Abhi Golhar | 8 Aug 2016 - Think Realty
I’ve got a gripe, and I think it’s important to share it so that some of the newbies out there don’t get unfairly taken advantage of.
It’s driving me nuts that new investor—and even some seasoned, pro investors—are buying deals at terrible prices. I see it happening in Atlanta, where I do business, but it applies to any market that is experiencing some degree of appreciation—which is just about every city in the United States.
I don’t understand it. For me, I’m a big believer in the “70 percent rule.” But when the market gets hot, I’m a big believer in decreasing that 70 percent, because I’m going to get more conservative. When the market gets super-hot, I’m going to grab hold of the opportunities that exist in that market from a buy-and-flip standpoint—not so much from a buy-and-hold standpoint—but I’m also going to make sure I am covering myself a little bit, hedging my bets, by buying slightly lower in the event of a correction.
Here’s an experience I had recently that will illustrate my frustration. At a networking event where I was speaking, afterward we mingled and chatted about some deals I was interested in and some that were being sold on the market.
One wholesaler came up to me and asked, “Why the 70 percent rule? Why are you still stuck on the 70 percent rule?” I offered my thoughts on it and he said, “Well, then, I’m not going to be selling to you.” So I asked, “Why not?” He replied, “Well, frankly, I can sell to other investors in the market and make more money.” I said, “OK. Are we talking like a point or two above 70 percent. Or like 65 percent?”
Because for me, in a hot market, I am buying between 62 percent and 67 percent. I’m not going to buy at crazy numbers in a market that’s driving up.
Here’s what I mean by the percentages: my total project costs to ARV (after repair value). So the 70 percent rule is: 70 percent of ARV (that is the maximum allowable purchase price) minus the cost of repairs. Now, this individual came up to me and said, “I can easily sell to somebody else for 77 to 85 percent of ARV in the market, and that’s the total project cost.” And I said, “Why? How can you sleep at night knowing that you are selling to investors who are maybe new,” because I firmly believe that no pro, seasoned investor would be buying at these ridiculous numbers.
There is no way, unless it’s a super-short-term flip and I can get in and out in, say, 30 days, which is kind of difficult to do in Atlanta unless you are doing “lipstick and paint”—which we are not. Right now, we are doing a lot of expansion, renovation and new construction. Those types of deals will take anywhere from eight to 12 months. So for me, to be at a percentage of ARV that can potentially break me if the market goes south in the next year, year-and-a-half or even less than that while the market is super inflated right now, is concerning. It doesn’t make any sense for me.
So for all you newbies out there who are thinking about real estate and want to make sure you’re getting a good deal, keep this in mind: your total project cost—which is your purchase price plus your renovation costs—should not exceed 62 to 68 percent of ARV in a hot market. In a colder market it’s OK to buy between 70 and 71 percent of ARV because you can pay a little bit more and the market has a little bit more time to go before it will plateau.
In Atlanta, it doesn’t make any sense to be buying at 82, 83 or 84 percent of ARV—especially if the market is hot and especially if we’re expecting a correction.
Just stick a fork in me! I’m not going to buy it; it doesn’t make any sense. It’s just mind-boggling for me, that’s all. So just pay attention to the numbers.
Where investors fail, in my opinion, is when they don’t pay attention to the numbers. If you’re buying at dumb numbers, then you deserve to fail. If you do, then fail forward, learn from your mistake and don’t make that mistake again.
You can watch the complete video here: