Modifying the 70% ARV formula to capture more contracts? Yes or no?

Question

I understand how and why to use a standard formula of 70% ARV - repairs - my wholesale profit when making an offer to a motivated seller.

However, I have some buyers who seem less interested in getting a great deal (30% equity position) on a property and more interested in just monthly cash flow (for example, they may be okay with a 5-10% discount if cash flow is where they need it).

For properties that fit those sellers' guidelines, I assume that I can work with a less motivated seller (maybe use 85% ARV - repairs - profit) and still make the deal happen?

Does this sound accurate? It seems this could still be a win-win-win.

I'm new to this and I've been talking to many quasi-motivated but not-quite-desperate potential sellers.

Thanks in advance!

Hattie Dizmond · Answer

@Michael Slockers

Several things to consider here.

1.  The 70% Rule and the 2% Rule and every other "rule" are just rules of thumb.  They aren't gospel.  Each deal is different.  Each investor is different.  An investor needing to execute a 1031 Exchange may be more than willing to take a neutral or even slightly negative cash flow and bank on appreciation and rent escalation, because it's cheaper than paying capital gains.  Or, a flipper who uses their own cash and doesn't have the same holding cost burden may easily be able to pay more for a propery and still make the same profit I would.

2.  The market is so tight in Dallas right now that full-time investors (particularly smaller players) are paying more for deals, because less profit is better than no profit, particularly if you are dependent on that income.

3.  2% is a mirage in most reasonably desirable areas of DFW.  The market rebounded so quickly from the sub-prime crisis that rents haven't caught up with property values.  We're in an inverted rent:value situation that is compounded by the ridiculous lack of inventory.

Now...what you're actually describing, in terms of having specific investors with specific criteria, is reverse wholesaling.  You have a buyer, before you have a deal to sell.  In this case, you have a lot more leeway and flexibility than when you are straight wholesaling.  You know precisely what your buyer is looking for, what their profit/cash flow thresholds are, and you can go find that deal.  If you have a buyer in place, then by all means go find a property that meets their needs, regardless of the numbers.  But, if you don't have a buyer in place, then it is always safer to stay with the fundamentals.

Also, remember, this is particularly true in DFW right now, even a good deal may not make a good buy & hold property.  Rental rates and property taxes take a toll on buy & hold deals.  I analyze every property to see what the available exit strategies are and what the best exit strategy is.  That way I know who to pitch it to and how to position my pitch.

Good luck!

Dmitri L. · Answer

David, I don't know you or your business, so judging just from this post. Statements like this is what give wholesalers a bad reputation.

Taking a deal with "little expectation of selling", that you "wouldn't have looked twice at" as an investor, and making a quick buck by offloading it to someone else, is not wholesaling - it's fishing for suckers.

Just because you can "walk away" from an overpriced deal under contract, does not make this the right thing to do. If it sells, some (likely newbie) investor just walked into a potentially losing deal. If it doesn't, you've left the seller in a worse position than where they started.

And finally, I would strongly caution any newbie wholesalers regarding this statement:

for those stubborn owners who won't budge on their price, perhaps you  can get them under contract and offer the property up at their price  during a short option period. If it doesn't sell, have them reconsider  their price and try again at a more realistic number

This is starting to border on representing the seller as an (unlicensed) agent. Great way to get in hot water with TREC for practicing real estate without a license. Please be careful how you talk to sellers - it's "sell me your house", not "let me help you sell your house".

[Off my soap box, thank you]

On the original topic - the 70% "rule" is no such thing. It's a quick filter to see if a deal is worth looking into further.

The podcast with @J  Scott had some great discussion about how to pull apart that 70% number. It boils down to hitting a specific profit goal for yourself and/or the end buyer, after factoring in all the costs of the project.

Can a house that doesn't meet the "70% ARV minus repair costs" filter be a great deal for the right buyer? Absolutely! Especially if your market is tight, and investors are willing to take smaller profits on their flips. But you should be well aware of what these numbers look like for the buyers in your market.

