Ask Nick: When should I bend the 60% Rule?

Investing on July 25th, 2014 Comments Off on Ask Nick: When should I bend the 60% Rule?

The 60% of ARV Rule is probably the most basic rule in flipping.  It easily becomes nuanced once you get into the details.  Here’s a great question from the comments section in our YouTube channel.

Hi Nick,

As a wholesaler, this is some awesome content; however, why wouldn’t I use the standard 70% vs. the 60% you suggest? i.e. it seems to make more sense to go with your #’s, but in what instances would I need to go @ 70? Thanks for the great insight 🙂

– Phillip

Hi Phillip,

Thanks for the question!  First, let’s get on the same page as to what is included in the 40% discount:

5 – 10% (Quick Sale)
20%       (Profit)
5%          (Holding Costs)
6%          (Realtor Commissions)
4%          (Closing Costs)

Yes, using the 60% guideline is conservative and very nice if you can get deals that low, however, there are a several instances when you need/should go to 70% instead:

  1. In a competitive market.  This past year is a great example of high competition for rehab deals.  Some attribute this to all the flipping shows and gurus promoting the industry as “easy-money” causing buyers to flood the market.  Others say it’s just a classic Seller’s Market.  Whatever the reason, your offer needs to be highest and best just to be considered.  The best way to avoid competition is to go after off-market deals.
  2. Buying high-ticket houses.  The 60% formula includes a 20% profit margin.  Let’s say you are doing a light cosmetic rehab on a $499k ARV house.  Using the current formula, that’s almost a $100,000 profit (Sweet!), but, some of your competition is likely content with making only $50,000 on such low-risk construction.
  3. You/your investor-buyers have a high risk tolerance.  12% on $175k ARV is only $21,000 in profit.  Are you okay with that?
  4. You have adjusted the ARV for a quick sale.  The 60% includes a 5-10% quick sale discount, so don’t unknowingly double the discount if you already analyzed the ARV properly.
  5. You/your investor-buyers can save on any of those line items.  Perhaps you are licensed and can save on Realtor commissions?  Go right ahead!  Maybe your holding costs are super low?  Change the percentage to show for it!

My formula can be tighter during analysis if I’m the one buying the deal, because I know my typical holding costs, risk threshold, etc.  If you are wholesaling, you should use a more conventional formula to accommodate as many end rehab-buyers as possible.

Hope this helps!

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