Aspiring real estate investors must understand and comprehend several concepts. However, few fundamental ideas associated with investing are more important than a subject property’s after-repair value (ARV). It is the ARV, after all, that will set the bar for two of today’s most popular exit strategies: wholesales and rehabs.
Investors must learn how to apply an estimated value to a property after it has undergone necessary repairs and renovations. Fortunately, there’s a tool that makes the process a lot easier to digest: an ARV calculator.
Whether you are a seasoned veteran or a new investor learning the ropes, an ARV calculator will make your life much easier. The after-repair value is an essential metric for numerous exit strategies, which begs the question: What is ARV in real estate? So let’s look deeper at the ARV meaning and how investors may apply it to their businesses. We’ve developed this guide to tell you everything you need to know about using your own ARV calculator, including:
On the surface, the after-repair value (ARV) refers to the estimated value of a subject property after it has undergone the appropriate renovations, repairs, and improvements to resemble nearby “comps.” Simply put, it’s how much investors can expect to sell the home for after they fix it up.
Beneath the surface, however, the ARV real estate metric is used to lay the foundation for an entire deal. When investors can estimate how much they will be able to sell the property for in the future, they can make more informed decisions, reduce risk, and even evaluate profitability in the present.
Undoubtedly, understanding ARV real estate metrics can drastically enhance your ability to analyze deals, mitigate risks, and predict potential profits. Yet, it is just one of the many vital components in the realm of real estate investment. If you wish to delve deeper and gain comprehensive knowledge about various strategies, techniques, and tools that can augment your success, don't miss our FREE Training!
The 70% purchase rule is a guideline real estate investors follow to determine how much they can spend on a property. Otherwise known as the 70% rule, the 70% purchase rule leaves enough room for worthwhile profit margins. In doing so, this guideline centers around the aforementioned after-repair value; it explicitly states that investors shouldn't spend more than 70% of the ARV.
To implement the 70% rule, investors must determine the subject property’s after-repair value. The best way to accurately calculate the ARV of a subject property is to look at nearby “comps” on Zillow or similar homes within close proximity that have recently sold. Comparable properties reflect the current value of other homes in the same neighborhood, and there’s no reason they can’t accurately portray how much the subject property would be worth.
Next, investors will need to add up the cost of repairs that restore the property to its desired condition. Considering material costs, labor costs, and any other expenses associated with the renovations, investors must add how much they intend to invest in the property. This can be done by getting contractors to bid on the project, consulting with an appraiser, and even talking with more experienced investors.
With a good idea of the ARV real estate metric and how much it will cost to restore the home to its desired condition, investors will multiply the ARV by 0.7 (70%) and subtract the estimated repair costs. The resulting value will represent the maximum price an investor should pay for a property, leaving room for an attractive return on investment.
As a guideline, the 70% rule shouldn’t be viewed as an objective truth. The actual purchase price an investor should pay for a subject property will vary based on several factors, including location, market health, supply and demand, risk tolerance, and more.
Due to the volatility and unpredictable nature of the real estate market, the 70% rule should be viewed more as a starting point for analyzing properties. If for nothing else, the 70% rule offers invaluable insight into a deal when combined with a more comparative market analysis.
The after-repair value estimates how much a subject property will be worth once the necessary repairs have restored the home to its desired condition; in other words, it’s how much the investor will be able to sell it for once they have made the appropriate renovations. With that context, the ARV can be broken down into a simple formula:
ARV = Property Value Before Renovations + Value Of Renovations
If the ARV real estate metric is how much the property is estimated to be worth after the necessary repairs are made, it’s safe to assume investors can add the original price of the home to the value that the renovations to determine the ARV.
Let’s say, for example, that an investor can buy a subject property for $500,000 (the property's value before renovations). Subsequently, the investor can add another $100,000 in value through specific renovations and fixes. If the upgrades add $100,000 to the original price, the ARV is an estimated $600,000.
Again, the ARV is only an estimate. A property's current value will depend on several macro- and microeconomic indicators that are too numerous to account for. Therefore, investors need to take this particular calculation's ARV with a grain of salt; it’s intended to complement a more comprehensive analysis.
