Scrutinizing Profit Calculations

With the latest properties I found, I decided to build a spreadsheet to analyze different criteria. From Ron LeGrand to the modern gurus, everyone always seems to teach the same profit calculations:

(1) MAO = 70%ARV - repairs - fees
(2) MAO = ARV - 25,000 - repairs - fees

MAO = Maximum Allowable Offer
ARV = After Repair Value
"repairs" = cost of repairs, if any
"fees" = Birddog/referral fees, if any

Now, the "70%ARV" is supposed to include costs to buy the property, costs to hold the property for at least 6 months, and costs to sell the property retial. I have used these exact calculations in the (few) offers I've made to date. However, when analyzing the calculations more, they are really a conservative estimate on costs (which is good).

Let me explain with an example ...

One of the properties I am looking at now is an REO with a list price of $93,500. I went out yesterday by myself to look at the condition of the property, and it looks like it could use about $5,000 in repairs (mainly rotting wood on the chimney). I haven't run cmps, but lets say the house has an ARV of $109,500. Using the calculations, I have:

(1) MAO = (0.7)109500 - 5000 - 0 = $71,650
(2) MAO = 109500 - 25000 - 5000 - 0 = $79,500

Since the MAO in (1) is lower, that should be my offer. Now before I show some extrenuous calculation, I want the readers to know that those two calculations should be used in practically all circumstance, because (1) they give room for underestimating and (2) they are quick to do - especially when you are working in volume.

I thought these numbers were interesting, but I wanted to see what would happen in the real world with real rates and figures, and set about making a spreadsheet on this property with projected forecasts. Here is what I found ...

List: $93,500
Assessed: $110,450
ARV: $109,500

Financing: 103% Loan @6.5% (should be higher?)
Buy Costs: $0 (rolled into loan)
Insurance: 0.5%/yr (based on assessed value - higher?)
Taxes: 2.5%/yr (based on assessed value)
Utilities: $100/mo. (conservative estimate)
PMI: 1%/yr (based on loan amount)
Sell Costs: 8% of Sell/ARV Price

Monthly Financing: $507.80
Monthly Insurance: $46.02
Monthly Taxes: $230.10
Monthly Utilities: $100.00
Monthly PMI: $66.95
TOTAL MONTHLY/HOLD COSTS: $950.88

Sell Costs: $8,760.00
Earnest Money: $500.00

If I were to buy the house for the MAO (minus my earnest money deposit), my monthly profit would be:

Asking Price: $71,650



Months

 Held     Profit

------  ----------

   1     21,682.42

   2     20,909.92

   3     20,138.01

   4     19,366.68

   5     18,595.95

   6     17,825.81

   7     17,056.27

   8     16,287.33

   9     15,518.99

  10     14,751.26

  11     13,984.13

  12     13,217.62

However, I could fudge the numbers such that my asking price could be higher and still have a good profit:

Asking Price: $78,500



Months

 Held     Profit

------  ----------

   1     14,588.70

   2     13,778.04

   3     12,968.02

   4     12,158.65

   5     11,349.93

   6     10,541.85

   7      9,734.44

   8      8,927.68

   9      8,121.58

  10      7,316.14

  11      6,511.37

  12      5,707.27

One other thing that I want to caution is that the calculations in the beginning of this entry are more for Wholesaling than retailing. IOW, they are mainly used for people who desire to wholesale to rehabbers/retailers. What I am doing is showing how to nudge numbers for retailing. Sometimes in order to get a property, you may have to bid higher than the two MAO calculations. Just run the numbers to see what kind of profit you would like to make in the end.