WHOLESALING IS DEAD?!?
A message and lesson from your friendly ally from San Antonio, Texas:
Let me first preface, this is going to be a VERY LONG READ... I am hoping to accomplish by adding value in what I share. Everyone has their perspective… There is more than one way to skin a deal, however, I have been around the block many times over and this is just my take on the subject.
There are things that must be said, because somewhere along the way, a few rules have become skewed and many times it seems as though there is an elephant in the room that no one wants to address.
I have been in this real estate arena (see my short bio) for quite a while now and have contributed to this original post specifically on a few occasions. I may not know everything, but I know what I know and I know what I don’t know… If that is even worth two cents.
With that said, let me give you the REAL TRUTH ABOUT WHOLESALING.
Let us see if we can get to some of the truths in the aspect of the business.
Can wholesaling be done legally? Yes.
Can you make a living at it? Yes, however it depends on, at what level, market, and scale you want to desire to.
For the majority who provide wholesaling, it can fill in the gaps.
Are many wholesalers dishonest?
I believe, quite a few are, but most are either inexperienced or just do not want to put in the work by educating themselves as they should.
In this business, Joker Brokers and Daisy Chains are forbidden.
In other words, not conducting the due diligence needed to capture "real" deals is like the blind leading the blind.
What good is your grind if it is done in blind?
There are some excellent wholesalers, however just not enough.
So, who is to blame?
Is it the inexperienced investors or the over-promising inexperienced wholesalers or the calculated greedy wholesalers?
I am giving you a perspective from all sides, but there is no other side I will empathize with more than the investor.
I am not an attorney; however, I am a Real Estate Investor and a Realtor.
I have experience in most aspects of real estate, primarily as an investor.
The examples I provide below may be adjusted based on market and numbers... Sometimes a deal is contingent on the terms, circumstances, or exit.
Let us begin.
There are advertisements that state, "Wholesaling is dead!".
There are also, a plethora of videos that will provide an incomplete break down and process of the analysis of a so-called deal.
To set this up… Imagine a wannabe baker trying to bake a cake, yet in their recipe, they leave out the eggs & sugar... When it comes time to sell you this phenomenal “chance of a lifetime” cake, they fail to mention, their cake is incomplete. However, they are willing to wholesale this cake to a potential customer who could sell or share it with other clients, customers, family, or friends. At the end of this story, the customer learns very quickly, they bought a dud and eventually have egg on their face.
What many investors are typically seeking who fix & flip, are profits ranging between 20% to 30% on each deal. Some will even need 35% to 40%, usually contingent on their Hard Money Lenders (H.M.L.).
Does it mean that it is true for all investors? Of course not.
It may also depend on their exit strategy, most importantly their cost of money such as Hard Money vs. Private vs. Liquid vs. Group Funding vs. Inheritance vs. Line of Credit, etc.
The cost of money will typically determine what an investor's threshold is when it comes to investing.
If a buy & hold strategy is the intention, then profits may be as low as 10% and under. It truly depends on the rehab amount (if any), rent rates, the market, and the population/demographics of the area.
Now when using the 70% Rule, a rule that many investors use, adhering to this rule will most likely, cushion the deal providing that protection first, then profit.
Now there are strategies that may omit the 70% rule.
Here is an example of when a 70% rule becomes obsolete:
A person comes to me and says he owns a home with a $100K note on it. Through my due diligence, its Fair Market Value (F.M.V.) is comp'd at an average of $100K, and the rent rates comp out at approximately $1K/month. He is being deployed elsewhere and wants to get rid of the mortgage. I may negotiate a Sub 2 with Zero money down and take over payments.
But NO EQUITY-NO PROFIT?!!!?
Now, this seems to break my rule based on the following…
- Pretty house? Check!
- Motivated seller? Check!
- Flexible seller? Check!
- Meets at minimum, the 1% rule. Check!
This deal looks much better, yet maybe I decide to eventually sell it to a buyer who may have less than perfect credit and who can place a 10% to 20% down payment. Maybe I decide to sell it by increasing the sale's price (based on future appreciation) @ $110K to $120K... I can make quick money upfront, I can create a note that is several percentage points above the original interest rate and make the spread, and if there is a difference in balance (equity created), then I can collect those funds on the refinance... And so on.
The point is when using creative financing techniques, then I can break that rule. Why? Because I have a motivated and flexible seller who although has no equity, is willing to make the deal happen. Especially, a little to no money down deal.
Now my #1 rule is finding sellers who are motivated and flexible first, then the numbers.
You could have the best deal with the best numbers, but if the seller is firm or hard to work with, the deal may be dead in the water.
