ARV / 70% Rule

[David Lowe]

If the ARV of a property in San Diego is $500k, the rehab cost is $40k and you use the 70% rule, that means you have to buy the place for $310,000.

My questions:
- is that possible in the SD market? The purchase price is almost $200k under the sale price which seems way too low.
- Do investors always use the 70% rule in SD area?
- what kind of ROI are you getting? 

[Jeff S.]

With due respect, there is bad advice above that I would not use for business decisions, @David Lowe. Your intuition is correct.

The 70% rule of thumb assumes you will be financing your flips using a hard money loan, realistic rehab costs, and that you will use an agent to close at least one side of the flip. For relatively low ARV flips, say less than $250k, which are scarce in southern California, it will provide approximately a 12 to 15% return on the ARV.

Many costs, such as title insurance, utilities, and escrow fees, don't rise much with the ARV, and have a small impact on the return on a flip as the ARV rises. Thus, your project cost (purchase price + rehab costs) can be slightly higher as a percent of the ARV and still maintain the fair return.

For a typical southern California flip, paying 75% of the ARV minus repairs, will result in a 10 to 12% return and we think that's reasonable -- but not a dime more. In your case, David, you can't pay more than $335k for this deal. After all expenses, which were not even close to being accounted for in any example above, I estimate you'll net about $62k, or 12.5% of ARV.

Here are my estimates, which the others above should read, and I know they are reasonable in this region:

You'll find after reviewing many flips, that your return drops about 1% for every percent you exceed a project cost that's 75% of the ARV. That is, in very rough southern California numbers, you'll earn about 5% of ARV if you pay 80% and be lucky to break even at 85%. Why would you even do that? In our view, 10% of the ARV is the minimum return you should make to stay safe (and keep your lender safe).

This is not a solicitation. We don't loan in San Diego. Many local HML's have similar spreadsheets you can use for an evaluation and they will provide these as a courtesy. Lightening does strike on occasion, but it's doubtful you could find enough 70% deals to run a successful flipping business in southern California.

Paying 75% is challenging, no doubt, but these deals are available in enough quantity to make a go at it. Unless you’re an agent and also completely fund using your own cash, please don't rationalize that it's ok to pay more, as many do, or you won't be around long.

(Justin: With purchase price of $382k, rehab at $130k, and ARV of $600k, you'll net about $15k, i.e. ~break even at 85%. With respect, please be careful with this advice, or show all numbers.)