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There’s more than one way to determine the ARV of a subject property. In addition to the formula above, today’s most popular ARV calculation methods include the following:
With the sales comparison approach, real estate investors are tasked with identifying three comparable properties that have recently sold in the same area and have similar amenities. To use real estate comps in an ARV formula, they should be properties that have undergone renovations or are in a similar condition to what the investor envisions for their property.
Once at least three comparable properties have been identified, add their sales prices and divide the answer by three (the number of properties used). The answer will give investors the average sales price of similar properties within close proximity to their own. From there, investors can deduce a good ARV for their investment property.
For added context, the formula will look like his:
ARV = (Comparable Sales Price 1 + Comparable Sales Price 2 + Comparable Sales Price 3) / The Number Of Comps Used
Calculating the ARV with the income approach involves estimating how much income a property can generate and applying a capitalization rate to determine its after-repair value.
To start using the income approach, investors must figure out how much the property will be able to generate in rent after it’s restored to its desired condition. Like the sales comparison approach, the income approach will rely heavily on comparable properties to determine rental rates for the subject property. Investors can better understand how much income the property will generate by comparing it to similar homes in the area.
Of course, no rental property is immune to vacancies, so investors must account for a collection loss rate. To do so, multiply the estimated rental income by the expected vacancy rate. For context, the average vacancy rate in the United States is about 6.4%.
Next, calculate the net operating income (NOI). Subtract the estimated operating expenses (how much it should cost to keep the rental property in operation) from the adjusted potential rental income to calculate the NOI. The NOI will represent how much the property will bring in after deducting the expenses.
Set the adjusted potential rental income and NOI aside and determine a capitalization rate (the expected rate of return on the property expressed as a percentage). Investors can find cap rates by analyzing recent sales of similar income-generating properties.
Once all of the variables are accounted for, plug them into this formula to calculate the ARV:
ARV = NOI / Cap Rate
The answer to the formula represents the ARV of the property based on its income potential.
Read Also: What Is A Good Cap Rate? Calculator & Formula for Real Estate
The cost approach is easily the most involved. It requires investors to estimate the cost of rebuilding the subject property and adjust for inflation to calculate the ARV real estate metric. It is also important to note that the cost approach is typically reserved for commercial and specialized properties.
While most investors won’t entertain this idea, understanding the cost approach doesn’t hurt. Therefore, here’s a step-by-step guide for calculating a property’s ARV with the cost approach:
Calculating a property’s ARV is crucial for investors who want to assess the potential profitability of a deal. Here are some tips to help with ARV calculations:
Calculating the ARV for a wholesale deal relies on the same formulas as a fixer-upper. However, investors calculating the ARV on a wholesale deal are doing it more so for the end buyers and less so for themselves. In reality, wholesalers only want to know the ARV to relay the value to the end buyer.
At the very least, when a wholesaler knows the ARV, they can calculate their fee for connecting the buyer to the seller. To guide you further, be sure to watch our video tutorial on "How To Wholesale Real Estate Step by Step (IN 21 DAYS OR LESS)!"
This video is packed with insights, techniques, and real-world scenarios to help you get started or level up your real estate wholesaling journey.
Read Also: Wholesale Real Estate: The (ULTIMATE) Guide
The ARV real estate metric is an excellent tool for new investors to reference, but it has flaws. As a result, investors must look at the pros and cons of ARV calculations before diving in. Here are some advantages and disadvantages to consider:
The advantages of ARV calculations include, but are not limited to:
The disadvantages of ARV calculations include, but are not limited to:
Real estate investors need to know how to use an ARV calculator. The ability to estimate how much a home will be worth once the necessary repairs are made can significantly impact the decision-making and profitability of an impending deal. An ARV calculator allows investors to estimate the potential value of a property after renovations, providing a clear picture of its financial viability.
By understanding how to use an ARV calculator accurately, investors can make informed choices, negotiate effectively, attract buyers, and maximize their returns on real estate investments.
At Real Estate Skills, our team of experts is ready to provide the tools you need to calculate the ARV of an investment property. We're committed to providing the knowledge, resources, and support you require to navigate each valuation step successfully. So avoid common mistakes and maximize your property analysis strategy by leveraging our expertise.
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