When it comes to investing in real estate, it’s essential to have a plan and an eye for potential. To that end, maximizing the potential of a deal means knowing what a property’s after repair value (ARV) is. It is ARV real estate, after all, that will typically identify whether or not a deal is worth pursuing. Investors may find themselves one step closer to closing a deal if the ARV justifies the purchase price and every impending cost. However, nobody will calculate the ARV real estate figures for you; you will need to know how to use the ARV rule yourself, perhaps even using a few tips along the way.
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What Is ARV In Real Estate?
ARV in real estate is short for after repair value, or the estimate of a property’s value after all repairs and upgrades are completed. This is a critical number for real estate investors because it calculates the margin between the “as-is” value of the desired investment property and the value of a developed property that has been completely renovated.
Once you learn the value of the property, you can begin weighing the expenses. Without an ARV calculator, you risk taking a shot in the dark when evaluating potential deals. The after repair value will also define an investor’s exit strategy and reveal which real estate financing route is best. In essence, an ARV will provide investors with the best picture of what they can sell an investment property for.
Assessing the ARV of a property requires some ability to gather repair estimates with accuracy, including insight into the local market. Professional investors that are well-versed in the real estate investment game can easily walk into a property and assign a value based on their knowledge of the market within minutes. Unfortunately for beginners, that’s not possible. If you need some help assessing value, the following will explain how to calculate the after repair value.
Annual Rental Value
Annual rental value is sometimes incorrectly confused with after repair value, though the two are completely different metrics. Annual rental value refers to the yearly cost for an occupied space. This does not necessarily equate to the annual rent of a property but instead takes comparable properties and occupancy costs into account. Annual rent value is typically used when calculating the business costs associated with occupying a given space. To keep the two terms separate, investors need to understand the difference between the two metrics. Each calculation can be helpful for your career as a real estate investor, so make sure you have a good understanding.
LTC In Real Estate
Commercial real estate investors will rely on a different formula to estimate their property’s potential profits: LTC. The loan-to-cost (LTC) ratio in real estate is typically used to compare financing with the total cost to build a property. LTC is most frequently used in commercial real estate construction to evaluate the financing of a given property. By calculating LTC, commercial developers can assess the level of risk involved in a given project. This is yet another great calculation to add to your toolbox as an investor.
Should You Hire An Agent Or Appraiser?
The option to hire an agent or appraiser to help in a deal analysis is always there; however, they cannot decide whether or not a property is worth pursuing. Many investors have an agent or appraiser within their real estate team or at least network. They can lend an invaluable skillset to the investing process, but investors may find they are better equipped to run certain numbers themselves when evaluating properties.
The reason for this is twofold: money and time. First, an agent or appraiser will more than likely charge a fee for their time, a cost investors may want to avoid if they are evaluating multiple properties to find the right one. Next, involving a real estate professional in your deal analysis can slow down the process. This can prevent investors from quickly evaluating deals for their portfolios. The knowledge of real estate professionals (such as agents and appraisers) can be invaluable to a real estate transaction. However, investors may find more success in creating a deal analyzer of their own.
ARV Calculator: How To Calculate After Repair Value
What is ARV in real estate, if not for a great way to analyze a deal’s potential? Therefore, if you want to analyze your next deal accurately, you should follow these steps:
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Analyze Comparables
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Calculate Costs And Expenses
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Obey The 70% Rule
Analyze Comparables
The first step in determining the ARV of an investment property is analyzing the comparables, or “Comps,” as they are commonly referred to as. These are either recently sold or up for sale homes that are similar to the investment at hand, and they are used to determine the value of a property. In essence, comparables indicate what an investment will sell for.
To obtain detailed information on comparable properties, investors will want access to MLS, or Multiple Listing Service. This will provide the most details on a property that is up for sale or recently sold. Investors should also consider recently sold comps for bank-owned properties (REOs) and short-sales, depending on the amount of comparables found on MLS. Investors should pay special considerations to the following:
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Homes sold within the last 90 to 120 days
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Homes similar in age, size, square footage and room count
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Homes in a similar neighborhood
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Homes within one mile of the investment property
Investors should also consider current market conditions and trends, as well as seasonal price changes. This will enable investors to gain insight on both the resale value of a property as well as the optimal time of year to buy or sell.
