What to offer for an REO property
Hey John, I need some info if you can assist
sir.
I have been doing all my home work on a lot of REO
properties here in [a US state]. I need to know what
kind of numbers should I be shooting
for.
I will give you an example of the properties I have
found.
1,674 sq. ft. home 3 bed, 2 bath. The bank is asking
$86,900.00. The property last sold for $104,000.00 in
2005. The full value is estimated to be $121,000.00.
Some cosmetic repairs are needed at a cost of $10,000
to $12,000 repair.
What should I offer the bank?
Take a step back. You can only offer what it is worth
to you. Some other person might pay more or they
might offer less. It does not matter what they can or
will do. It just matters what it is worth to
you.
When deciding what to pay you need to pretty much
know how you will unload the property or at least
refinance it. That means what you should be offering
is heavily constrained. If you can not sell or rent
the place it is worth zero to you. Yes,
ZERO.
The Maximum Allowable Offer (MAO) is the number you
can afford to go up to before you bail. You do not
want to pay the maximum. The MAO is your upper limit.
Buying for less means more profit assuming you have
all your numbers correct.
First, determine the property's value once it is
fixed up and ready or sale. The After Repair Value -
ARV. ARV is the most the property should be worth if
you put it on the market and waited the normal amount
of time. As an investor you might not have the time
to wait so even ARV could be more than you would get
if you wanted a quick sale.
Now deduct 30%. ARV * 70% produces the MAO if there
was absolutely no other costs. There are always other
costs so we are not stopping here.
MAO = (ARV * 70%) - all costs.
All costs includes but is not limited
to:
- Repairs
- Closing costs of any sort which you need to pay when buying.
- Financing costs that are not already in the closing costs above.
- Holding costs during the period of ownership (utilities, interest payments, yard maintenance and other costs)
- Closing costs when you sell including agent fees even if you do no think you need an agent.
- Any other costs that will happen when you sell or when you refinance if you are holding the property long term.
MAO is the maximum you can offer but it is not where you should start. The MAO number computed by the above still does not tell the whole story.
If you expect to quickly wholesale the deal to another investor then building in your profit is important. The other investors will use the same formula so the MAO is the maximum they will pay. You need to drop you offer to the bank a bit more for you to have a profit. Otherwise, if you pay MAO then expect to sell if as a quick flip for no profit.
One reason for using the 70% figure is so that you know that you can get hard money to close the deal. If you find that hard money will only go to 65% of ARV then replace 70% with 65%. Even if you were not planning on using hard money the other investor who you want to sell to may need the margin to use hard money.
How do you determine wether you will hold this property or flip it.
What is the market telling you when it comes to sales? Wholesale and retail should both be considered.
Do you have the credit needed to hold it as a rental? If so what is the rental market like? Will the rents make the property cash flow?
This is just one example of some of the properties I have found . I have found some that all they would require is paint and some outside cleaning.
You think. Maybe you discover later that more is needed. Be careful with your estimates. Build in a contingency amount just in case something else is not right.
They are priced higher and I don't think they would work as rentals because of the higher price range.
To make them work as a rental you just need a lower price. Or you do a few deals where you sell for a profit and then keep the next one using the past profits to reduce the debt to something the rents can support.
We live in a rural area that is geared more around vacation and retirement community.
Maybe not the best area to be investing in unless you really understand the market dynamics. See if there is a more traditional area where you can invest as your market can be very fickle. The sweet spot in the marketplace is homes for people who have jobs.
The property that I gave you is in a larger city that is an hours drive from my location. I have been looking all over the state and I would like to try to concentrate my efforts in just a few areas to start.
OK
Do you think this is a good Idea? Should I think about trying to do this in a larger city like Memphis rather than the smaller towns of arkansas? I would like to thank you ahead of time for any info you give me and apologize for bugging you with all of these questions but this is the only way a person can learn to do this the right from an expert in the feild .thaks again!!!
If you are in a niche market there will be few buyers and sellers. If you get a great deal maybe it can work. Your hold times will be longer as there are just fewer people looking in a niche market. Better to stick to working class homes were employment prospects are strong.
thanks
Questions are welcome. I will sometimes take a question that someone has sent in and use it as the basis for a blog entry. Likely I will do so this time as the MAO part of your question is an interesting one that others will care to read.
steve
