Real estate investing is an amazing long-term investment strategy, and in this day and age, the internet is saturated with tons of articles and blog posts on how to invest in real estate. You actually may have landed in the BiggerPockets community in search of how to build wealth through real estate investing.
With tons of real estate articles out there, it may be a bit challenging to determine which investment strategy to utilize to build wealth.
So for today’s post, I wanted to give you an in-depth introduction to one of the best real estate investment strategies — the strategy I’ve used to build wealth for the last 10 years.
Let’s jump into today’s post!
How to Purchase Real Estate With No (or Low) Money!
One of the biggest struggles that many new investors have is in coming up with the money to purchase their first real estate properties. Well, BiggerPockets can help with that too. The Book on Investing in Real Estate with No (and Low) Money Down can give you the tools you need to get started in real estate, even if you don’t have tons of cash lying around.
Introduction: What the Heck is a Real Estate Wholesaler?
To fully understand the role of a real estate wholesaler, I want to first define what a wholesaler is in any industry.
If you look up the definition of wholesaler, Merriam-Webster defines it as “a merchant middleman who sells chiefly to retailers, other merchants, or industrial, institutional, and commercial users mainly for resale or business use.”
So essentially, wholesalers are the “match-makers” or the “middle-men” between investors and investment properties.
Wholesalers are tasked with finding discounted properties and then selling the properties to an investor-buyer, who then uses the property to turn a profit.
Make sense? Great!
Now, there are different strategies used to wholesale real estate, so let’s dig deeper into the three wholesaling strategies out there.
The 3 Wholesaling Strategies
This strategy is most popular, and it doesn’t cost you any money out-of-pocket because you’re essentially selling the “rights” of the contract to the investor who intends to purchase the property.
Here’s an example — you find a motivated seller who is willing to sell their property for $20,000. After running comps to calculate the ARV (after repair value), you determine the property could sell at retail for $85,000, and it will take $20,000 to rehab.
You write a purchase agreement with the motivated seller for $20,000. Then you locate an investor and sell them the rights to the contract for a fee of $5,000.
You pocket the $5,000 and move on to the next deal. It’s that simple!
Now, there are a lot of gray areas legally, so I would highly recommend consulting with a local real estate attorney to ensure you are following the laws in your state.
The next wholesaling strategy is called a “double close.” This method is used when you have the funds to purchase the property from the motivated seller and then immediately (almost within minutes) sell the property to an investor.
So here’s what typically happens is at closing: You sign all of the documents with the seller and then in 15 minutes or so, you sign the closing documents with your investor-buyer, selling them the property at a slightly higher cost.
Timing is key with strategy!
Buying and Selling
Buying and selling is when the wholesaler buys and fully owns the property. This is the strategy I use in my business, and it lives up to the term “traditional wholesaling” to the fullest.
The key advantage with this strategy is that you avoid the legal gray areas, allowing you to market the property however you would like because you own. The biggest disadvantage is that it takes a lot of working capital to utilize this strategy on each and every deal.
How Do You Actually Make Money as a Wholesaler?
Determine the ARV.
First ask yourself, if your property was fully renovated and was on the market with a real estate agent, how much would it sell for?
In real estate, there is a term called the “After Repair Value,” which is the cost of the property at retail price after repairs.
The best way to determine the ARV is by pulling comps or “comparables” against other properties that are within a half mile radius of the property that have sold within the last six months and are of similar design, house type, bed to bathroom ratio, etc.
You run comps by going onto the MLS (Multiple Listing Service) and pulling three to five properties that share similarities with your subject property.
Running comps will give you a nice idea on how much the property could sell for after repairs.
Know what returns your buyers are looking for.
As I mentioned earlier, wholesalers are the matchmakers between an investment property and an investor-buyer, so it’s important that you get to know your buyers and learn what kind of returns they are looking to make from their investment properties.
Let’s take a few minutes to discuss a wholesaler’s relationship with buyers.
Rehab-buyers are the investors who purchase properties at a discount to renovate and then sell properties a retail price for a profit. You may ask, “Well, how does a rehabber know whether the property will give them a nice return on their investment or not?”
Well, that is a great question, and there is an equation that rehabbers live by called the 70% Rule. It states that if your looking to flip a house, you need to purchase the property at 70% of the ARV.
The formula for the 70% Rule is:
ARV *.70 – Rehab Cost = Purchase Price
Now, in order for rehabbers to calculate their purchase price using the 70% Rule, they must first determine rehab costs.
