House Flipping Success Rule #4: Do the Math
There is some basic math involved in house flipping - and the good news is that you don’t need to be a rocket scientist like Math Dude to understand it!
Of all the numbers involved in house flipping, the most important is the “After Repair Value” or ARV for short. This is the price that you will ultimately sell the property for once it is renovated. Your real estate broker arrives at this number using "comps" from other recently sold properties similar to yours.
The second most important number is your “Maximum Allowable Offer,” known as MAO. This is the highest allowable price you will pay for the property.
Now here comes the math…ready?
Take your ARV and multiply it by 70%. Then deduct your cost for rehabilitation which yields the MAO.
The 70% is what's referred to as "The 70% Rule" and it's designed to keep your profits at a maximum and your downside risk a minimum.
So for example; if your ARV is $200,000, multiply that by 70% to get $140,000.
Then subtract your cost of repairs. Let’s say in this case, your general contractor has told you that it will cost $40,000 to do all the rehab work. Simply deduct the $40,000 from the $140,000 and you come up with your MAO of $100,000.
Therefore, the most you should pay for the property is $100,000.
That wasn’t so painful, was it?
House Flipping Success Rule #5: Speed Equals Profit
Time is of the essence in house flipping and speed is one of the biggest factors that will lead you to profit. The shorter the time you hold onto your investors’ money, the higher your profits will be.
The reason your profits diminish with time is that the longer the renovation takes to complete, soft costs such as financing payments, insurance payments, town taxes, utilities, and any and all other carrying costs start to add up. The more these add up, the more they diminish your profits. So do the job well, but do it fast.
Although it may seem counterintuitive, having a rapidly appreciating market is not a necessary ingredient for success in house flipping. The real money is made in the math and the process itself. As long as you stick to a rigorous set of rules and don’t “eraser math” your analysis, you can - and will - make profits flipping houses in rapidly appreciating markets, stagnant markets, and even in markets that are even depreciating.
Mike LaCava is the President of Hold Em Realty and of House Flipping School, both located in southeastern Massachusetts. Mike is a full time real estate investor and a house flipping coach. To learn more about Mike LaCava, visit houseflippingschool.com. Connect with Mike on Facebook, Pinterest, and YouTube.