What is the 70% Rule in House Flipping?

House flipping can be a lucrative investment strategy, but it comes with its share of risks. To mitigate these risks and ensure profitability, seasoned real estate investors often rely on various rules of thumb. One such guideline is the 70% rule, a principle that helps investors avoid overpaying for a property they plan to flip. Understanding and applying this rule can significantly impact the success of your house flipping endeavors.

The Essence of the 70% Rule

The 70% rule is a simple yet effective formula used by real estate investors to determine the maximum price they should pay for a fix-and-flip property. According to this rule, an investor should not pay more than 70% of the after-repair value (ARV) of a property, minus the costs of necessary repairs and renovations.

Formula:

Maximum Purchase Price=(ARV×0.70)−Repair CostsMaximum Purchase Price=(ARV×0.70)−Repair Costs

Example:

If the ARV of a property is $300,000 and it requires $50,000 in repairs, the calculation would be:

{Maximum Purchase Price} = ($300,000 \times 0.70) - $50,000 = $160,000

In this scenario, according to the 70% rule, the investor should not pay more than $160,000 for the property.

Why the 70% Rule Matters

Risk Mitigation:

The real estate market is fraught with uncertainties. Prices can fluctuate, renovations can uncover unexpected issues, and market conditions can change. The 70% rule provides a buffer that helps protect your investment against these uncertainties.

Profitability:

By sticking to the 70% rule, investors can ensure there is enough room for profit after accounting for the purchase price, renovation costs, holding costs, selling costs, and potential market fluctuations.

Budgeting:

The rule aids investors in budgeting for renovations. By calculating the maximum purchase price, investors can determine how much they can afford to spend on repairs while still ensuring profitability.

Limitations of the 70% Rule

While the 70% rule is a valuable guideline, it's not infallible. Markets vary significantly, and what works in one area may not work in another. Here are some limitations to consider:

Market Variability:

In a hot market, adhering too strictly to the 70% rule might mean missing out on potential opportunities. Conversely, in a slow market, you might need to adjust the rule to be more conservative.

Repair Cost Accuracy:

The rule is heavily dependent on the accuracy of your repair cost estimates. Underestimating these costs can erode your profit margin.

Experience Level:

For novice flippers, sticking closely to the 70% rule might be advisable, while experienced investors with a deep understanding of their market might adjust the rule based on their risk tolerance and experience.

Conclusion

The 70% rule in house flipping is a guideline, not a hard-and-fast rule. It serves as a starting point for evaluating potential investments and can help you make informed decisions. However, like any investment strategy, it should be adapted to fit the specific context of your market and your level of experience. Always conduct thorough due diligence and consider consulting with a real estate professional to tailor your investment strategies to your goals and market conditions.