Yet, on the other hand, the numbers with little to no equity may be similar to the example above.
The key is motivation & flexibility.
However, I typically abide by the 70% Rule. Some will scoff at this rule of thumb... Not I.
Can I adjust it? Sure.
It is contingent on the circumstance and investment side of it... As in, the amount of time, money, and energy I invest in.
The problem is today’s markets are saturated with newbie investors who eventually will end up buying a lot of these bad deals.
This is what I call, the "Circle of Flaw".
Let's dive further into this 70% rule...
There are way too many wholesalers who are using in what I call and coin the "Millennial" 70% Rule vs. 1990s aka "Old School" 70% Rule.
Millennial Rule: Many if not most new wholesalers will minus Repairs and their Fee-only from the ARV.
What is the next step? Well they will get newbies to nibble on the bait, who many will eventually bite on those deals.
Who is to blame? Maybe it is a seasoned wholesaler who is preying on the new investor and fluffing up a deal that otherwise, no one would buy. Maybe it's the newbie investor not conducting the due diligence or worse, not educating oneself to see those red flag deals.
Unfortunately, this is not what seasoned investors are searching for who are typically flippers.
Now with that said, there are investors who may exceed +/- the 70% rule. An example would be, buy & hold investors whose money is at a lower cost.
The truth of the matter is if you are a wholesaler who has integrity and once you have a solid group of buyers on your digital Rolodex; you should learn their cost of money.
This will assist in which deals should be delivered to each investor. This will increase your chances of closing at a much higher rate.
The bottom line, here in the example below is the 1990's version of the 70% rule:
- Profit is minus 30% from A.R.V. (may also include protection within cushion)
- Holding Costs is up to 6 months (P.I.T.I. + Utilities: electricity, heating, water, and garbage. - up to 6%)
- Acquisition & Sales costs (Closing Costs between 2%-5% & Commission up to 6% = between 8%-11%) which equates to approximately 47%.
I use this 47% formula and minus repairs on most deals to get my Maximum Allowable Offer (M.A.O.).
Could I use a 50% formula? Yes. However, it will be much more difficult to find deals that can meet that threshold. Keep in mind, repairs must be subtracted post-application of % you take from A.R.V.
Could I use a 37% formula? Yes
Now onto the example below…
Please Note: Example does not include seller concessions or discounts on sale's price, which for the investor, may become a burden if the original deal was not negotiated with that in mind. Subtracting 10% for retail sale closing costs and or concessions may be a good practice, as most buyers will not pay 100% of listing price during a steady or buyer’s market ( slow season), or if it is in a so-so location, or of the poor condition of the property or as with recent circumstances today (w/CoVid 19).
Again, it depends on various factors including your market and you should know this before making an offer.
"You make your money when you buy/negotiate the deal/property, not when you sell it"
The quick & dirty formula I created I use the majority of the time is as follows:
ARV - 47% - Repair Costs (if a wholesaler? Then minus fee) =
Maximum Allowable Offer (M.A.O.) *
JUST FOR ILLUSTRATION PURPOSES ONLY.
I.E. Distressed Property:
$150,000 (ARV)
-
47% (30% = Profit + 6% = Holding costs + 11% = Acquisition & Sales costs)
=
$79,500 (subtotal)
-
$29,500 (I.e. Repairs)
=
$50,000 (subtotal)
-
$10,000 (Wholesale Fee - May have to be adjusted) **
=
$40,000 (M.A.O.) ***
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* The 47% (includes 30% profit) may be adjusted to a 20% profit instead... If repairs are not too extensive (as in no majors .i.e. Roof, Plumbing, Electrical, Foundation, or HVAC sometimes an entire Flooring can equate to major cost), or maybe there are other intangibles which make this worth the risk. I will then adjust my formula to a possibly 37%.
** Trying to kill two birds with one stone. From a wholesaler's P.O.V. (yet, it is a fee I normally deal with considering I find most of my own deals... Yet, I'll incorporate it in this example as if I was the wholesaler).
*** If we use the millennial method, we will be off 17%. Not to mention, that M.A.O. should include Cash for Keys costs (in the event the property is in distress and the owner is needing motivation).
When a wholesaler has a "REAL DEAL", it will be extremely easy to sell.
Most importantly, your reputation will continue to grow as this is an exceedingly small arena, we are in the real estate business.
Once you (the wholesaler/investor) have FIXED and FLIPPED a few properties... This coaching provided should definitely hit home and make sense.
Unfortunately, many wholesalers, and there are a lot of them... Are looking for just a payday and will do anything to get ahead. Even if it means they are willing to crack 100 eggs just to make one scrabbled egg (not an omelet).
