The 80% rule in real estate typically relates to financing, not property valuation. It means that lenders will finance up to 80% of a property’s appraised value or purchase price, whichever is lower. The remaining 20% is usually the buyer’s down payment, helping reduce lender risk and avoid private mortgage insurance (PMI).
The 70% rule is a popular guideline used by real estate investors, especially those involved in house flipping, to quickly evaluate whether a property is a good investment. This rule suggests that an investor should pay no more than 70% of a property's after-repair value (ARV), minus the estimated repair costs. By following this rule, investors aim to leave enough margin to cover expenses, reduce risk, and ensure a profitable return.
While it's not a one-size-fits-all formula, the 70% rule serves as a helpful starting point for making smart, data-driven real estate investment decisions.
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What is the 70% Rule in Real Estate?
When investing in a home that requires significant repairs, especially for flipping, you'll need to estimate repairs accurately and account for unexpected expenses. In addition, you'll need to understand the market and comps to estimate the final resale value. To accurately estimate and turn a profit, house flippers and real estate investors often use the 70% rule.
The 70% rule states that you shouldn't pay more than 70% of a property's after-repair value minus repairs. What that means in practice is that if a home's after-repair value is $200,000 and it needs $40,000 in repairs, the investor shouldn't pay more than $100,000 [($200,000*0.7)-$40,000].
The 70% rule comes from years of real estate investors' experience in house flipping. It's not a precise formula. Instead, it's a quick rule of thumb to help you roughly determine the maximum purchase price. At this point, a tried and tested guide should give you a reasonable estimate as long as you're skilled at estimating both repair costs and final sale value.
Understanding the Formula
The 70% rule calculation is simple, which is one of the reasons it's so convenient. Here is the formula with the after-repair value abbreviated as ARV:
ARV * 0.7 - Repair Costs = Maximum Offer
- After repair value is how much you can reasonably expect to make selling the house or the home's market value.
- Repair cost is the cost of all expected renovations, including both major and cosmetic repairs or upgrades.
- Your maximum offer is the maximum amount you should submit to the seller to purchase the property.
The formula helps determine the maximum offer a real estate investor should make. For example, in the example above, your total investment by the 70% rule, plus repairs, would be $140,000. You could reasonably expect to make up to $60,000. But if costs run over, the market changes, or you're not able to sell the home as quickly as expected, you should still turn a profit.
Benefits of Using the 70% Rule
The 70% rule benefits real estate investors for many reasons, but the primary benefit is the convenience it offers to make profitability calculations. The 70% rule of real estate can help you avoid overpaying for properties, factor in the cost of repairs, and ensure sufficient knowledge to identify profitable deals for smart investment decisions.
It factors in potential repair costs and ensures a profit margin even with common cost overruns or a longer timeline.
Common Mistakes to Avoid
Common mistakes that real estate investors make when using the 70% rule are:
- Underestimating repair costs
- Overestimating after-repair value
- Underestimating repair time (linked to repair costs)
The solution to avoid these pitfalls is to research. Understand your target markets and work with qualified real estate professionals to compare comps and get an accurate estimate of after-repair value.
Likewise, if you don't have experience estimating repair costs, work with qualified contractors, inspectors, and trusted professionals who can help you more accurately estimate repair costs.
With time, research, and experience, you can estimate these values more accurately, but even experienced real estate investors make mistakes. For that reason, gathering a trusted team to help with estimates and market research can increase the chances of success and help avoid calculation errors that could eliminate profits.
How to Use the 70% Rule
The 70% rule is a good starting point if you're investing in real estate. Here's an overview of how to use the rule in various scenarios.
Applying the 70% Rule in Real Estate Deals
Suppose you see two properties in a target market. They are both three-bedroom homes whose after-repair value will be around $160,000. You want to compare them to decide on the best investment opportunity.
House 1 has issues with the roof. You estimate repairs will be at least $60,000, and increase the estimate to $65,000 to be safe. On this house, applying the 70% rule, you'd offer a maximum of $47,000 ($160.000* 0.7 - $65,000 = $47,000).
House 2 is in good condition, but you want to paint and update the kitchen and one bathroom. You estimated that repairs will be $35,000. On this house, applying the 70% rule, you'd offer a maximum of $77,000 ($160.000* 0.7 - $35,000 = $77,000).
Whether you choose house one or house two depends on several factors, such as:
- Which property has more potential for other unaccounted-for repairs
- Your timeline for flipping and whether you have time for major repairs
- Your confidence in repair estimates and resale estimates
- Which seller is more willing to negotiate, or needs a fast sale
The 70% rule loses its value if you cannot accurately estimate both repair costs and after-repair value, so gaining skill in accurate estimates is essential.
When to Make Exceptions
The 70% rule accounts for a large profit margin, and there may be instances where deviating from the 70% rule can be reasonable. For example, if the market is hot or appreciating quickly, you may be able to sell the home for more. Likewise, the 70% rule may not give you enough margin in a slow buyer's market.
That's why it's essential to know the markets, understand the trends, and work with qualified real estate professionals who can help you gauge possibilities. Carefully evaluate and make informed decisions when deviating from the rule and when applying the rule to make the best decision for the market, the property, your budget, and your timeline.
Tips for Successful Real Estate Investing
Additional tips and advice for real estate investors to achieve success include:
- Network: Building a network of trusted professionals in the real estate industry, from investors to contractors to agents, can ensure you can get work done on time, find new opportunities, or better understand markets.
- Research: Research target markets, repair costs, contractor costs, and market trends to capitalize on opportunities.
- Due Diligence: Related to research, performing thorough due diligence on every property and extensive market analysis is essential for success.
- Keep Learning: Successful investors understand that markets keep changing and new opportunities can arise in unexpected areas. Connect with others through online forums, educational courses, discussions, and conferences.
Final Tips on the 70% Rule in Real Estate
Real estate investing requires an understanding of both broad principles and specific markets. The 70% rule of real estate is a starting point. Research, understanding, and a strong network of real estate professionals can all increase your success and increase the chances of accurate estimates.
Work with a trusted real estate agent, inspector, and contractors to ensure speed and accuracy in your estimates and reduce the risk of errors or losses. Considering other types of real estate investment? Find how to get into real estate investing or how to buy a rental property here.
Frequently Asked Questions
How do you calculate a 70% rule?
To calculate the 70% rule, use this formula: Maximum Purchase Price = (ARV × 70%) − Repair Costs. For example, if a property’s After-Repair Value (ARV) is $300,000 and repairs are estimated at $50,000: Maximum Purchase Price = ($300,000 × 0.70) − $50,000 = $160,000. This means you should not pay more than $160,000 for the property.
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About Alison Plaut
Alison Kimberly is a freelance content writer with a Sustainable MBA, uniquely qualified to help individuals and businesses achieve the triple bottom line of environmental, social, and financial profitability. She has been writing for various non-profit organizations for 15+ years. When not writing, you will find her promoting education and meditation in the developing world, or hiking and enjoying nature.
