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Sunday, May 9, 2010

evaluate rehab real estate deal

I’m helping out a new investor on a property he wants to rehab. And like many investors he knows the simple wholesale/rehab formula which is to buy a house at 65% of the after repair value and then subtract the repairs, etc.
However, if that’s where you stop, you’re in big trouble and you might not stay in this business very long.
Here’s why…
In addition to the formula above there after several other things you need to factor in, to make sure you’re going to have a profitable deal. If all you do is use the simple formula, you might be expecting a $30,000 payday… and come to find out you’re going to break even at best.
Plus, it doesn’t matter if you’re the wholesaler or the rehabber, knowing this information will allow you to bring better deals to people and also help you make more money on properties you rehab.
So first, you need to factor in the costs of getting a loan. Most rehabbers don’t have $200,000 cash lying around. Therefore, they use a hard money lender. And hard money lenders charge an arm and a leg. The hard money lender I’m dealing with now charges 5 points. Which means, that on a $200,000 loan that’s a $10,000 fee.
Next, you need to factor in the closing costs, because this will add a couple thousand dollars too. In Virginia, where I live, the closing costs are about $4,000 on a $200,000 loan.
After that, don’t forget to throw in insurance which will run you about $1,000.
Let’s take a quick look at what we just did: When you add the loan origination fee of 5%, the closing costs and the insurance, you just tacked on $15,000. And if you didn’t factor this money into your rehab amount you’d obviously be losing $15,000 in profit.
But guess what? We’re still not done. You forgot to factor in the interest payments for the hard money loan. Yes, you paid 5% upfront but you’re also going to pay about 13% interest.
Then, when you’re rehab is done, are you going to price it a little low, to make sure it sells quickly? Perhaps at 90% of the value? And… how are you going to sell it? Are you going to use a Realtor and have to pay 6% commissions and 3% in closing costs?
Do you see why so many new rehabbers lose money on their first deal?
It’s because they don’t take the time to evaluate everything to a “T.”
Personally, I use an excel spreadsheet that has all of the formulas already in it. Then I can plug everything in and see if I’ve got a deal or not.
So… before you try and do a rehab, make sure you’re factoring in every expense. And, if you’re a wholesaler, study this information so you bring good deals to the table that will go quickly.
Photo: Junmon603

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