Does the 70% Rule still apply in California?

Question

Hello everybody! I am a brand new real estate investor in Los Angeles and SF Bay and my question is does the 70% Rule still apply in today's market. If not what is the formula that is more applicable these days that you are following in Los Angeles and SF BAY? Thanks

Will Barnard · Answer

That is a huge concern of mine and for most anyone who has any knowledge in RE. The problem is, it has a big chance to pass as the general public is ignorant and the politicians presenting it will put out adds that will Not be the whole truth and nothing but the truth. The voters of LA are the ones that put Gascon in office here because he put out more money in his adds that the voters believed to be true. It was all BS as evidenced by the crime increases since he took over.It is very important that we as a group get behind a large effort to strike this bill down. They won't tell you but this has negative consequences to all homeowners, not just investors. Also, if you are reading this and you reside in another state, don't think this bill if passed will not affect you. This bill was written after NAR reported that over 50% of RE transactions were investors, i.e. all cash purchases and if it passes in CA, other states will follow suit. Of course we all know that all cash transactions does NOT necessarily mean investor purchases as many homes for owner occupants have sold all cash.

This bill would do the opposite of what they claim it intends - to help create and preserve affordable housing. If it passes, less homeowners will sell their home and trade up to another as they too would get hit with the tax if sold inside of 7 years. This will reduce, not increase the supply of homes for sale adding to the already out of sink supply and demand of housing. I just can't say enough how idiotic this bill is.

Will Barnard · Answer

the 70% rule is/was never suppose to be a "Rule", rather, a guideline to a quick back of the napkin calculation to see if your deal is in the ballpark or not before you dive deeper into the numbers. This guideline also requires adjustments depending on circumstances which are, but not limited to, price point levels, market conditions, level of experience of investor, investor's buying power, investor's team, etc. A newer investor doing their first flip will not have the same team and purchasing power of an experienced investor which means the less experienced investor may need a larger spread in the deal. A deal in the $200k or below range will need a higher % spread then a deal in the $600k range.

This is why these guidelines are to ONLY be used as a quick calculation and NOT for a buy or pass. Once your deal hits on your % guideline, you then need to go into a deep dive and full detail of rehab breakdown to lock in a construction budget that is obtainable, lock in your comps to ensure your ARV is correct and then factor in your holding costs, resale costs and profit.

Jeff S. · Answer

You’ll never find anything viable at 70% in Los Angeles and this has been true for years, @Michael Figueroa.  In our higher dollar market, you can push the number to 75%, which is what we use to define a good deal.  To be clear, the rule-of-thumb is:

Purchase Price plus Rehab Estimate <= 75% of the ARV

Under normal times, i.e. not the last few years where prices have been beyond crazy, using 75% will result in about a profit of roughly 10 to 15% of the ARV.  That is, you can normally expect to earn $50k to $75k on a $500k ARV and $100k to $150k on a million-dollar ARV property.  Lately, rehabbers are making 20% to 40% of the ARV on higher dollar properties.  This is great but completely unsustainable and nothing you should rely on.

75% deals exist, though they‘ve always been hard to find.  Once you hit 85% you will roughly break-even (and it’s linear).  Those paying anything over 80%-90% are either out of their minds and desperate, or they are completely overestimating the ARV, or will simply lose money.

Run the numbers in detail and you’ll see that after your purchase price, the rehab costs, hard money fees, and real estate agent commissions will comprise most of your expenses.  If you pay cash and/or can minimize sales fees, then you can pay more.  If not, stick with 75%.

Michael Figueroa · Answer

Thanks jeff I appreciate the Information!

Joshua Viksman · Answer

I know many flippers in LA/SoCal who are buying 80-90% ARV and counting on appreciation or high volume of flips to make up for the lower margin. Not financial advice, just relaying what I am hearing.

Andrew Bang · Answer

The 70% rule applies in any market, just says you'll profit if you can find a house at 70% ARV minus repairs.   Thats the hard part in any market.   I wouldn't put Los Angeles and SF Bay as hotter markets than Phoenix, Denver, Salt Lake, Austin, Dallas....and a handful of other markets that are experiencing the same lack of inventory on MLS.

Its all a numbers game, just have to put out alot of marketing, you'll find those buyers.

Bill B. · Answer

What are the odds of that 25% tax in California for all houses sold with 7 years getting passed? It seems like a horrible idea with HUGE unintended consequences, but it wouldn’t be their first mistake.

Joshua Viksman · Answer

Was hoping you would chime in! Very informative reply.

Amaury Zambrano · Answer

Great Questions; I typically do not use the 70% rule. We use a flip calculator that helps us run the number more accurately for the Los Angeles market.

Does the 70% Rule still apply in California?

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