This goes for Wholesalers, Investors, Realtors, and my favorite; sub-contractors who are many, seem to always try to find a way to con someone out of their money while doing shoddy work.
The point: Try working with people you trust. It will be incredibly challenging to say the least, otherwise.
Again, the primary purpose is to educate all parties involved.
Look, if you have a shark swimming in the waters and there are poachers dangling rotten fish in the shallows with blood oozing from its gills... The shark will make its way to investigate and possibly interact if it is starving. But if it is a seasoned shark and it understands the shallows has the potential to beach it. Then the risk most likely will not be worth it.
Let's use a young killer whale in the same scenario. It may be willing to take more risks... Result: It gets beached and now it is at the mercy of its environment struggling to stay alive.
Now is it the party's fault who purposely play in the waters hanging their nets with bleeding fish-attracting these inexperienced whales?
Maybe. It depends. Usually, they will rationalize it as “trying to feed” their families.
So, who is to blame?
The problem is the markets are saturated with newbie investors and they end up buying a lot of these bad deals resulting in the "Circle of Flaw" which is repeated over and over again.
Most wholesalers (not all) usually don't know what they're doing and continue to sell or try to sell mostly bad deals to inexperienced real estate investors who are itching to close a deal.
Their greed for that big payday many times is actually more than the other parties involved are making in the deal.
You can always tell what kind of deal it is when it is discounted by the thousands upon thousands when the "so-called deal" has not sold or when they are running out of time.
Let me place it in another light. Most businesses in one way or another, wholesale.
Yes, I love capitalism, but at what cost? Is it every man or woman for themselves, or should it be all parties winning?
If I buy a pallet of water or toilet paper during a crisis and shortage, and I charge five to ten times the typical amount normally charged, I would be crucified on the entire internet.
My point, there are many wholesalers, some out of ignorance who have learned through YouTube (some channels), Social Media (i.e. Facebook Groups), or through other parties regurgitating bad info.
Then there are the others who are like used-car salespersons who see an opportunity to capitalize at the expense of the inexperienced.
So, who's to blame?
Maybe the onus is on both... But remember my water/toilet paper example.
I regress...
With that said, there is another 70% rule mentioned that is now making the waves on the internet. It will take the "Millennial" 70% Rule... With the wholesaler going back to the seller a few days later to renegotiate an additional $15K off the deal.
Apparently, the $15K below the skewed M.A.O. is for two reasons... Cushion and padding of the wholesale fee.
This may work on some occasions, especially if it is just cosmetics... However, if you have a house that at minimum needs to replace and repair entire floors, it still may not be enough of a cushion.
Another occasion it may work is when A) the buyer does buy & holds, which even though the numbers may be skewed, the rents may offset the so-so deal and/or B) the repairs are less than 15% of the A.R.V... preferably closer to 10% and under. Outside of that, the deal most likely is a very painful lesson for the inexperienced investor.
The bottom line, you want to close deals with integrity, and with a positive reputation.
In other words, incorporate all the numbers otherwise, you will end up only closing a deal or so often because your contracts are not real deals, or those investors will spread the word.
Greedy Wholesalers! You know who you are. If you are stacking and smashing that wholesale fee (great for capitalism) but at the expense of a new inexperienced investor (shame on you) ... May your repeat and referral business be limited.
I have crossed paths with a plethora of investors who break even after three to six months of work or worse, even buy (initial purchase) into a distressed position (upside down) losing money immediately. Ultimately, doing so forces their hand of not being able to refi terms and/or cash out.
I still believe you should adhere to the Old School 70% rule for rehabs that are not easy and/or labor-intensive.
If your cost of money allows for an 80% deal (a true layup light rehab), then go for it.
If you are a new wholesaler or investor, solidify and secure a vetted GC/sub-contractor relationship... Especially, those who are willing to bid on projects in detail outlining the pros and cons of the rehab.
The 70% rule is not the end all be all, however, it is the maximum rule I still use to remain safe. Regardless if it is a cupcake rehab of a property.
Another thing for an investor to consider: What if any, is the next exit strategy if the first exit strategy falls apart or doesn't come to fruition?
The market can shift. Hence, the Corona Virus, a great case in point.
I know of real stories where the market shifted and investor friends of mine had their money tied up for years. Yes, there are options to release the money, but real estate financing still evolves.
What if the Federal Reserve increases interest rates...?
Would that shift the market? Absolutely!
What if lenders (investor-driven) tighten up their guidelines due to uncertain circumstances?
Sound familiar?
