Real Estate Godesses Guide to Wholesaling

I’ve been listening to the Real Estate Godesses Guide to Wholesaling that is found on this website and she has a formula for figuring out what is the maximum price you should offer to a seller when putting together a deal.

For houses that are $140k or above in ARV, she states

  ARV
-$40k (investor's profit)
-Repair costs
-Your whoelsale profit

=Your top offer

How does the closing costs and all the other miscellaneous expenses factor into this equation or is it excluded because investor’s don’t really care about that kind of information?

I’m trying to learn how to wholesale and I would like to know what kind of information do investor’s typically need in order to decide whether or not they want to purchase the contract from me?

From the Goddesses’ explanation, she recommends doing a termite inspection and title search (how do you do a title search?) which are typically paid for at closing and not something that I would have to fork over any money for upfront. If these things are going to be paid for at closing, how do I set that up? Do I have to go to a title company and open up an escrow account or something?

She also recommends doing a comps report and repair estimates report for your investor buyers.

Do these sound like the typical information that I need to gather in order to wholesale? Is there anything else that most investor’s require?

I keep hearing that wholesaling is simple but since I’m very, very new, it just seems so difficult for me to even take my first step. HELP?!

Are you generally going to work with smaller 2-4 unit buildings, or larger 16+ unit buildings?

There are four ways to make real estate appealing to an investor:

Passive Appreciation
Active Appreciation
Cash flow
Tax Benefits

Depending on an investor’s strategy one of these may weigh more heavily than the others. Some investors are hell bent on cash flow and are willing to realize much lower appreciation rates. Conversely, some investors are willing to forego cash flow altogether so long as the appreciation rate is excellent. Tax benefits can be a real bonus, and there are whole books written on maximizing the tax benefits of real estate.

So to answer your question directly, you should create something called a Value Appraisal Form. An investor will be hella impressed if you have this form filled out completely and accurately. While it’s tempting to skew the numbers in your favor, don’t. Do not inflate anything to show what amounts to false returns. If an investor thinks your fudging the numbers he won’t take anything you present seriously. As stated earlier, the bigger the investment the more thorough a presentation should be. If the unit is only a 2 unit duplex, then perhaps all you’ll need to present is a COCR (Cash on Cash Return). COCR, while important, should never be used solely, especially on larger properties.

*Property purchase price
*Expected capital growth rate (Cap rate)
*Any renovation/conversion costs (figures out active appreciation)
*Closing costs.
*Rental Income
*Vacancy rate in immediate region
*Inflation rate of expenses and rent
*Mortgage interest rate, fees, and structure (ARM, fixed, interest only, etc)
*Property management fees, maintenance, repairs, etc
*Property taxes

The other information needed will depend on the specific investor’s income (taxation) level and business structure.

At the very least have the specific property’s COCR, Cap Rate, and NOI (Net operating income). The latter two are more important.

You should also know if the property is seasoned or not, which will directly affect the LTV amount a bank will loan on it.

I deal with Single Family Residences that are in preforeclosure status here in California.

So how would the information that you provided apply in this case?

It wouldn’t, at all. S.F. residences aren’t generally considered investment properties. You’d likely be trying to sell the contract to a rehabber as opposed to a true investor, who generally holds onto properties for at least 2 years.

If selling to a rehabber you’ll want to have very accurate comps in the immediate area… recent comps only going back a few months. You’ll also want to know the average DOM (Days on Market) time, as it’ll directly affect the bottom line. If the DOM is 180 days the holding costs (property tax, insurance, water, electric, gas) could easily turn a profitable deal sour.

Rehab costs can vary drastically depending on the level of rehab desired. If it’s a $600,000 house a generic, cheap rehab may actually hurt the value, not enhance it. At the same time it’s also possible to over-improve a property, sticking too much money into it with no real chance of recouping it.

With the market shifting nationally to a buyer’s market (with already over-inflated California leading the way) you may have a hard time selling the idea. Federal interest rates continue to rise and with each raise it makes houses that much less affordable.

Personally, I will not be buying any more S.F. houses for investment purposes, rebabs or otherwise, for the next year or so. Investment properties, on the other hand, become very appealing as rent amounts rise along with the interest rates, historically. Consider shifting your area of expertise to investment properties, as I am willing to bet more and more investors and speculators are going to stay away from S.F. houses for now, until we see where the interest rates level off at and how it affects the real estate industry.

Thanks for the great information. Something that I must definitely have to consider. But wouldn’t rehabbers want to hold onto the property once they fix it up as a rental property during a slower market? Especially in California, once the market picks up again, you can earn huge equity here than in some other states so even in slower market conditions, wouldn’t investing in SFR’s still be a good deal?

How do I go about finding investment properties?

I’m not really sure why Visual_Underworld thinks rehabbers aren’t investors.

Anyways, to answer your question, personally when I do a wholesale deal I don’t worry about closing costs or a title search. After I assign my contract to my investor/buyer he/she takes it to their lender and/or title agency and the title search and closing costs are paid by them. That’s just how I do it though. If you start running into a lot of properties that have title problems you may want to start doing title searches ahead of time. They only cost $100-200 depending on where you live. When I have a contract to buy I usually have it assigned and sold the same day so there’s no time for a title search beforehand.

Just call investors on your buyers list and ask what they expect from someone that they’re going to buy a contract from.

So what kind of due diligences do you do after you put a deal under contract but before you assign it? Comps, repair estimates, etc?

Rehabbing and then selling is what the IRS defines as a “Real Estate Dealer” or “Real Estate Developer”, not a Real Estate investor. For that reason I made the distinguishment . Perhaps I should have made a better distinction, such as a Passive Investor and an Active Investor. Someone working in rehabs would qualify as an active investor, whereas the ones who sole contribution is financing and getting a return on those funds would be a passive investor.

