5 Pricing Tips for House Flipping Investors
About the author: Philip Michael is a real estate developer, entrepreneur, investor, and author of How To 10x Your Net Worth In 18 Months. He’s the founder of NYEG, former on-air host on SiriusXM and NuvoTV, and former national editor/content strategy director at Bisnow leading up to the company’s $50 million sale. Michael writes for BiggerPockets, Forbes, and Huffington Post.
You got through your first rehab. You’re now ready for the fun part: cashing that check.
Before you got the deal, you obviously ran the numbers to make sure there was enough juice for you to make a profit.
But what they don’t tell you on the house flipping shows is that sometimes your freshly rehabbed property may have lots of competition.
You may also have holding costs that put the pressure on you to sell faster (and at a lower price) than you expected before going into the deal.
Remember, it’s not what you make, it’s what you keep.
To avoid these pitfalls, here are five ways to price your home at a reasonable price, while still retain juicy profit margins that make your project a success.
1. Figure out your ARV
The after repair value (ARV), is perhaps the most important figure you need to know before deciding to go into any deal.
After repair value, which is exactly what it sounds like, is the estimated value of your home once renovation is complete.
Goes without saying, for your flip to be successful, you want to make sure your ARV is higher than your acquisition, financing, construction, and holding costs. That’s where your profits come in.
In real estate, there are three ways — well, two main methods, really — to determine home value. One is the comp method, the second is the income capitalization method.
Here’s a quick primer on these two main appraisal methods:
1.The comp method is fairly simple and is most commonly used for single-family properties. It basically means that the appraiser takes a look at comparable properties sold (hence the term ‘comparables’ or ‘comps’) in the same neighborhood over a recent period. From there, the appraiser sets a fair market value.
2.The income capitalization method, on the other hand, uses ratios to determine the value of an asset. In this case, the value is derived by the net income the asset produces relative to the average cap rate for the market.
In other words, the value is appraised based on how well you manage your rent roll. The formula is NOI / cap rate = value, which is great, because you can hack your value this way.
However, (and this is an important however), unless you have a property with more than five units, you’ll likely fall under the former, i.e. the comps method.
So go out, see what other similar properties in a similar market have sold for in the past 6-12 months. Or you can just ask your realtor and he/she will give you a comp report.
If you want a quick estimate of the value of your home, you can go to Zillow, Redfin, or Chase, and these websites will give you a ballpark figure.
2. Run your numbers (and price accordingly!)
You want to make sure the numbers work.
You can use a software tool that details important metrics, the ROI — and how the ROI is affected based on how long the project takes.
Say you have a townhouse shell in Philadelphia for sale for $10K and the ARV is $150K.
Ten grand for a house in a big metro market? Sounds like a winner, right?!
Not so fast.
If it turns out that the soil is contaminated, the structure has to be demolished, and you also have to cover your soft costs, before you know it, you’re in $25K before you even get started.
Now add 8% interest, closing costs, points, and other fees and you could be looking at a situation where you may have to list it above the ARV.
Not to mention the cost of actually building it.
Conversely, if you are diligent with the numbers, score great lending terms for instance, find a few ways to hack your construction budget, you could find yourself in a situation where you can actually price your home 10% below the ARV and still make a sweet profit.
3. Secure great lending terms upfront
By securing great lending terms, you allow yourself the luxury of pricing it at, or below, the ARV — which ensures the property will move fast once you list it.
Let’s go by the example above. You have a property for $10K, the ARV is $150K. Financing (namely holding costs) is a big money drain for you.
Let’s say that soft costs and hard costs altogether run $90K. With your $10K acquisition costs, you’re in at an even $100K, leaving you $50K in profits pre-tax.
But that’s assuming you’re doing it cash — which you most likely are not. So in this case, the lending terms can make or break your project.
If you go with a standard hard money lender, you may be looking at a 15% interest rate. If it takes you a year to finish, you’re in $15K in interest alone. But the cool thing about modern lenders is that they underwrite differently and provide better terms.
If you get great lending terms, then you have a profit cushion, allowing you some leeway to list your home at a competitive price point — and still turn a nice profit.
4. Get your budget secured
We all have heard the horror stories. Contractor gets started on your project. Contractor makes progress on said project. Contractor abandons the project.
Now you’ve got a stalled project and soon-to-become money pit.
It happens all too often — and yes, it’s happened to me, too. To get around that, savvy investors secure their projects by using bonds or liens, for example, to incentivize contractors from not only finishing, but finishing on time — and on budget.
Philadelphia developer Matthew Shapson says that they use a software program that allows partners to view the progress of the project through pictures — all the while seeing the timeline and the budget. He says that it’s a great way to build trust and make sure things get done on time.
And if you’ve done that, you won’t have any nasty surprises that force you to price your home too aggressively. Simply list it at or slightly below market price and you’ll be off and running with profits in no time.
5. Add value (and small things count)
OK, fair enough. You’ve done these things. You listed it at ARV, even slightly below. Want to make sure it moves even faster? Try and find little things where you can add value and help sell the home.
A lot of times people (since people are people) make emotional buying decisions based on how they felt when they viewed it.
One tactic I’ve used to get a higher price point from a newly renovated property was to have enticing wallpaper, keyless locks that look like smartphones, and Nest doorbells.
In other words, smart home gadgets. None of these cost more than a few bucks, if that.
And even if your rehab is the exact same as the next guy down the street, adding value to your home can help your property stand out — and therefore get it moved quickly.
So wrapping up…
If you just did a flip and want to make sure you know how to price your home for sale in a competitive market, make sure you:
- Know your ARV, so you can price correctly
- Run your numbers, so you know your profit margins
- Get great loan terms, so you can add more juice to your margins
- Protect your construction budget upfront
- Find ways to add value to your home for cheap