Calculate Costs & Expenses
The second part is determining the potential costs of repairs for an investment. This will help to determine how much you want to pay for a property. The following criteria will help investors:
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Obtain estimates from three to five licensed contractors and make sure each repair estimate is clearly itemized. It’s also important to know the capabilities of your contractor to ensure quality work is being performed on the property, as well as on-time and on budget.
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Get material estimates and buy at discounts. I can’t recommend this aspect enough. As a beginner investor, remember to base your budget on your buyers, as this will make certain that materials are purchased in an acceptable price range.
Investors will also need to consider additional costs such as closing, holding, and financing costs. Of course, every scenario is different depending on an investor’s exit strategy, but understanding the estimated property value is key.
For instance, many investors forget to consider holding costs when buying an investment property. Costs such as property taxes, insurance, utilities, maintenance, and HOA fees add up. As an investor, you’ll want to be aware of these expenses and understand how much they add up to.
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ARV & House Flipping
Although ARV is not an absolute science, it can still be extremely useful when flipping houses. ARV offers a great place for investors to start their estimations for how much they should be for a home, as well as how much it will cost to repair in order to be sold for a profit. This calculation also allows the investor to secure funding for the repairs on the home, as well as potentially get the home at a discounted price. Using your ARV calculation in another formula, called the 70% rule, will allow you to determine the price you should purchase a home for when trying to flip it for a profit.
What Is The 70% Rule In Real Estate?
The 70% rule in real estate is a way to determine the correct purchase price for a rehab property. It is a real estate formula that compares the cost and profit margin of purchasing a distressed real estate property. This number will essentially tell an investor how much you can pay for a property by accounting for the ARV and estimated repair costs. To calculate the ARV, investors can follow this formula:
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Purchase Price: $200,000
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Repair Value: $50,000
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Repair Costs: $30,000
These variables suggest the ARV of the property will be $250,000. Therefore, the maximum purchase price of the property should be $145,000. Investors can use this information before making an offer to ensure they are getting the most out of a deal. While the 70 percent rule is not necessary, it is a great way for investors to protect their bottom line and maximize overall profits.
Exceptions To The 70% Rule
The 70% rule has been widely adopted in the real estate industry as a guideline for quickly reviewing rehab properties. However, there are some outliers to be aware of when using this formula. If a property has a low ARV, the 70% rule may need to be adjusted to ensure investors maximize their potential profits. For example, if the ARV of a property only guarantees a few thousand dollars in profits, investors should consider a lower purchase price to increase the profit margins. To adjust the formula for low-ARV properties, try decreasing the 70 percent.
Properties with a relatively high ARV may also require some adjustments when looking at the 70% rule. When it comes to high-value properties, investors may not be able to make offers that align with the formula. For example, if a property has a market value of $600,000, repairs will cost $75,000, and the ARV is $800,000. The 70% rule suggests that investors should offer around $485,000 for the property. Most owners of high-value properties will not accept that much under the asking price, even if the property is in poor condition. Therefore, investors may want to increase the 70% to boost their chances of securing the property.
After Repair Value Calculation Tips
Numbers hold the key to any successful rehab deal. The more accurate you are with your estimates, the higher your profits will be. One of the most important numbers you will estimate is the after repair value (ARV). This is the value you think the property will be worth after you are done with your repairs and upgrades. If you overestimate this number, your property will sit on the market for a very long time. Again, the best investors can walk into a property and within minutes assign a value based on their knowledge of the market; if you are not there yet, here are a few tips to help in the process:
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Get A Good Team In Place: Real estate investing requires a solid team around you. Even though you are the final decision maker, you should lean on the input of others. Your realtor and contractor are the two key team members that will help determine your ARV. This number starts with an estimation of the work needed and the associated costs. Even if you are a seasoned investor, a contractor will have a better idea of all the costs. Little things on rehab deals can quickly add up. Not everything that you do will give you equal value. A good contractor knows the best ways to stretch your dollar. Your realtor will tell you if your numbers are realistic. You don’t have to do everything yourself in your rehab. Start with getting a good team in place.
