Are you interested in purchasing a property to renovate and sell for a profit? If so, you will need to know all about the property’s after-repair value (ARV).
ARV is an important figure used to determine the potential profitability of a real estate investment—especially in the context of house flips and property improvements.
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Read on to learn the factors that influence a property’s ARV, how to calculate ARV and tips for accurately estimating the value of your project post-repair.
What is a property’s after-repair value (ARV)?
ARV is an estimate of a property’s value after all planned renovations, repairs and upgrades have been completed.
While the current market value reflects the property’s existing state, ARV evaluates the property’s post-renovation worth.
Investors determine ARV by carefully analyzing comparable properties—often called “comps”—in the surrounding area with similar features.
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Why is ARV important to mortgage lenders and investors?
ARV plays an important role for both mortgage lenders and investors.
Let’s look at how lenders and investors use this figure.
Investors: Understanding potential profits
ARV helps real estate investors determine whether purchasing a property is worth the time and money.
By estimating ARV, investors can calculate the potential return on investment (ROI) and the maximum allowable offer (MAO), the highest price they should pay for a property while still earning a profit.
Mortgage lenders: Determining loan risk
Mortgage lenders use ARV to evaluate the level of risk associated with financing a renovation project.
ARV helps lenders decide how much to lend based on the property’s future value once renovations are complete, ensuring their investments are secure and that the investment matches the potential value of the improved property.
Factors that influence a property’s ARV
A property’s location, condition and type of renovations all impact its final valuation.
Let’s break down these factors so you can make the best investment decisions.
The property’s condition before and after renovations
A property in poor condition has greater potential for a significant ARV increase than one that only needs minor repairs and updates.
Ultimately, the improvements you make determine how much value the property gains.
Comparable properties (Comps)
One of the most useful methods for estimating ARV is looking at similar properties in the area.
Comps reveal what buyers are willing to pay for homes with similar features.
Renovation scope and quality
Additions and significant upgrades, as well as the use of high-end materials and quality craftsmanship, can give ARV a major boost.
Market trends
Hot real estate markets increase buyer competition, which can result in a higher ARV.
In individual markets, evaluate the demand for specific property types or features that boost ARV.
Location
Proximity to good schools, parks, public transportation and other amenities can drive up ARV, as well as low crime rates and future development plans.
How to calculate after-repair value (ARV) and maximize profits
Every investor should know how to calculate ARV to maximize their investments accurately.
Let’s look at the steps in calculating ARV, including careful analysis of similar properties and adjustments for unique or desirable features.
1. Find comparable properties
Comps must share the following similarities with the property you want to purchase:
- Location in the same neighborhood or within close proximity
- Similar square footage and number of bedrooms and bathrooms
- Similar features, such as a pool, garage or finished basement
Comps also must have been sold within the past three to six months to keep your data as updated as possible.
2. Adjust for differences
Even the most similar comps are likely to have some differences. Investors must adjust for these differences to make sure their ARV is accurate.
Adjustments include the following considerations:
- Adding value for missing features, such as a new kitchen or extra bathroom
- Subtracting value for extra features in comps that are missing in the property under consideration
- Taking into account the condition of the comps in comparison to your property’s condition
- Considering local market trends, such as a recent spike in demand
3. Estimate the cost of repairs
Estimating the cost of repairs can be broken into three main steps:
- Get a thorough inspection of the property to identify areas that need repairs or upgrades.
- Break down the renovations into individual tasks.
- Gather market research and quotes from contractors to determine the cost of each task.
Remember to add a contingency budget for unexpected expenses, which typically total 10% to 20% of the estimated repair costs.
4. Calculate the ARV
The basic formula for ARV is:
ARV = Current Property Value + Renovation Costs
Let’s say you find a property currently valued at $180,000.
After a thorough inspection and consulting with contractors, you estimate the total renovation costs will be $65,000.
ARV = $180,000 + $65,000 = $245,000
According to the calculation, the property’s projected value will be $245,000 after completing the planned renovations.
Common mistakes to avoid when calculating ARV
Mistakes can be costly when it comes to calculating ARV.
Keep these challenges in mind as you work to reach an accurate calculation.
Misjudging the quality of your comps
Investors must be careful to select truly comparable properties.
One of the most common mistakes investors make is using comps that are too far from the subject property or vary too much in size.
How to avoid this mistake: Work with an experienced real estate agent or appraiser familiar with the local market, and make sure you’re using reliable tools and platforms.
Underestimating or overestimating repair costs
Unfortunately, it’s easy to overlook or underestimate the true cost of repairs, especially when it comes to hidden issues.
Underestimating costs can impact your final ARV and profit margins while overestimating can prevent you from choosing a worthy investment.
How to avoid this mistake: Get multiple quotes from contractors and cross-reference them with local data for labor and material costs.
Forgetting to account for market conditions
The real estate market is constantly fluctuating due to the economy, interest rates and supply and demand.
Failing to consider the current market’s impact can result in inaccurate ARV estimates.
How to avoid this mistake: Stay informed about local and national market news and trends, and consult with local real estate professionals for relevant insights.
Apply for an investment loan with Compass Mortgage
With ARV calculations in hand, securing the right financing is the next step to bringing your investment plans to life.
Compass Mortgage can help you capitalize on your property’s potential with tailored financing options.
Use our investment loan to finance an income-producing property or fix-and-flip project.
We offer investors the following:
- Diverse loan options customized to your specific goals
- Flexible loan terms
- Competitive interest rates
- Fast approval process
Apply for your investment loan today or call us at (877) 677-0609 to learn more about your options.