A good tip in determining the scope of work for a rehab project is to provide ranges ($10,000-$20,00) instead of exact amounts because rehab costs can vary. One contractor may replace a brand new window for $200, and another contractor may replace the sample exact window for $400.
If you have construction experience, then estimating rehab costs may be a piece of cake for you, but if you lack construction experience, I would highly recommend allowing three contractors to bid on the scope of work then take your lowest and highest bid and use them as your ranges.
Once you have a good idea of repair costs (for example, $10,000-$20,000), you can now calculate what rehabbers are looking to spend on a property to help determine your purchase price, and ultimately your profit margin as a wholesaler.
Here’s an example.
You come across a property that needs some renovations done on it, and based on comparables in the area, the property could sell at $85,000 after renovations. After walking through the property or collecting bids from contractors, you determine an “in-between” number, say $20,000, in repairs.
You can then apply the 70% Rule: ARV *.70 – REHAB.
85,000*.70 – $20,000 = $39,500
So, now you know that your rehab buyer will be looking to buy this property at around $39,500, and now you can determine your own price.
Keep in mind as a wholesaler, you typically want make between $5,000-$10,000 on a deal. So for our example, you need to be able to get this property at around $40,000 in order for it to work for you and the investor-buyer. In our example, you initially offer the motivated seller $25,000. They push back and ask for $35,000. You offer $30,000, and they accept.
Turn around and sell the property to your investor-buyer for $40,000, and boom, you just made $10,000 on a wholesale deal!
Now buy-and-hold investors are a lot different then rehabbers.
They go by a different industry rule of thumb called the 2% Rule, and it states that if your monthly gross income isn’t at least 2% of the purchase price, then the deal isn’t worth pursuing (some markets operate at a 1% Rule).
Buy-and-hold investors also have another rule of thumb called the 50% Rule. This rule is easier to explain in the following example.
You come across a duplex (2-unit) that is tenant occupied, but the owner inherited the property and doesn’t want to deal with the stress of landlording and wants to get the property off their hands.
The motivated seller is asking for $50,000, and the rental income for the given area based on Rentometer.com, Craigslist and other properties for rent of similar size and condition is $525 per unit (being $1,050 total), which matches the 2% rule perfectly.
Here is how the 50% rule comes into play. Take the rent for both units ($1,050) and multiply it by .5 to factor in expenses, then you subtract the mortgage costs (which include mortgage, taxes, and insurance) and see what you’re left with.
The formula for the 50% Rule is:
Gross Rent*.5 – Mortgage Cost = Net Profit
What each investor looks for in net profits may vary, but in general, investors can expect at least $200 dollars per door.
Now, if they’re buying all cash, they won’t have to factor in mortgage costs, and in our experience, your typical buyer as a wholesaler will be all cash, but if you happen to be selling to investors who are using traditional financing, you’ll need to factor that in.
For our example, we will assume that our clients are all-cash.
So, with this duplex, we have $1,050*.5 – 125 (estimating for our example that property taxes will be $500 per year and insurance will be $1,500) = $400.
So we are making $400 dollars a door, which seems like a good deal.
Next, we must determine our purchase price as a wholesaler.
If everything works at $50,000, we need to factor in our profit of $5,000-$10,000.
So, you them make an offer, all-cash at $40,000. The motivated seller accepts your first offer, and you purchase the property. You then sell it to your buy-and-hold investors for $50,000, and you pocket $10,000.
What’s In Real Estate Wholesaling, For You?
Now that you understand what real estate wholesalers do and how we make money, I want to share why I believe real estate wholesaling is one of the best vehicles to build wealth.
Wholesaling is simply a lot easier!
When compared to rehabbing, wholesaling properties is much less of a hassle than flipping properties.
Just think about it — wholesalers don’t have to deal with contractors, unforeseen rehab expenses or anything! It’s actually pretty sweet. All you have to do is find a property and then find a buyer. That’s it.
Secondly, it takes a lot less time to do a deal and you make your money faster.
In my experience, it’s typical to do 5 to 10 deals a month. Now, if I were flipping that many properties a month, I would need a full-time army to get everything done!
If you compare wholesaling to buy and hold, again, the advantage is making your money now.
Buy and hold is a long-term wealth building strategy, building up cash flow to provide passive income month to month.
Let me ask you this — if you’re looking to make $10,000 a month, instead of taking years to make it happen, why not simply wholesale two deals at a month? If each deal is $5,000, you’ll make $10,000 a month with ease.
Now you have an in-depth guide on real estate wholesaling!
What other questions still come to mind?
Feel free to write them in the comments section.