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Perform Your Due Diligence: Before putting an offer in on a fixer upper, make sure to get a home inspection done and complete several walk throughs yourself. While the purchase price is crucial in securing a high ARV, you don’t want repair costs getting out of hand. Pay close attention to any signs of mold, pests, and other costly problems before you officially buy the property. Ask questions about the property’s roof and foundation, taking note of any signs of water damage or shifting. Remember, by minding your due diligence now you can save yourself money, avoid costly repairs, and maximize profits in the long run.
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Review Multiple Estimates: If you have a solid relationship with a contractor, you are ahead of the game. Getting to this point usually takes time and several deals. If you don’t have a contractor on your team, you need to get a few different estimates. As a rule of thumb, you should nail down three good contractors and go from there. Once you go over three contractors, everyone will sound alike, and you will end up doing more harm than good. Be as open and honest with them as possible. Explain the deal and what you are looking for. Ask for written estimates detailing all the costs and work associated. This way, you can compare apples to apples with other estimates. Price is important, but it may not be the most important thing. You want someone that will be at the house when they say they will. The longer it takes to finish the work, the more your bottom line is reduced. After reviewing your estimates, it will give you a good idea of your budget and an idea of the finished product. The finished product will lead to your value.
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Know Your Market: Before you do any work, you must know your market. Knowledge of the market will give you a good idea of what work you should do. Not all improvements you do make sense for the neighborhood. Improvements in San Diego will differ from those in Birmingham. All buyers like nice things, but the market may not give you the return you are looking for. A pool that takes up half of the backyard may not be the best idea. You want to make your upgrades and finishes nice, but you need to make them in line with your market. A real estate agent will help narrow down a specific value. You need to have a basic idea of the neighborhood before you even make an offer. The market the property is located in is more important than the work you put in. If you don’t know your market, you will have a tough time determining the value.
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Listen To Your Realtor: Even though you may have a good grasp of the market, your realtor has a better understanding of local property values. Getting estimates and knowing your market is all done to determine the value. There is a lot that goes into this number. Going off of one sale a few streets over will not give you an accurate value. Your real estate agent will look at comparable sales that are similar to your property. They will look at past sales and current listings in the last 90 days within a mile of your property. This is the information that the people that will buy the property look at. You may do great work, but the numbers don’t lie. Your real estate agent will give you an honest assessment of where they think the value will be. In most cases, they will be right. If you ignore their advice and lean towards the high side of the market, you will end up disappointed.
Drawbacks and Limitations of ARV
There are a few limitations of ARV to be aware of before you begin using the formula. Namely, remember that ARV relies on estimates. While you can use all of the market data available to you, there is no guarantee you will be able to predict the exact value of your renovations. After all, the housing market could change in the time it takes to complete the renovation. Depending on your estimates, this could result in higher or lower profits than what you expected.
Further limitations of ARV include that the formula only accounts for a single snapshot in time. It takes a look at the value and potential value of a property during the period in which it is estimated. It doesn’t factor in fluctuations in the real estate market, nor does it account for changes in renovation costs, or additional damage that is discovered after the fact.
Another challenge of using ARV is that it’s hard to predict how well the negotiation stages will go. First, investors need to secure the property under market value. Then, after the repairs are done investors need to ensure they get the right price (or higher) from the end buyer. Unfortunately, real estate negotiations do not always go to plan and there is no way to factor that in when analyzing ARV.
Last but not least, ARV is subjective. The value is calculated based on the opinions of the individual making the estimation, calculation, and appraisal. You might get a totally different number based on who you ask. Always remember that ARV is just one calculation — and a “good” ARV will not guarantee high profit potential. It’s always best to use other valuation tools in addition to ARV to get a full picture, rather than relying on just one estimate.
Summary
The ARV rule has become an invaluable tool for today’s best real estate investors. This simple calculation can help reveal whether or not a potential deal is worth pursuing by relying on property value and market data. The right ARV calculator will help you identify a target purchase price when used correctly. In some cases, it may even help you decide the best financing method for the property. While ARV should not be used alone to determine the profit potential of a deal, it is still a crucial calculation to add to your deal analyzer. Try using ARV or the 70 percent rule on your next investment property and see for yourself.
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