:

If you read ‘Rich Dad, Poor Dad’, most of us opine that a car is really not an ‘Asset’ unless you are a full-time Uber or Grab Car Driver. Even if you are, a car is a depreciating asset as its value depreciates over time. This excludes a list of car maintenance expenses that you need to account for when deciding whether your car is an asset or a liability. But, anyway, let me ask:

If you are John, which of the two options would make you wealthier over time (not necessarily happier)?

1. Option 1:
   You have a RM 400k+ property that appreciates in value and a RM 90k+ car that depreciates in value.
2. Option 2:
   You have RM 600k+ property that appreciates in value.

The True Cost of Your Dream Car

For example, John borrowed RM 81,000 to buy a Honda Jazz that is priced at RM 90,000 and expects to pay RM 1,100 in monthly instalment.

Based on the Rule of 200, a property investor may view that the RM 1,100 is worth as much as RM 220,000 in property loan. Thus, if John decides to get his Honda Jazz, he is essentially forgoing RM 139,000 in borrowings which could be used for properties. Suffice to say, buying your dream car first has a definite impact on buying your dream home.

Buy Your Properties First …. then go get your Dream Car

With that said, I’m not asking you to forgo your aspirations to buy your dream car. Rather, for most, it is wise to defer and delay.

For example, John decides to use his maximum debt services of RM 3,000 a month on properties. He can either choose to buy one RM 600k+ property or two RM 300k+ properties for investment purposes. Either case, if John is able to fetch 4% yield from his portfolio, John would be receiving RM 2,200 a month in rental income. The RM 2,200 would add up to John’s maximum debt services, which in turn, enables him to afford his dream car or his third property.  

Potential Rental Income

= Property Value x Rental Yield / 12 Months

= RM 666,667 x 4% / 12 months

= RM 2,222
(round up to RM 2,200 unless you want to charge the RM 22 to your tenant)

John’s New Maximum Debt Services

= (Monthly Salary + Rental Income) x DSR

= RM 7,200 x 60%

= RM 4,320

John’s New Balance Debt Services

= Max Debt Services – Current Debt Services

= RM 4,320 – RM 3,000 (Note: Use it for Properties)

= RM 1,320

Congratulations! You can shop around for your car as long as its monthly instalment is under RM 1,320. The price range for the car is around RM 100 – 110k. Are you salivating now?

Obviously, when it comes to matters on personal finances, there are plenty of simple tricks or hacks that will put your financial ahead than your peers. The Rule of 200 is just one of them. If you have a sincere desire to get out of bad debt, raise your income, assets, net worth and achieve financial freedom earlier, we have packed 44 Tips that will definitely be a blessing to you:

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