How to estimate the ARV (After Repair Value)
Whether you are buying for a fix and flip, a wholesale deal, or a rental, you need to know how much a property is worth fixed up. As Real Estate Investors our goal is to buy low, put a little money into a property and sell it high. But you need to understand what it can sell for before you buy. Thus you need to learn How to Estimate the After Repair Value (ARV).
You make your money what you buy but collect it when you sell.
You need to understand what you can sell it for. This in Real Estate Investing land is called ARV – After Repair Value. This is a bit of an art. There is some process to get close, but the final steps involve understanding where the house is relative to the comparables and what the market looks like at the time the property will be sold.
The house you are considering buying is call the Subject house. The process is to find 2 or 3 (or more if you can find them) properties that look remarkably similar to the subject property. You have to put yourself into the shoes of your end-buyer. Do they have a growing family? Are they downsizing? New job? What comparables come close to the subject property? For example, if you are in a mature neighborhood then you are likely to sell to a retired couple. So, a ranch (1 story) does not match a 2 story. Thus, not comparable.
Criteria
The criteria that you should use to match are listed below. Some have more weight than others (bath vs bedrooms). Some are naturally a range (Sq Ft). You can give each item 0 points if it matches exactly and 1 point if it off by 1, and 2 points if worse.
The criteria that I recommend are:
- Only SOLDS – these numbers are what people have indicated they will actually pay, not the listing price which is what the seller wants from the property.
- Only look at SOLDS in the last 6 months. This one is really weird as I’m writing this because Covid-19 is changing the pricing daily. So, I have to look at trends and predict where the property will be after I repair it – 4 to 6 months out.
- Bedrooms – a 2 bedroom and a 4 bedroom are not comparable
- Bath – ½ baths kind of don’t count. So, a 2 bath is better than a 1 bath house.
- Square foot – this is finished living space (i.e. no unfinished basements) – comparable is plus/minus 200 Square feet (gets 0 points), if different by plus/minus 300 Square Feet (gets 1 point).
- Building style – Ranch and two story, with or with basement, and split level are all different
- Decade – plus/minus 10 years. A house built in 1920 is not comparable with one build in 1990. (I’d rather have the 1920 one, much more solid but probably not as good a neighborhood).
- Distance from subject property – ¼ mile is great, ½ mile is ok, beyond 1 mile don’t bother including unless you are looking for houses in a very rural area.
- Natural boundaries – rivers, lakes, school districts, town boundaries, major roads – you have to know your neighbor hoods. Two houses across the street in different school districts could vary by $10,000.
Where to find SOLDS
So, what you are going to do is go to Realtor.com, Zillow.com, Trulia.com, and Redfin.com – and extract out all houses within a ¾ mile radius. Each site will only show you some of the houses, you need a list. The more on the list the better.
Gathering a small list of comparables
If during this process you find a property that seems simply weird numbers, set it aside. Some transfers like between family members will not be valid from a comparables perspective.
Then I find the easiest way is to give each criterion 0 points if the same (bedrooms 3 = 3), or 1 point if different by 1 (bedrooms 3 = 4) for each of the above criteria. And if not similar at all then 2 points. Obviously, some things are yes/no. Same decade yes = 0, different decade = 2. Add them all up and then sort by the lowest to highest. If you have 3 or 4 (or more) that have only had 0 or 1 point, then great. Take those and move on to the next step.
If you don’t have any or only 1 or 2 then you need to loosen up your criteria. For example, in a retirement area, the number of bedrooms is less important, 2 or 3 who cares. But in an area with new families, 3 bedrooms is way different than 2 bedrooms. In areas where all the houses are uniformly built then you can expand the radius.
Once you have 3 or more then you can go on the to the next step.
Actually Calculating the After Repair Value
Now that you have 3 or more comparable properties, you can take one of 2 approaches, easy or harder.
The easy one is just average the found comparables.
The proper (harder) way is to look at the Square feet and divide the price by the square feet for each property, this gives the price / square foot. Then after the price/square foot yielding an average price/square foot. Finally, multiply the average price/square foot by the square foot of the subject property. This weighted average is usually much more accurate.
Reasonability test
So now you have a After Repair Value. Look back at all the houses gathered up above and your knowledge of the neighborhoods and ask yourself – is this number reasonable? This is part of where the art of estimating comes into play. You have to know your neighborhoods. Someone sitting in California doesn’t know that across the street is a manufacturing plant, making the house worthless. Or a school across the street makes the house more attractive to a new family but less attractive to a retire couple.
Go forth and make offers
Now you have a number for the ARV (After Repair Value). Great! You now have the first component for an offer. The second is the cost of the repairs. See the blog on that or go to https://rehabestimator.wpengine.com and signup. Use it to walk thru the house to determine what needs fixing.
Happy investing.
Scott Krusemar