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The Art Of Purchasing Wholesale Property Profitably
| | Wednesday, November 05, 2003 @ 04:00 PM EST
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Contributed by: Josh Brown
Josh Brown Properties
Read more archived articles about Credit and Finance
Often real estate investors, especially newer ones, rely on the word and reputation of a wholesaler to determine which deals to purchase. What makes more sense is possessing the knowledge to fully evaluate a property, then buy the deal that makes the most sense based on individual circumstances. This article is dedicated to the art of purchasing wholesale property profitably.
A wholesaler is just like any other home seller in the field. No better, no worse. No one expects or relies on a homeowner to validate whether their house sale is a good deal or not. Wholesale purchases should be approached similarly. Assume the
data that a wholesaler provides is all 100% accurate - but strictly for the purpose of determining which houses to evaluate in more depth. In other words, if based on the information provided, there is no interest, don't pursue further.
If the deal is still interesting, make a personal visit to the house, and use your own formulas and figures to calculate if the deal is profitable. Select the best deals, and never again rely strictly on the wholesaler for a final evaluation. So here's how to figure it out:
Determine the Value
First step is to determine the After Repaired Value (ARV): the value of the house after renovation. The only way to determine the ARV is to study comparable sales (comps) in the area. Any wholesaler worth his salt will detail the comps used to determine the advertised ARV (if they don't I would question how they determined the ARV in the first place). Comp data can also be obtained from real estate agents and from various companies that pull local tax records for sales data. Study those comps to determine how far away they are from the subject property, and how old they are. Although appraisers use 1 mile and 1 year, respectively, it's better to remain closer to กว mile and 6 months.
Next, drive the comps to ensure they are similar to the subject property. Is the neighborhood - or even the street - the same as the one you're looking at? For instance, if the prospect house is on a street with numerous boarded-up or run-down houses, yet the comp is on a beautiful street full of rehabs, it is not a true comp. Same is true for evaluating the house itself against the comp. Are they basically the same house? Obviously the comp is going to look better - it has probably already been rehabbed. That's OK because you're determining what your house will be worth AFTER rehab. But is the construction essentially the same? A small frame, plain-Jane cottage with no architectural design can not compare to a huge brick multi-dimensional mansion - unless the rehab figure is sufficient to bring the cottage to the same standard when complete. Comps must be similar in size with a similar number of bedrooms and baths, similar design, similar exterior, etc. to the home being evaluated. Bottom line, determine at what price the final owner-occupant will purchase the renovated home based on the price other similar homes in the area have sold.
Calculating Your Price
After determining the after repaired value of the home, calculate the maximum that can be paid to purchase in its current condition. The formula we utilize is:
ARV - Repairs - Buy/Sell/Hold (B/S/H) Costs - Profit = Maximum Allowable Offer
The ARV has already been discussed. Repair calculation is based on what work must be done to the house to become similar to the comps used to determine the ARV. B/S/H costs are all the closing costs to purchase the property (title work, attorney's fees, title insurance, survey, loan origination fee, appraisal, etc.), the closing costs paid on behalf of the buyer upon re-sale, the realtor commissions or other marketing costs, and the costs to hold the property (debt service, taxes, insurance, utilities). B/S/H costs typically average 15-20% of the ARV, but can vary. Investors should calculate their individual, specific B/S/H figure based on the cost of money used for purchase and repairs, the cost of marketing to sell, and the estimated length of time the property will be held before resale.
Profit is the fun part of the formula. Just determine how much profit should be earned in the deal. Although we'd all like to make $100,000 in every deal, very few properties could ever be purchased with that requirement. The correct figure to use is the minimum reasonable amount that would still make the deal attractive.
But remember, this formula calculates the maximum allowable offer. Any purchase price below the MAO increases profit, so the goal is to purchase as far below the MAO as possible. This is accomplished through effective negotiating.
Negotiation
Wholesale deal prices are negotiable. The wholesaler has a spread and a profit requirement that he considers acceptable as well. The trick is to negotiate the best deal so both sides are happy. It's the law of supply and demand. A wholesaler with a hot property, and many interested parties is not too negotiable on price. In fact, offers above the asking price are not unusual. On the other hand, if the property has little interest, price becomes far more negotiable.
If the MAO determined is lower than the wholesaler is asking, submit an offer anyway. If nothing else, it at least starts the negotiating process, and may result in an acceptable counter-offer. Be careful not to start too low, however, or your offer may not be considered at all and the wholesaler may accept another offer in the meantime, eliminating any opportunity to even negotiate. Be earnest and sincere - offering in good faith - and it will work out for the best. But always make an offer - you have nothing to lose. You never know. You may get your price, and because you did all the homework, you'll KNOW you paid the RIGHT price!
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