There is much discussion among real estate investors as to how exactly profits are made. Some argue that profit comes from the back-end of the transaction, as this is when the property is actually sold at a price you determine. However, others insist that it is on the purchase side. Both hold equal weight, but the answer lies somewhere in the middle. Making the right offer, while not the sole determining factor, can dramatically improve your profit margins. This means coming up with a number that works for you, regardless of whether or not you are below the current asking price.
One of the best things you can do when trying to come up with an offer is to look at the property without knowing what it is listed for. Take a look at the property and mind due diligence. Subsequently, it is up to you to determine what numbers work. This should be your final offer regardless of where the home is listed. There will be times when you are way off and other times when you are in the ballpark, but if you exceed your number you are getting a bad deal.
If you are worried about offending the seller, you need to change your thinking. There are times when making a lowball offer on a new listing could backfire, but if the home has been on the market for any length of time any offer warrants attention. If your offer is low, you should be prepared to back it up with a quick closing, a cash offer or a list of items that can justify your amount. In some cases this can get the ball rolling and negotiation started and in others the seller will quickly reject without any counter. Either way your goal as an investor is to get real estate at your price and not just acquire properties. If you overpay, you are stuck with an investment with minimal potential. Essentially, the risk is not worth the reward.
Coming up with an offer price is more than just pulling a number out of thin air. Your offer should be based on the after repair value (ARV), the cost of repairs and what is being sold in the local market. Start with the number that you think the property can sell for after you put the work in and take 70% of that number. This is the standard formula that most investors use. The cushion is often necessary to make a profit. When determining this number, you need to take a realistic look at what has sold in the area. If there are enough sales, it is tempting to look at the highest ones and think your home may be comparable to them. What you should do is look at the low side and err on the side of caution. Buyers will always look at the lowest comparable sales, so it makes sense that you do the same. Getting a higher price can be great, but you need to be realistic with what has sold and what you think you can get after you put your work in.
If your repair costs end up exceeding your budget, your end price will be affected and it will change the deal. Just as your ARV number was conservative, as should your budget. This starts with knowing exactly what work you want to do, who is going to do it and what potential problems you may encounter. Some of these problems may appear out of the blue, which is why you should include a cushion in your budget. The best investors are the ones that consistently come as close as possible to nailing their budgets. If you are unsure about the property, you should bring a contractor with you to help firm up your numbers.
The final piece in helping you determine an offer price is knowing your local market. Having an idea of what is on the market, how long it is taking properties to sell and what price they are selling for is essential in coming up with the right price. The better you know the market, the better investor you will be. Getting a deal on a property may be fool’s gold if you can’t do anything with it for several months. You need to look at past and current sales activity to give you a good idea of where you think home values may be headed. If you are using old or inaccurate data, you cannot possibly make the best offer for you to make a profit.
Making the right offer is one of the most important steps you will take on every deal. Instead of worrying about the reaction of the seller or if your realtor will get annoyed, you need to stick to the number you came up with and go from there. This doesn’t mean there aren’t times when you can’t be a little flexible, but the higher you go over that number the more it will eat away at your profits. With any offer you make, you should have no regrets if it is accepted. You never know what you could get unless you ask.