What Investors Look For In Deals
In this article, I will be taking some time to go over what many real estate investors look for in deals. You should realize that while I am covering what MOST real estate investors look for, there are real estate investors who have very focused interests and may fall outside these parameters. It doesn’t hurt to establish a conversation with individuals from your buyers list to get a feel for what each person is looking for. That way, you will have more confidence when finding deals to wholesale because you know which investors would be most interested in that deal. In fact, a quick call to the investor or investors that you think would be interested in the deal BEFORE you put it under contract may prove to be a time saver in the end since you may, on occasion, find out that it’s not quite the deal you thought it was.
So, let’s get to what real estate investors look for in deals. They tend to look for one or more of the following:
Below Market Price
In the simplest form, investors want to buy a house for less than what it is currently worth. They want to get a discount. The bigger the discount the better, but in many markets the formula for buying houses at a discount is that the most an investor can pay for a house is:
70% of the After Repair Value (ARV) minus what the house needs in repairs. This is often called the Ugly House Maximum Allowable Offer (MAO) Formula or the Ugly MAO in investor jargon.
To explain that formula with an example, if you had a house that was worth $100,000 if it were in great shape (that’s the After Repair Value, abbreviated ARV), and it needed $15,000 in repairs to make it worth the ARV, then the most an investor should pay for that house is $55,000. Here’s how I calculated that:
- 70% of the ARV – Cost of Repairs = MAO
- 70% of $100,000 – $15,000 = MAO
- $70,000 – $15,000 = MAO
- $55,000 = MAO
Notice the phrase above “most an investor should pay.” Many investors want even better deals than being at the edge of that formula–especially in soft real estate markets.
It is also important to note that if an investor wants to buy at that price and you need to make a wholesale fee, you need to put the house under contract for LESS than that amount. How much less? Enough below the price the investor will buy it from you for to pay your marketing expenses and your wholesale fee. So, the answer to how much less is how much money you want to make in your wholesaling business.
Investors that buy based on getting it below current market value, are often fixer upper investors or investors that will be quick turning the property.
Positive Cash Flow
Investors that intend to buy the property and keep it as a rental are often more concerned about buying properties where the income from the property makes sense based on the price they are paying and the financing they can get.
While I don’t believe it to be a sound formula myself, a formula they often use is if the rent from the property covers the entire mortgage payment, taxes and insurance, then the investor has positive cash flow. You should consider reading additional articles on Net Operating Income for a much better analysis of what I believe to be positive cash flow.
So, if you use that formula and a financial calculator that you can pick up for about $25, you can calculate the most that an investor can pay for a house.
Let’s take a look at an over-simplified example, so you can understand the basics on how to do this calculation.
For this example, the house has property taxes of $75 per month and an insurance payment of $50 per month.
If you knew the rent for this property was $1,000 per month and that, by calling a local mortgage broker, the current interest rate that an investor could get for a loan on this property would be at 7%, then you can calculate the maximum payment that you could afford with a financial calculator. Using this figure, you can determine the most you can pay for the house with that payment. Here’s how to calculate the maximum payment:
- Rent – Taxes – Insurance = Maximum Loan Payment
- $1,000 – $75 – $50 = Maximum Loan Payment
- $875 = Maximum Loan Payment
Enter into your financial calculator the following and solve for PV (the amount of the loan in our case):
- N = 360 (that’s for a 30 year loan)
- PMT = – $875 (the Maximum Loan Payment)
- I/Y = 7% (the quote we got from the Lender)
Maximum Loan Amount = approximately $131,423 (you need a financial calculator to solve for this number).
So, with this example, the most your investor could pay to have BREAK-EVEN cash flow (and many investors want to make $100, $200 or more per month in cash flow), would be about $131,000. To wholesale the property and make a wholesale fee, you’d need to get it under contract for less than that.
I want to stress that the example above is an over-simplification and that there is a lot more to buying cash flow properties that you will want to learn.
Owner Financing
Some investors are seeking out investment opportunities where they do not need to borrow money from a hard money lender or a bank to purchase the property. They want to buy properties where some, or preferably all, of the money to buy the house comes from the equity the owner already has in the property. Another way of looking at this is that the owner is willing to accept payments instead of only a lump sum to purchase their property.
You may be seeking properties where the seller can finance all, or part of the down payment or where the seller can finance the entire purchase. There are many variations in what owner financing can look like, but here’s an example:
You agree to purchase a house for $100,000. The seller agrees to accept $80,000 in cash (that would be you getting a new loan from a bank for $80,000 and the seller receives that amount in cash from the bank) and will then accept payments on the remaining $20,000. Of course, you will need to negotiate the interest rate (if any), monthly payment amount and the term (number of payments) of how the $20,000 will be paid to the seller.
Another relatively common, but hotly debated, method of owner financing is buying houses “subject to” the existing financing, where the buyer agrees to make payments on the seller’s original mortgage–often without the lender’s permission. A discussion of “Subject To” is beyond the scope of this article.
Other real estate investors often offer owner financing to attract buyers that do not or cannot go to a bank to get a loan. Rarely do private sellers that are not experienced real estate investors offer owner financing out-right. To get owner financing from private sellers, you almost always need to ask for it and negotiate it. In other words, if someone is advertising owner financing, they’re probably investors and your chance of wholesaling the deal is low. To get owner financing deals you will need to show, through your salesmanship and negotiation what the benefits would be to the seller for selling their house and accepting payments instead of just getting one lump sum.
The More The Better
Finally, it is important to remember that investors look for one or more of the above criteria. If you can get positive cash flow, below market price and owner financing, that’s even better and the deal is likely to be more desirable for real estate investors.
While, investors tend to focus on finding deals that meet the above three criteria, the motivation of the seller is often what dictates your ability to get below market price, positive cash flow and/or owner financing. That is often why you hear real estate investors talking about finding motivated sellers. It is the seller’s challenge that is causing their motivation and your offer to purchase the house must solve their challenge to make it worthwhile for them to sell their property at a discount, with positive cash flow and/or with owner financing.
Until my next post,
James
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