Aaron Montague · Answer

@Michael Slockers

I look at rentals all day long.  The 70% ARV doesn't factor into my calculations.  I'm looking at cash flow.  Getting there sometimes requires a massive discount vs market values but in some markets the 2% places are popping up all over.

I roll known repairs into the mortgage if possible.  So the price is important, but the relative price isn't.

You mentioned "know your buyers."  If you were talking with me and started on ARV I'd assume you were trying to sell me a flip.  If you opened with "the tenants are paying $xxxx/month" you'd have my undivided attention... until you got the price :)  As @Hattie mentioned, not much worth buying in the rental market down that way.

Hattie Dizmond · Answer

Michael...would live to talk. Feel free to PM me or reach out directly via the email address and phone number in my signature line.

David Tankersley · Answer

Dmitri L.,

You make some very strong and rude accusations for one who doesn't know me.

My comments were regarding the numbers in a deal that I believe you and I would agree would not fit the standard for what would be an acceptable deal, but I was only keeping to the topic of numbers and how it is that sometimes deals don't have to fit the 70% rule. Perhaps my comments were strong, but this in no way represents how I conduct my business or my ethics. What I left out was the following:

The seller was motivated to sell for reasons I did not meddle into, but needed a price much higher than my initial offer. I gave a presentation explaining my sales process and how Icame to the price offered and which also explained the benefits of selling through a whol;esaler as opposed to the retail process. He was intrigued by this angle and the cost savings found in the wholesale process. It was the seller who did the math and realised that selling retail would get him more money, but it was he who proposed the questions that we sell at the prices settled-on if we could find a cash buyer in this range.

I in fact did discourage him from this idea at first as the DOM in this market would have been pretty short ( 60 days or less). He did askme again to look into this and so we found another wholesaler who is known for selling low-margin deals. This wholesaler looked atthe numbers and believed he could make it work. So, what I then did was explain this to the seller, who agreed to an option contract for two weeks and at the end of this period we could either lower the asking price or he could then decide to  sell via the retail route.

Fortunately for all parties, we found cash buyers and all parties were happy.

So that being said, I apologize if some of my choice of words were offensive to you, but I find your accusations even more offensive. Perhaps instead of throwing me under the bus in a public forum you can ask questions to clarify my statements in a less hostile manner.

As a Christian I would never conduct myself in any manner that you are implying.

You can chose to believe me or not, but if you do I will be expecting an apology.

Steve Buchanan · Answer

As a flipper in north New Jersey finding deals that fit the 70% rule is pretty tough. For my most recent deals I've been generally coming up with a max purchase price using ARV x .77 minus rehab costs but that's because I've been able to borrow cheaply using a couple conventional mortgages and another deal I'm doing with my own cash. If I were to borrow more expensive money I would have to tailor my % of ARV downwards. 77% of ARV is on the thin side but as @Hattie Dizmond said less profit is better than no profit.

David Tankersley · Answer

FWIW,

I recently sold a wholesale deal in the DFW area in which I had little expectation to sell at all.

These were two 8 year-old houses in good condition with new roofs.

The seller owed $106k on each and needed to net a minimum profit of $25k on both properties.

We sold one at $115k and the other at $120k.

These had existing long-term tenants as well, which must have apealed to the buyers.

As an investor I wouldn't have looked twice at these deals, but they sold on the 1st day of inspection!

I learned that perhaps in some rare cases such as this, One should always look for the 70-80% discounts first, but for those stubborn owners who won't budge on their price, perhaps you can get them under contract and offer the property up at their price during a short option period. If it doesn't sell, have them reconsider their price and try again at a more realistic number or walk away.

Jay Hinrichs · Answer

the metric of 70%  -  costs etc.. is pretty tough one in most markets these days.. unles your in low value areas or rental dominated areas.

if you have investor that want cash flow then 85% under market value is pretty good really

David Tankersley · Answer

Thank you Dmitri.

We're cool now!   ;-)

Modifying the 70% ARV formula to capture more contracts? Yes or no?

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