If you’re starting with real estate investing, you’ve likely heard the term “ARV” thrown around. ARV stands for “After-Repair Value” and is essential to understand because it can help you determine whether or not a fixer-upper is worth your investment.
Our guide will explain how to calculate ARV, when it’s useful, and other considerations real estate investors should know.
Who uses ARV?
After Repair Value is most commonly used by real estate investors working with distressed properties. Sometimes called house flippers, these investors buy undervalued properties and hope to profit from fixing and reselling them. ARV is a helpful tool because it allows experienced flippers to estimate how much potential profit they could make on a property if it’s adequately repaired and renovated to appeal to today’s buyers.
However, understanding the after-repair value is equally helpful for homeowners considering renovating their homes. By knowing the ARV, they can understand how much their home might be worth after making improvements and whether or not the investment is worth it. Running an ARV is especially beneficial if the homeowners are considering home upgrades in preparation for a home sale and want the maximize their selling price.
Lenders also use ARV when considering approving home purchases or improvement project loans. For lenders offering renovation mortgages, using the ARV can give them insight into the property’s potential value and help them determine the maximum loan amount they are willing to provide.
How do I calculate ARV?
After Repair Value is calculated by taking the property’s current market value (not the sale price) and adding the estimated value from planned property upgrades. Since real estate markets change, ARV estimates a property’s future value after repairs and renovations have been made based on current market conditions. It doesn’t account for any projected appreciation or shifts in demand. The ARV formula is relatively simple:
(Current value) + (value from renovations) = After Repair Value
This figure is essential for two reasons: first, it allows investors to gauge how much they should offer on a fixer-upper; second, it serves as a marker for the maximum amount spent on improvements. Spending too much on the purchase price or renovations reduces the investor’s profit margin.
Determining current market value requires real estate investors looking to buy a distressed property to use a multiple listing service to do a comparative market analysis (comps or CMA) for the neighborhood. This can be done online via sites like Zillow or Redfin or through a licensed real estate agent familiar with the area. Remember, the current value is based on the property’s as-is condition.
Once you’ve determined the current market value, the next step is to estimate the value after repairs. Gauging the renovation cost and added value is one of the more challenging aspects of the ARV. You can’t always preview these homes first, and there can be unseen issues. The good news is that you can use a few methods to project renovation costs.
The first is to ask a contractor for an estimate. This is the most accurate method but also the most expensive, as it requires paying for a professional assessment.
The second is to look at comparable properties in the area that have already been renovated. This will give you a reasonable idea of how much it will cost to renovate the property to a similar standard and what you stand to gain. Remember, your competitive market analysis should be:
- In the same neighborhood as the house
- Pull similar properties based on age, style, and metrics (such as number of bedrooms, square foot, lot size)
- Houses in upgraded condition
Pull at least three properties for a more accurate ARV.
Finally, you can turn to a realtor you trust who’s experienced in the local market. Real estate agents know what an area’s homes typically feature and what buyers are currently looking for. They’ll pull comps from the multiple listing service and advise on what renovations will give you the most bang for your buck.
What if you are an existing homeowner looking for an ARV to guide your renovation? Not only will they pull comps, but they’ll also consider the home’s current condition when determining value. The most accurate way to get a current value is to pay for a property appraisal.
Once you’ve determined the ARV, you can then use this figure to help you decide the offer price on a fixer-upper.
Applying ARV to find a good investment property
Calculating ARV is pretty simple, but how do you apply After Repair Value to find an excellent deal for house flipping?
Start by taking your ARV figure and deducting the cost of repairs and renovations. This is why real estate investors partner with general contractors and real estate agents. They have a better idea of the going market rates for home repair work.
Building a long-term relationship with contractors who do quality work at a fair price is vital. You’ll want construction professionals whose work you trust and who won’t delay any renovation work. Construction delays add to your bill and reduce your profit.
A real estate agent could estimate the renovation work, but their insight may not be as accurate as a construction professional. Their expertise is more in evaluating the investment property as-is.
Another method is to do your research online. Several cost estimators, like HomeAdvisor, can provide you with a ballpark for estimated repair costs. For this to work best, you’ll need a good idea of what kind of renovations the property needs.
Once you have a renovation cost estimate, you’ll deduct it from your ARV. Real estate investors can apply other investment metrics like the BRRRR method or 70 Percent Rule to determine what they’re willing to spend to purchase the property and how much profit they could make.
For instance, the 70 Percent Rule says to offer at most 70% of the ARV minus the estimated repair price. Applying this rule, real estate investors should walk away with a 30% profit. Lenders sometimes use the 70 percent rule to determine how much they’ll finance for an investment property.
Getting the bid price for the property under market value is critical for real estate investors working on fixer-upper properties to gain the most return on investment.
What are the drawbacks of ARV?
ARV is not an exact science, and several factors can impact its accuracy. First, ARV is a floating number. When you calculate it, it’s based on what is known about the housing market conditions at that particular time.
While real estate investors hope the market value appreciates while renovating the home, real estate markets aren’t always stable. The market value of properties can fluctuate over time, which is why fixing and flipping as quickly as possible benefits the investor. Changing interest rates and seasonality can wane buyer interest. As they say, strike while the iron is hot.
If you don’t pull the right comps, this can also impact your ARV estimate.
The most common challenge is accurately estimating repair costs. This can be difficult, particularly for first-time investors or when working with distressed properties.
It’s not always possible to tour or inspect a foreclosure or bank-owned property before its sale or auction. Buying a home sight unseen or as-is without property inspection is always a risk. Distressed homes can have unanticipated structural issues, like foundation cracks or termite damage, that can add thousands to renovation costs.
Even if you do get to view the home before making an offer, unanticipated issues can pop up. For instance, the basement could flood if a sump pump fails after unusually heavy rain. An inspector could point out code violations that must be fixed before permit approval. Real estate investors should leave a buffer in their budget for unanticipated expenses.
Despite these challenges, ARV remains a valuable tool for real estate investors. By taking the time to run an after-repair valuation accurately, they can increase their chances of making a profit on their investment.
Why is ARV useful?
ARV is a valuable guideline for real estate investors because it helps them determine whether or not a fixer-upper is worth their investment. By estimating the value of a property after repairs, they can gauge how much profit they could make and decide if the property is worth pursuing.
ARV is also a valuable tool for lenders when considering a loan for a fixer-upper. By understanding the potential value of a property after repairs, they can make a more informed decision about whether or not to extend financing. It can also influence what kind of loan package investors receive or if hard money lending is the best option for a house-flipping project.
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