The point for me is, "Greed Kill Deals"!
Please, make a fair profit and build that relationship with those buyers.
Now let us look at this from another angle… Does the wholesaler have the right to earn a living? Absolutely!
However, greed suffocates deals that may have little to no meat on the bones.
It all comes down to using the numbers to create a win-win deal for all parties involved.
Let's go a step further... Assume in an extreme hypothetical: A wholesaler found a pretty property for $1.00 (one dollar) & it had an A.R.V. of $200K. Let's also presume the property is in a healthy market and decent location and the wholesaler wanted to sell it to me for $100K...
Would I buy it?
Hell, to the yeah, I would!!!!
Is that greed?!? No… That is love!!!
Now on the other hand, if a wannabe wholesaler is trying to sell you, a bad deal that supposedly meets the 70% rule, when in fact, it is a 100% dud... Then, that is greed/ignorance and that kind of play will not get very far in this business.
As mentioned earlier, I'm a buyer, and even if you have a "decent" deal today, yet previously, you brought me a bad deal after a bad deal, more than likely, I am going to pass on your decent deal.
Why?
I cannot trust your integrity. I don’t base it on just the numbers. I do my own research and conduct my own due diligence... Integrity is based on reputation and patterns. If a greedy wholesaler has a pattern of padding the comps or numbers, it is over in my book.
Relationships, relationships, relationships!
That is going to make you consistent money all day most days.
Here was a post I came across on a Facebook Group that wrapped it up in a nutshell:
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The problems with wholesalers - From a cash buyer's perspective.
First let me preface this post by saying that I’m not trying to knock this profession! I am posting it to help you all better understand how to bring value to your cash buyers, and thereby form better working relationships (and accordingly make more money for you BOTH).
I am a cash buyer and get approached by wholesalers with “deals” all the time. Why the quotation marks? Because 99% of these deals are not deals!
Why is that?
Here are some possibilities.
1: Your ARV is wrong.
You absolutely must understand how to run comps and adjust to come up with a competent estimate of ARV. When you have it, do NOT pad it to make it rosier when you send the offer out to your cash buyers. They will know! This makes it look like you either do not know what you're doing (not good) or that you're intentionally trying to mislead your potential buyers (also not good).
2: Your repair costs are wrong.
You absolutely must understand the costs involved in rehabbing a property. If you can find an investor willing to allow you to shadow them for the full duration of a flip or two (or ten), do this! I can guarantee you that there are a hundred things that go wrong (and all cost money) that you never would have even dreamed of if you haven’t been through the process.
3: You don’t understand the other frictional costs involved with selling a property.
I spent some time a couple of days ago explaining to a wholesaler why selling a property for $450k when you’re into it $370k does not net you $80k. Commissions, escrow fees, title fees, transfer taxes, etc. all eat away at this margin significantly. Once again, when you send out property offerings with profit projections that don’t account for these things, it makes it sound like you don’t understand the process, or that you hope that your buyer doesn’t understand the process. You need to paint a real picture, or you lose all credibility.
4: You attempt to take all the juice (meat) out of the deal with your assignment/wholesale fee.
The service you provide is valuable, but attempting to make as much (or more) on the deal as your buyer who is putting up tens or hundreds of thousands of dollars, remodeling the property over months and then selling the property over months more, all the while with their capital at risk and subject to market forces, is not going to fly.
In short, you need to know when a deal is a deal and produce honest and competent estimates so I know when you call to present me with a “deal”, that it’s actually going to be worth my time to pick up the phone. Throwing a bunch of crap at the wall and seeing what sticks is not a strategy that’s going to work with serious buyers. We have too much going on to weed through the 99 out of 100 duds that get presented to us and will quickly just stop taking the calls / reading the emails. You need to be that filter for us!
Do this well, and your calls will be cheerfully received every time (and you will sell all your offerings).
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This post is similar to what I preach daily, and the primary purpose is to educate not only the investors, but the wholesalers as well.
My main objective is to bridge that gap so we have better practices and more educated wholesalers who do want to earn an honest living.
Lastly, Is Wholesaling Dead? Of course not. We just need to make sure we are all on the same page, otherwise, we will keep missing the mark. Please, no more “Circle of Flaw.”
I hope this helps and assists you on your journey in real estate. It can be fun, but it is always hard work, even when you have systems in place.
Please like or vote if you agree with most of this… If you have any questions or would like to make suggestions, please feel free to add below or message me anytime.
Your Real Estate Ally,
“Big” Henry
San Antonio, Texas
Sorry, Will Barnard for this long one... But you know it has been a while since I've added my two pesos.