A Big Real Estate Mistake

Many people buy and sell a fixer-upper like this: They buy a house, fix it up, then add some amount (say $10,000) that's in their head onto their costs. Then they put the house up for sale for this price. This is so wrong.

Would you buy a house according to what the seller has into it? Of course not. You look at what similar houses are selling for to determine the value. So if you have $110,000 into a fixer-upper and similar homes are selling for $105,000, how much can you get? It doesn't have anything to do with what you've spent, does it?

The Fixer-Upper Formula

1. Determine how much the house will sell for when you're done fixing it up. Ask an appraiser for help, or look at what similar houses have sold for (not list prices). What it's likely to sell for is the only meaningful definition of value when dealing with fixer-uppers.

2. Calculate all costs: buying costs, including closing, fees, etc.; repair costs; carrying costs, including interest on loans used to buy the house, property taxes, insurance; selling costs, including commissions, fees, title policy, etc. Subtract costs from the expected sales price.

3. Now subtract a profit that makes it all worth the effort. This gives you the highest price you can pay for the house. Walk away if you can't get it for this price or less. Offer several thousand less, of course, to give yourself negotiating room.

An Example:

You find a fixer-upper, and determine you can get $98,000 for it when it's done. The expenses of buying will be $2,000. You get repair estimates of $8,000. Carrying costs will be $2,500. The sales commission will be $6,500. Other closing costs will be around $1,500. You figure $1,500 for "unexpected" costs. Finally, you want $10,000 for your effort.

Subtracting all of that from your expected sales price leaves $66,000. This is the most you can pay, if you want a safe real estate investment. You offer $61,000, and walk away if you and the seller can't settle on something under $66,000.

Always start at the end (the eventual sales price) and work your way back. This is the right way to safely invest in fixer-uppers.