Fat deals looking slim
Being able to track your rehab numbers is a crucial skill as a real estate investor. The reason for this is if you don’t know how much it will cost to fix the house, you can’t make an accurate offer.
To show you what I mean by that, let’s talk about a real deal that we have on the table right now.
This particular lead came in from an agent whom I’ve worked with in the past. The reason she contacted me is that the seller is in a situation where they have to move and sell their house. However, they don’t have the funds to do the fix-up needed to get it ready for a buyer who needs financing. In other words, they can’t sell to anyone who is not a cash buyer.
The house is a 3-bedroom 2-bath brick split level with an inground pool, detached garage and 2,100 square feet of heated space on 1.5 acres. The agent says the after repair value (ARV) will be in the $250k range and the asking price is $160k.
With a $90,000 difference you start asking the question, “Is this a fat deal?”
Well, we don’t know yet. In order to discover if it is, we’ll need to do some math using our Top Offer formula. And I’ll remind you of what this is in case you have forgotten.
ARV – Closing Cost (this includes commission and seller contributions) – Rehab Cost – Holding Costs – Profit = Top Offer
So we have some numbers to plug in. We know our ARV is $250,000. We can calculate the 6% commissions on that and then figure $5,000 in seller contributions (this is a number I’m pulling out of my hat but works well lately) and we can figure $3,000 in holding costs. We can also substitute the Top Offer price with the asking price to see if that makes sense.
Right now, we have enough information to have our formula look as follows:
$250,000 – Rehab Costs – $20,000 (6% of 250k and 5k contribution) – $3,000 – Profit = $160,000
In order to know if this is a fat deal or not, we need two things. First, we need to solve for Profit. And lastly we need to know who much our rehab is going to cost. Solving for profit looks like this:
Profit = $250,000 – $20,000– $3,000 – $160,000 – Rehab Costs
Profit = $67,000 minus Rehab.
Now we can see that based off this asking price, we have $67,000 to rehab this house and make a profit. But how much will the rehab cost? That’s a good question.
We track our rehab numbers using a cost per square foot approach. And after looking at our cost per square foot spread sheet, we can see that just to do paint, floor covering, and light fixtures has cost us $12 a square foot lately. This house is 2,100 square feet. And if we multiply the $12 to that square footage, that simple rehab will cost around $25,000. That would be a profit of $42,000. Not bad right?
This house needs more than that though. The decks have to be rebuilt, the pool serviced, and the kitchen completely updated. That will be more like a $25 per square foot rehab, which costs $52,500. Now we are talking about only a $14,500 profit. This is assuming that you are not paying any interest on your funds and that nothing else goes wrong. And let me tell you, things do go wrong.
We just had a rehab go $30,000 over budget. That was because of multiple factors which included increases in specialty trades like HVAC, Electrical and even our gutters. We also had unforeseen damage that we had to repair as well as special order items due to the style of the house that we did not anticipate.
So with that in mind, at this asking price, does this house make sense? To me, the answer is no. There is just too much that can go wrong with rehabs these days that would put you over budget and kill your profit. We would need to be around $135,000 for this one to make sense to us.
Now do you see how important it is to know your numbers? Analyzing your deals this way will hopefully keep you from getting hurt financially by showing you that that fat deal really looks pretty slim. And it is good to note here that some of the best deals you will ever do, are the ones you never did. Know your numbers, stick to them and you will be successful.
Joe and Ashley English buy houses and mobile homes in Northwest Georgia. For more information or to ask a question, go to www.cashflowwithjoe.com or call Joe at 678-986-6813.