Tax-wise, being a R.E. dealer or R.E. developer isn’t a good thing. If you’re found to be a real estate dealer you’ll:

Pay ordinary business income taxes as opposed to capital gains (25-35%)

Pay self-employment taxes in addition to the ordinary income taxes (tack on another 15.3%)

Cannot take depreciation.

No Starker (Section 1031) tax deferred exchanges allowed.

If you substantially rehab, divide land, or build new construction properties before putting them into service (renting them out) then you’ll be deemed a Real Estate Developer by the IRS. All holding costs, labor costs, acquisition fees, construction materials and basically every other cost of doing the rehab will need to be added to the basis of the property as opposed expensing it in the same year. This means that it will take 27.5 years for residential and 39 years for commercial to recoup the costs of improvement via standard depreciation.

I am not a god in R.E. tax law but I definitely am aware of things such as this so that I can make educated buys and not give away 50% of MY profits to Uncle Sam so we can go and fight wars we’ll never win on the other side of the planet.

Many of these costs/taxes can be lessened if you have the right business entity in place and fully understand the tax law, so I’d recommend a good CPA trained in real estate taxes.

So basically, before I even do my first wholesale deal, I should open up something like an S-corp or an LLC?

And how do these entities help in mitigating Uncle Sam’s grubby hands from robbing me?

An S-corp or a LLC electing to be taxed as an s-corp is probably the way to go if you’re going to be buying and selling real estate, as S-corporations do not generally incur the Self Employment tax. As importantly, conducting business under a business name as opposed to your own helps to shield you and your personal assets from creditors and potential lawsuits. If you are conducting business under your soc. sec. number then you’re operating as a sole proprietorship and any business debt or lawsuits will be your own personal responsibility.

If you’re like most people you’ll do both rehabs/flips/wholesale deals and also wind up making some long-term holds as well. You should have two businesses set up, one for the short-term rehabs, flips, and wholesale deals and the other one exclusively for the long term holds. That way if the IRS does look into your business history they will not deem you a Real Estate Dealer/Developer for your long term holds as well. In the tax system the burden of proof falls on you to prove that you weren’t a dealer or developer. Essentially, you’re guilty until proven innocent.

There’s another forum on this website dealing in Asset Protection and Income Taxes with some very good information that you should know before you go into business. The IRS can and will go back over 5 years in an audit and if you didn’t do things according to their rules then you’ll be facing a lot of back taxes, late fees, and perhaps even fines.

Yes comps and repair estimates are about all I do. I make a spreadsheet of sales comparables for every property I look at with information such as beds/baths, price sold, date sold, and $/sqft.

Repair estimates I just do in my head. It takes practice, but you’ll get the hang of it.

How about holding expenses or hedge expenses or closing costs? Is it necessary to provide this information into your package that you will be assigning?

Are pictures of the property necessary as well or do the investors usually like to visit the property and inspect it anyways?

Holding costs are something that occurs while you own a property. So, that is irrelevant in wholesaling.

I’ve never had to worry about closing costs. My buyers pay them regardless. It may vary from area to area and from buyer to buyer though.

I don’t worry about pictures either. Your buyers will just want to see the property in person most likely.

Great,

so basically the information that I need to gather for my buyers are

1. Comps
2. Repairs Estimate
3. Their profit
4. My profit
5. Title search

Do I have to contact the seller’s bank and get their mortgage information? Since I deal with preforeclosures, I would need to get the default amounts.

Anything else?

Wouldn’t the title search reveal mortgage info?
From your formula, whatever they owe may not make a difference unless it was up-side-down.
You would have to know that info though in order to see if the deal was worthwhile. You could get an authorization from the seller to contact their mort. co.

Well $40k profit calculated is great when wholesaling but most hard money lenders use percentage in their calculations so other guru’s use this formula:

ARV - 30% - repairs/closing costs/Assignment profit = Your purchase price MAX.

Most hard money lenders allow 65% - 85% LTV, charge points up front and have high interest rates. If you are able to purchase this low then you are 0% out of pocket expense if you decide on rehabbing the property yourself also if you show this to another investor you are almost guaranteed any “rehabber/investor” will purchase it for your assignment fee. But you should always be networking and finding people for every aspect of the deal. As Steve Cook says you should control the deal from beginning to end until the deal if finally closed and you have your check. Find hard money lenders for your buyers just in case. Since you could get burned at the closing table then you would be on the hook to lose your Ernest Money Deposit especially if the deal went south. But I know other investors will not let that happen and will line up multiple buyers as a backup.

REIman - I like that formula and am using it. I agree with your post. Thanks!

ARV - 30% - repairs/closing costs/Assignment profit = Your purchase price MAX.

That sounds like a HUGE discount. The houses that I work with are around $500k ARV. Taking 30% from that brings the house down to $350k which is huge and most people in foreclosure don’t have that much in equity to discount it that far. And then from your formula I have to knock off even more for repairs and etc?

I thought the 30% already included the repairs/closing costs/profits? Am I missing something here or am I not looking in the right places?

That forumla is the one used by the Goddess Guide. I guess if that formula doesn’t work out, you need to pass onto the next house or re-evaluate what you and your buyer need to get from it. Most wholesalers want to make 30% and that formula deducts repairs and your assignment profit. The wholesaler you sell to - will then either mark up the property again or do the repairs - either way he likes to have that 30%. Did you listen to the free audio available here? It explains the whole thing.

Just an aside … how can 30% of the ARV include repair costs? They are a variable and affect your final bid price.