Should the 70% rule be used in all areas?

Question

Hi All,

This is my first post as I am new to this site.  I'm not sure if this question has already been asked, but I live in Southern California where the median home price is $750,000.00.  It seems that to purchase a home, after rehab costs, for 70% of the FMV, is unrealistic, even if I do the repairs myself, as I am a general contractor.  Should the 70% rule be used in high end areas?

Matt Devincenzo · Answer

I think something to remember with ALL of the rules is a couple things, first what are the assumptions if any, second they may need to be tweaked for where you live, and third how are you supposed to apply it.

For my rule that I hate when people get wrapped around the axle is the 2% rule. Everyone say "I can't do that here", well duh if there are no 25K houses it won't work because that's one of the general assumptions within the rule.

For the 50% rule people go "if I buy at 90K and want 100/door casflow I need 1600/month in rent right? That's backward what is fair market rent, subtract 50%, subtract debt service then see what your cashflow is, not the other way around.

As @Aaron Mazzrillo  for wholesalers in Socal there are some wackadoodles willing to pay way too much for it so he sells it to them, the distinction is he would not himself work with those numbers. Just like I would never buy a rental here in San Diego, but if I had the opportunity to pick one up and flip it to someone who thinks they're "investing" sure I'd do it and I'll invest where things really cashflow.

Aaron Mazzrillo · Answer

Great question. I have found when I deviate outside of so called rules, I tend to lose money. If you want a 10% profit on a 100K house, why would you settle for less on a $750K house? More risk buying something that will eat you alive in holding costs if things don't work out. At least with a junky little $100K house, you can always rent it and make it work... At least here in SoCal.

Tim G. · Answer

I mean some people are shooting for a couple home runs a year, some investors don't mind hitting more but only getting singles and doubles.

If you can turn your money 5 times a year at 8% you are still getting great returns versus the guy who needs 15% and can only do it twice maybe three times if they are lucky.

Different strokes for different folks.

Matt Van Dyk · Answer

Thanks for the responses.  And thanks Tim for the 78-83% of ARV stat.  It does seem that there is profit to be made if you deviate from the 70% rule, but with the decrease in profits comes an increase in risk.

Tim, can you clarify "Singles".  I assume you mean single digit returns?

Matt Devincenzo · Answer

Ok maybe wackadoodle was not the correct expression. As you said for those with systems and capital to sustain the 20-30 homes a month level of rehabbing then they can afford to operate on what might be considered razor thin margins to anyone else.

I guess I should have stated that a little differently, that for the individual investor it is much much too thin usually. Fortunately(or unfortunately depending on how you are looking at it) prices here in SoCal are so high comparatively that making 6-8% on a flip is still a nice healthy payday. It's not one I as an individual would want to take on with that much money behind it to make it work, but like you said Tim if you have a business system that allows you to do it it is doable.

Tim G. · Answer

They aren't wackadoodles and they are making great money on their flips.

When you are doing 20-30 a month you can have a few singles, when you are doing 3-4 a year you can't risk those type of deals. They are big dogs with systems in place to do everything more efficiently than the little guys that is why they can pull it off. They aren't crazy, they are good.

Bryan R. · Answer

If I used the 70% rule I think I would get in trouble a lot. The 70% rule is just a quick and dirty rule of thumb. Make your own spreadsheet specific to your jurisdictional rules and your personal costs. Use that.

Tim G. · Answer

I can't tell you how to run your business but I can give you an example of how my market is reacting.

In San Diego and Orange County I am steadily wholesaling properties at 78-83% of ARV less repairs. I'm not on the rehabbing side and I doubt I would take on deals at those numbers myself but others with good systems, in house contractors and low fixed costs can.

Should the 70% rule be used in all areas?

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