Summary: ARV is the future worth of a property after repairs have been made. In this blog, we share why ARV is important, our best tips in determining the ARV, and how to use the 70% rule.
In this blog:
What is ARV in Real Estate?
The After-Repaired-Value or ARV is the projected worth of a property after all of the repairs and improvements have been made. Often, the ARV is also an investor’s best estimate of what the property might sell for in the future. Since it is a value in time, its accuracy and usefulness are based upon the prevailing market conditions.
The Importance of ARV
Fix & flip investors are individuals, partnerships, or companies who acquire a distressed home, repairs it, and then sell it for what hopefully will be a net profit. Some also retain ownership of the property to be used as short-term rentals or as a property for lease. ARV is important to determine two important factors that affect your investment’s profitability:
- ARV helps you determine the maximum allowable offer (MAO). This is the ceiling price or the maximum bid you will be willing to make on a property. The ARV is used to determine how much the property will be worth and justify the cost of all of the repairs. Only by knowing these two things will you be able to create an offer that will actually make money.
- If you’re using a private money loan for your rehab, your Loan-to-Value (LTV) Ratio will be based on your ARV. The LTV is the ratio of the loan against the value of the property. It is used by most private money lenders to determine how much is the maximum or minimum amount that you can borrow. If you’re borrowing money to finance your transaction, you’ll need to have the ARV even before you approach them.
Calculating for the ARV is pretty simple:
ARV = Property’s Current Value + Value of Property with Projected Repairs
The property’s current value is the ‘as is’ value of the distressed property before the repairs are done. The seller is usually going to want to sell the property at this price. In a seller’s market where demand sets the price, you are likely to compete with several offers on a property. This also means you might purchase the property above its current value. The value of future repairs will be how much in dollar value will all of the repairs add to the property. For example, if you’re going to update the floorings, bathroom fixtures, and add new appliances. The accumulated value of those upgrades will add up to be the value of the repairs. Note that this is different from the cost of the repairs.
How is the ARV Determined?
There are three main considerations to determine the ARV of a property. The formal appraisal, comparable properties, and an accurate estimate of the dollar value of the future repairs.
Get a Formal Appraisal
You can get a formal appraisal for your property which takes about 5 to 7 days under normal circumstances. The licensed appraiser will consider multiple factors to assess the value of the property. Some of the most common considerations are:
- Property location
- Square footage and total land area
- Current condition
- Curb appeal
- Number of bedrooms and bathrooms
- Other distinct home features
Select Quality Comparable Properties (Comps)
But before you start, consider your local real estate market conditions. Throughout 2020 and for what continued into 2021, we are in a seller’s market. What that means is that there is more demand (people looking for homes) than supply (people listing homes for sale). In this kind of market, homes are often sold above the listing price due to multiple offers. Take into consideration that the ARV factors in time. Because properties get sold fast, you’ll have to consider recent sales that have been closed within the last 90 days and a maximum of 6 months. Anything longer than that would be an inaccurate estimate of the future value. There are no hard and fast rules on how you can get the most accurate comps, but here are some great tips:
- Consider both closed sales and pending sales. While an appraiser will only consider closed sales, the pending will help you know where the valuations are headed.
- Narrow down the property radius. Consider comps that are within ½ mile to 1-mile radius of your target property. You won’t want to compare prices from an entirely different neighborhood no matter how similar the attributes are.
- Speaking of attributes, take only properties that have similar attributes to the ones that you’re buying. Find a home with more or less 10% of the same square footage, have a similar number of bedrooms, bathrooms, and style. You should also be comparing homes that are similar in type. For example, if you’re buying a multifamily home, limit the comps to multifamily properties.
- After narrowing down the comps, you can take the average of the highest and lowest comp for your target property.
- Having a real estate investor-friendly agent on your side is also invaluable. If you’re going through this route, find someone who has the experience and is familiar with the location.
Determine the Value of Future Repairs
You’ll need to get a detailed quotation from different contractors to know how much the repairs will cost. However, the cost of the repairs is not the same as the value that is added to the property. If you’re fix and flipping in Houston, some of the best renovations that give back the highest ROI would include:
- Installing a new steel garage door with a lifetime warranty
- Minor kitchen updates can include installing more resilient flooring, replacing laminate counters, adding energy-efficient appliances, and changing cabinet doors
- Increasing your curb appeal by replacing the bottom third of your facade with manufactured stone veneer with water protection
You may also find the Remodeling Cost 2021 vs Value report a useful reference to check the added value that the repairs you plan to do will bring in for your property.
Using the 70% Rule
As we’ve pointed out earlier, having an accurate ARV will determine if your deal is going to be worth it. You can use the 70% rule if you’re purchasing a property. The 70% rule states that your maximum purchase price should not exceed 70% of the after-repair value after you have accounted for your expenses. Here’s how it is calculated:
(ARV x 70% ) - Cost of Repairs = Maximum Allowable Offer (Purchase Price)
For example: After repair value: $400,000 x 70% = $280,000
Cost of Repairs: $50,000
Maximum Purchase Price: $250,000
In other words, the 70% rule says if the property is being sold for $250,000 or less, the property is a worthy venture. Some would argue that this isn’t applicable in current market conditions. But what’s really important is to create rules and systems in your investment strategy and stick to them. Make necessary adjustments but don’t bend your own rules because you’re ‘in love’ with a particular investment. Stay consistent whatever percentage you use.
What is your deal scenario?
Once you know how much your target property’s value will be in the future, the maximum offer you can purchase it for, you’ll need to make sure you have the necessary funds to get started. And you need to get funded...fast!Here’s where GL&L Holdings can help you. We are a family-owned, direct hard money lender who can give you flexible terms to make your deal work. Using a direct hard money lender like us will also save you on added broker fees. Whatever your deal scenario is, we specialize in providing different types of loans for residential and commercial properties such as:
- Investment property purchase
- Rehab fix and flip
- New construction
Start investing in real estate today using hard money loans as leverage! Apply for a Loan Now! For more information, you may also call our Houston office at 832-770-9415 or send us an email at firstname.lastname@example.org.