Foreclosure Forecast Newsletter

Editor’s Note: Happy Holidays! This topic was last discussed in February 2006. The markets have changed dramatically in the last year (we are no longer in a hot market), so it is time to revisit this important topic. In last month’s article “Update: What’s it Worth? (Part 1) Setting Your Offer Price in a Soft Market” we started at the top. That is, before you buy a foreclosure to fix and sell for profit, you must first solve for your estimated RESALE price. Now in this month’s article (Part 2) I will review how to estimate YOUR COSTS (buying, fixing, holding, selling and profit) in a Soft Market. Then in January 2008 (Part 3) I will review how to pull it all together, so your OFFER PRICE guarantees your profit is built in when you BUY THE HOUSE! Enjoy!

Over the last few years the wealth created by real estate has been unbelievable. So many investors have made easy money. Most investors paid market value for their property and simply sat back and waited for the value to go up. Everybody boasted about how rich real estate has made them.

But today’s market is not the same – there has been a change.

Editor’s Note: Please tune into my current Live Conference Call for the state of the market details and more this Wednesday!

It is CRITICAL NOW more than ever, that you BUY LOW to lock in your PROFIT at your PURCHASE.

To wait (and hope) for appreciation will prove to be financial suicide. Many investors who don’t understand this will be washed out of the real estate market. I last saw this happen in the early 1990’s during our last housing downturn. I got better at buying houses cheaper, while my competition ran after their next “easy money” opportunity (e.g. the Nasdaq). And you know what happened to them after that….

But most new investors really don’t know what to pay for a property. They think if it’s in foreclosure, they’ll just give the seller as little as I can (like just moving money) and take over their loans, right? WRONG! You must know how to structure win-win deals to give your sellers the MOST you can! That way they say YES to your offer, and you get to buy more houses and make more money!

So where do you start? My offer formula is really simple. Just like in any business, I first determine the resale value of my product. We covered this in last month’s article. (You can read it here.) Then I deduct my soft costs (buy, hold and sell), my repairs and my profit. What is left is what I can pay for the house. It’s that simple.

You must confirm that your seller has enough equity (resale value less all existing loans and liens) so you can do the deal. If he does not, then you have a short sale and it’s time to refer it out to an agent who specializes in Short Sales. (More on Short Sales Here.)

Finally, your offer price must meet the seller’s needs (he gets cash at close of escrow to get a fresh start) so you have your win-win deal.

Editor’s Note: All of these issues (and more) are covered in detail in my Six Steps to Mastering Foreclosures CD home study course. Of course I will highlight the basics now in this 3-part series….

Now at this point you have:

1. Signed up for nationwide list access from Foreclosures.com (Free for the first 7 days).
2. Weeded your leads by Searching by Equity of 30% or more in your area.
   (A Foreclosures.com Exclusive).
3. Determined your quick resale value (Please review last month’s: “What is it Worth?”)

Now comes the important part. You need to account for ALL YOUR COSTS (from beginning to end) so you can determine what you should offer to pay for the property.

There are many costs to include when you buy, fix, and sell a house for profit. Most investors and agents only think of construction and sales commission expenses. But there is a lot more to this business. And I keep track of it all in an Excel budget file for each property.

Here are some of your costs (outside of construction):

1. Buying costs (title and escrow closing fees)
2. Operating costs (utilities, insurance, property taxes, maintenance)
3. Money costs (monthly interest, and hard money points when applicable)
4. Selling costs (advertising, marketing, commissions, concessions, title and escrow closing fees)

In my typical deal, my “soft costs” alone can range between 10-25% of the Resale Value. The reason for the large variance is due to these factors:

1. What is my source of financing? (‘Subject to’ or a Hard money loan?)
2. How long will I hold the property?
3. Am I in a hot or cold market?
4. How hard is it to sell houses in my market?
5. What additional expenses will I have to find a buyer for my house?

In our past hot market, our buying formula was running 70-75% because:

1. We used “subject to existing loans” financing to buy. It is our cheapest source of money with no points or loan related fees.
2. Our hold time was 3-4 months tops.
3. There was not a lot of competition when we sold (the MLS inventory had less than a 6 month supply).
4. We had little to no selling expenses (FSBO worked fine, there were plenty of buyers).
5. We factor 10-15% for Soft Costs (buying, holding and selling).
6. We solved for 15% profit off the resale value.
7. To summarize, in a hot market we can afford to pay more for a house!

In our current soft market, our buying formula is now running 60-65% because:

1. We still use “subject to existing loans” financing to buy. It is our cheapest source of money with no points or loan related fees.
2. Our budgeted hold time has lengthened to *6-8 months. (*You should price your property to sell and never hold it this long. This allocation is for cushion only.)
3. There is a lot of competition when we sell (the MLS inventory is running over a 10 month supply now).
4. We have many selling expenses now. (Need a Full Service listing agent. Offering bigger commission to Buyers agent. Offering incentives and referral fees to find buyers.)
5. We factor 20-25% for Soft Costs (buying, holding and selling).
6. We still solve for 15% profit off the resale value.
7. To summarize, in a soft market you must pay less. But we have a lot more motivated sellers to work with now! (Foreclosure filings are up 100% over last year.)

Editor’s Note: In my “Mastering Lab” program, after we tour a foreclosure property, I give each student a copy of my working Excel file on that property. It includes all my cost formulas built in. This allows them to have a working budget in place, on every offer they make, with the confidence that the deal will be profitable. This has been a huge jump-start for my clients when they return home from the program.

Next, you must decide what repairs will get you the most “bang for your buck” and how much it will cost you (versus what will you gain in resale value), and deduct those costs. They vary greatly based on the age and condition of the home and how well it will compete with other homes on the market when it is time to sell. I will cover that, plus why I use a General Contractor and how I found him, in next month’s column.

Finally, don’t forget your 15% profit!

Always make sure you budget 12-18% of your resale value (or $30,000 minimum) on every deal. Your profit budget is important! Sometimes things go wrong. What if your costs exceeded your budget? What if your hold time was longer than expected? What if you had to lower your price to sell? All of these items will come out of your profit budget. So do never make your profit margin too thin! You have a risk, and you must be rewarded for it!

Let’s pull out our calculator and see how this all pencils out:

1. Determine Your Quick Resale Value (as described in last months article)
2. Deduct: Soft Costs (Soft Market Factor 20-25% of Resale)
3. Deduct: Repairs (In next months column)
4. Deduct: Profit (15% of your Resale)
5. What is left = Your Offer Price to the Seller
6. Deduct: Loans, Liens and Cash to Seller (to stop the foreclosure)
7. Net left = Cash to Seller at Closing for their Fresh Start

Now you know the basics of “What Does it Really Cost?” so your offer makes you a handsome profit and provides cash to the seller at closing. The key is finding a motivated seller who wants your cash and services more than they want to keep their property and doing the business “the right way.” Too many investors try to copy from those who haven’t mastered it themselves. Be wary about whom you’ve selected as your mentor.

Editor’s Note: Stay tuned for next month’s article “Update: Determining Your Rehab Costs. Part 3 of 3: Setting Your Offer Price in a Soft Market” where we will pull this all together.

Have a GREAT HOLIDAY and here’s to making 2008 our Best Year Ever!