The Problem With Using the 70% Rule to Calculate Your Maximum Allowable Offer

The Problem With Using the 70% Rule to Calculate Your Maximum Allowable Offer

3 min read
Brandon Turner

Brandon Turner is an active real estate investor, entrepreneur, writer, and podcaster. He is a nationally recognized leader in the real estate education space and has taught millions of people how to find, finance, and manage real estate investments.

Experience
Brandon began buying rental properties and flipping houses at the age of 21. He started with a single family home, where he rented out the bedrooms, but quickly moved on to a duplex, where he lived in half and rented out the other half.

From there, Brandon began buying both single family and multifamily rental properties, as well as fix and flipping single family homes in Washington state. Later, he expanded to larger apartments and mobile home parks across the country.

Today, Brandon is the managing member at Open Door Capital, where he raises money to purchase and turn around large mobile home parks and apartment complexes. He owns nearly 300 units across four states.

In addition to real estate investing experience, Brandon is also a best-selling author, having published four full-length non-fiction books, two e-books, and two personal development daily success journals. He has sold more than 400,000 books worldwide. His top-selling title, The Book on Rental Property Investing, is consistently ranked in the top 50 of all business books in the world on Amazon.com, having also garnered nearly 700 five-star reviews on the Amazon platform.

In addition to books, Brandon also publishes regular audio and video content that reaches millions each year. His videos on YouTube have been watched cumulatively more than 10,000,000 times, and the podcast he hosts weekly, the BiggerPockets Podcast, is the top-ranked real estate podcast in the world, with more than 75,000,000 downloads over 350 unique episodes. The show also has over 10,000 five-star reviews in iTunes and is consistently in the top 10 of all business podcasts on iTunes.

A life-long adventurer, Brandon (along with Heather and daughter Rosie and son Wilder) spends his time surfing, snorkeling, hiking, and swimming in the ocean near his home in Maui, Hawaii.

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Brandon’s writing has been featured on Forbes.com, Entrepreneur.com, FoxNews.com, Money Magazine, and numerous other publications across the web and in print media.

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If you are a house flipper or have spent any great length of time on BiggerPockets.com, you probably recognize the 70% Rule and understand how it pertains to house flippers. However, the 70% Rule can also be extremely helpful for wholesalers, especially those who may be wholesaling deals to house flippers—as you might do.

Keep in mind, this is only a rule of thumb and one of several methods you will use to estimate what you should offer on a property. The 70% Rule states that you should pay no more than 70% of a property’s ARV, minus any repairs.

How the 70% Rule Works in the Real World

A wholesaler also needs to subtract their fees from that number. Therefore, the 70% Rule, as it applies to wholesalers, is as follows:

Maximum Allowable Offer = (ARV x .70) – Repairs – Your Fee

Let’s do some very quick math, and I’ll show you how this would work in the real world.

Wholesaler Beth was considering making an offer on 123 Main Street, the property owned by Clarence that we looked at earlier. If you’ll recall, we determined the ARV for that house to be approximately $147,333, after comparing it with 875 Elm Street, 413 Oak Street, and 77 First Street.

rental-property-pros

Related: Case Study: My Latest Deal Proves the 70% Rule Doesn’t Always Work

To determine her offer price, Beth multiplies $147,333 by .70 to get $103,133. She then subtracts the cost of the necessary repairs, which she estimates at $20,000, and her desired wholesale fee of $10,000 to arrive at a maximum offer price of $73,133.

$147,333 (ARV)

x.70 (70%)

=$103,133

-$20,000 (Repairs)

-$10,000 (Wholesale Fee)

= $73,133 Maximum Allowable Offer

Although these numbers are fairly easy to calculate, if you want to do them quickly online, BiggerPockets has a free 70% Rule Calculator that anyone can use. Just plug in the numbers and see your Maximum AllowableOffer. To use the calculator, visit BiggerPockets.com/calc and click on the 70% Rule Calculator.

Problems With the 70% Rule

The 70% Rule assumes that 30% of the ARV will be spent on holding costs, closing costs (on both the buyer’s and seller’s side, such as commissions, taxes, attorney fees, title company fees, and more), the flipper’s profit, and any other charges that come up during the deal. This works well in many markets, but it has some severe limitations.

For example, the 70% Rule doesn’t work as well for a property whose ARV is low, such as $50,000. As mentioned earlier, the 30% deducted from the ARV includes the holding costs and closing costs, as well as the profit the investor or flipper wants to make. However, 30% of $50,000 is $15,000, so following the 70% Rule, all the fees, costs, and profit add up to only $15,000. If the fees and holding costs were to total $10,000, that would leave just $5,000 in profit for the house flipper—and I don’t know any house flipper who will take on the risk of flipping for just $5,000. So, following the 70% Rule, a flipper or wholesaler would pay far too much for the property in this case.

hire-CPA

Related: Put to the Test: Are the 2%, 50% & 70% Rules REALLY Useful to Investors?

A similar problem with the 70% Rule exists for more expensive properties. The 70% Rule would dictate that a home with an ARV of $700,000 that needs $50,000 worth of work should produce a Maximum Allowable Offer of $440,000. However, in most markets, finding a $700,000 property for $440,000 is simply not feasible. A person who sticks exclusively to the 70% Rule will likely never find a good enough deal to ever wholesale or flip a single property.

Furthermore, some investors may spend more or less on fees and costs because of their particular life situation or location. For example, in some states, purchasing a home may require $3,000 in closing costs, while in other states, it might be $6,000. Some investors may have a real estate license, which saves them tens of thousands of dollars in commissions, whereas other investors may need to pay commissions when they sell.

[This article is an excerpt from Brandon Turner’s The Book on Investing With No (or Low) Money Down.]

What methods do you use to estimate the after repair value and maximum allowable offer for your rehabs?

Let me know with a comment!