How To Rehab Houses For Minimal Cost And...

hammer Hey Moguls, Lex Levinrad here…

Today, I’m kicking off another mini-series of terrific, helpful lessons for you. This series is gonna be all about how to rehab a house for maximum profit - which means learning how to pay as little as possible for materials and labor.

I’m going to start with the basics, and then talk about deal structuring before diving into more rehab details.

We have a lot to cover in this comprehensive series about all things rehab, so let’s get going…

Let’s Talk Rehab

Wholesale real estate investors are either:

Wholesalers - people who sign a contract to buy from a homeowner and then assign their contract to an investor.

Rehabbers - investors who buy the house and fix it up or rehab it.

Now, rehabbers can fix the house and flip it for a quick profit or they can keep the house as a rental property. I’d say most rehabbers are flippers, though.

I, however, am a landlord and a flipper. But mostly, I fix up houses and I rent them out.

When you’re looking at a deal, the person who makes the most money on the deal is the person who takes the most risk. So who makes the most money?

Well, wholesalers make the least amount of money since they have the least amount of risk. They simply make the assignment fee or the profit from the double close and they move on. They sign a contract, they assign that contract to someone for a small fee (or double close) and they move on to the next deal.

Rehabbers who flip houses make much more money since they fix up the house, and then they flip it for typically a little bit below retail… maybe $.90 on the dollar. Rehabbers who rent out the property make the most money since they hold on to the property and don’t need to sell it at a discounted price.

Who Profits the Most?

I want to run a scenario here to further explain this concept about which type of investor makes the most money in rehab situations.

Let’s say there’s a house worth $100,000. And it’s bought for $65,000 – that’s $35,000 in equity…

appeal The person who’s going to make the majority of that equity is a rehabber who holds on to the property as a rental. Since he doesn’t sell, he keeps all of that equity.

The person who’ll make the next highest amount would be a rehabber who flips the property to another investor. But they can’t flip it for $100,000 because that would be a retail price. So they have to flip it for less than $100,000, which means they make a little less profit, but they are out of the deal and onto the next one.

The one who makes the least but also has the least amount of risk is the wholesaler who simply signs a contract and assigns it over or double closes it to another buyer/investor.

So, regardless of whether you want to flip properties or hold on to them, rehabbing is where most of the money to be made is – at least on a per deal basis. One big difference, though, is that wholesalers work on volume and rehabbers do not. So if you fix and flip one house every six months and you make $25,000 in profit over that six-month period, your total profit is the same as a wholesaler who flips one house every month for $5,000 a month.

A lot of people forget that – don’t be one of them.

Rehab Deal Structuring

Now let’s look at a typical deal and see how it is structured.

Let’s say that we have a property for which the after repair value of the house is $100,000 and it needs $15,000 in repairs. A wholesaler ties up the property by putting together a contract to purchase the house for $45,000. The wholesaler will typically make between 10% and 20% on a deal.

So in this case, this wholesaler would be looking to assign or flip the contract to a rehabber for maybe $4,500-$9,000 profit. Rehabbers buy around 65%-75% of ARV… so the wholesaler would probably start marketing the property to investors at around $60,000.

$60,000 would be 75% of the after repair value (ARV) less the $15,000 in repairs.

So let’s go through that again in a different way...

If a house is worth $100,000 fixed up, which would be called the ARV or after repair value, then 75% of that fixed up value is $75,000. However, since the house needs $15,000 in repairs, this $15,000 is deducted from the $75,000 to get to $60,000.

So if a wholesaler wants to sell a deal to an investor at $.75 on the dollar or 75% of ARV, then they would, in this example, be looking to sell that house for $60,000. If they have the property under contract at $45,000 then they stand to make a profit of $15,000. If a wholesaler can flip the contract for $60,000, then they have successfully made an assignment fee (or double close) of $15,000, which would be a very nice profit for such a cheap property.

negotiate However, on the flip side, rehabbers are really strict on their numbers and would try to not pay more than 65% of the ARV. So they’d be looking to pay $65,000 less the $15,000, which would equal $50,000, giving the wholesaler a profit of just $5,000. (Don’t worry, I’ll lay this out in an easy formula in a bit.)

The reality is, though, that the property would probably sell somewhere in the middle. It comes down to a negotiation between the wholesaler and the buyer. The buyer might be afraid that the wholesaler has another investor. And the wholesaler might be afraid that if he marks up the property too much, the buyer will lose interest or move on to another property. So you can see how negotiation is so important.

Good wholesalers are good negotiators, but they don’t negotiate too hard with their good buyers. Rehabbers are excellent negotiators, too – even better than wholesalers, some would say. Why? Well, when they do deals, they are strict on their buying criteria because they don’t do as many deals as wholesalers.

Helpful Formula

So, let’s say I’m a rehabber buyer, and a wholesaler comes to me with a property he wants me to buy - I don’t know what price the wholesaler has that property under contract for. I have no idea what he paid to buy the property that he wants to sell to me.

If he has it under contract for $45,000, and he presents it to me at $60,000, which is $.75 on the dollar or 75% of the ARV of $100,000, then I’m looking at the $60,000 purchase price.

I am not concerning myself with what he paid since I don’t know what he paid. If I’m doing my numbers correctly, and I’m coming up with the same comparable sales comps that he has, then I’m looking at buying this property for no more than $50,000.

Why?

Well, work the numbers backwards.

I want to buy at 65% of ARV. The ARV is $100,000, so 65% of that would be $65,000. But remember, the house needs $15,000 in repairs (which we call the Repair Estimate or RE). So, $65,000 less the $15,000 in repairs equals $50,000, which is the maximum that I would want to pay on a deal like this. We call this Maximum Offer Price or MOP.

So now that we know all the variables, let’s plug them in… the ARV Formula for this property looks like this:

ARV ($100,000) x 65% ($65,000) – Less Repairs ($15,000) = Maximum Offer Price ($50,000)

Typically, rehabbers are looking to buy deals at $.65 cents on the dollar, but in a market where prices are increasing, they might pay $.75 cents or even as much as $0.80 cents on the dollar.

So these numbers are very much in line with what someone, like myself, would pay on a deal like this. If I decided to buy this property for $50,000, and the wholesaler agreed to my offer, then the wholesaler would walk away with a more reasonable $5,000 assignment fee or profit.

math The wholesaler had the house under contract for $45,000, they flipped the contract to an investor like me for $50,000 for a quick profit of $5,000 and they walk away. Now it is my house not theirs. They have no risk, no further worries regarding that house. I, on the other hand, now have to deal with fixing the house, renting out the house and any issues that may come up in the future with this house and its tenants.

So when wholesalers say “flip a house,” a lot of times what they are really referring to is “flip the contract” or “assign the contract,” which are both the same thing. This should not be confused with fixing and flipping the house where the buyer pays for the property, repairs it, puts it on the market and sells it.

If I tell you that my office flipped 25 houses this month, I don’t mean we fixed and flipped 25 houses… we wholesaled or “flipped” 25 houses. So make sure you understand the terminology. It is often interchangeable.

Rehab Wrap, for Today

Well, friends, we’ve already covered a ton of useful rehab info – and we’re just getting started!

Coming up in this rehab series, we’ll talk about the importance of having a detailed rehab repair estimate and how to go about getting it, general contractors, subcontractors and labor, plus we’ll get into the materials aspect of rehabbing.

Loads more awesomeness heading your way soon… see ya then.