How to Factor In ARV Before Investing in a Distressed Property

If you plan to invest in real estate with the express purpose of reselling, then after repair value (ARV) is a metric you’ll want to familiarize yourself with. It’s pretty much exactly what it sounds like. Take the sum of your property’s current value and add the value of its renovations to determine the property’s total value after repairs. 

ARV is critical to the decision-making process when purchasing a new property. Moreover, for more experienced investors, it can also help you determine which renovations will provide the highest return. Let’s talk about how you can calculate it, and what you need to factor in when doing so. 

How To Calculate Your ARV

To calculate your property’s ARV, the first thing you’ll need is the property’s current market value. Note that this is distinct from your purchase price. Particularly with foreclosures and real estate auctions (two common investment paths for property resellers), you’ll likely be acquiring property for considerably less than what it would sell for under ideal conditions.

Believe it or not, this is probably the most complicated step of your ARV calculation. This is primarily because there are multiple interconnected factors that might influence the value of a particular property. They are, in no particular order:

  • Property type. Commercial properties tend to sell for more than residential properties. There are also multiple sub-types, such as multi-family dwellings, condominiums, bungalows, etc. 
  • Condition. This metric isn’t particularly relevant to your ARV, save for determining whether your purchase price matches the property’s pre-renovation value. That’s because presumably, you’ll be selling the property in excellent condition once your renovations are completed. 
  • Lot. How large is the lot on which the property is situated? What sort of physical features does it possess, such as roads, terrain, shape, etc? 
  • Location. How close is the property to the amenities which matter to your target buyer? What does the neighborhood in which the property is situated look like? How readily-accessible is the property? 
  • Construction. This includes the building’s level of craftsmanship, what sort of materials it uses, square footage, number of stories, etc. 
  • Age.  Self-explanatory. Older properties may sell for more to a point. 

Next, you’ll want to figure out which renovations you’ll be making, and how much those renovations will cost you. Speak to a few licensed contractors to receive an appraisal for each renovation you want to apply, and tally the total. You’ll be coming back to these numbers in a moment.

The next step may not be complicated, but it is difficult. For each renovation, you need to calculate how much value it will add to your property. Unfortunately, there’s really no catch-all formula here; the value of a renovation depends entirely on the buyer.

It’s all about being able to accurately estimate demand. For instance, installing an industrial kitchen on the first floor of a commercial property likely won’t add much value if you plan to sell it to an IT company, but it would be a must-have feature for a restaurant. 

The best advice we can give is to search for similar properties to the one you’re renovating. Take a look at their history, and figure out how much value each renovation will add to the total sale price based on that history. Don’t look up properties that were sold more than five years ago if you can help it, as the market will likely have changed enough since then as to render their valuation irrelevant.

Add the total value generated by these renovations to the property’s market value, and you’ll have your ARV. 

As for your renovation costs, you’ll want to ensure they’re lower than your estimated renovation values. Otherwise, you won’t really be able to turn a profit. You may not even break even. 

ARV Is Not A Perfect Metric

If, after reading through this piece, your first thought about ARV was calculating it sounds like a tedious, complicated process, you aren’t wrong. For many, accurately calculating ARV is a skill that can take years to develop. For that reason, unless you are already a veteran in real estate investment, we would strongly recommend securing the services of a professional appraiser.

They’ll know exactly what to look for insofar as flaws in the property are concerned, both obvious and subtle. They also come armed with knowledge about the real estate market in both the neighborhood and the city in which the property is located. This takes a ton of guesswork out of the appraisal process, while also freeing up a great deal of time for you. 

It’s also important to note that ARV is very much a short-term metric, intended for properties with a very narrow window between the initial purchase and the re-sale. It isn’t really designed to account for things like changes to a property’s market value. As such, if you’re working in a particularly volatile real estate market or take too long to re-sell, it can be somewhat inaccurate.

ARV also doesn’t factor in unexpected renovations during the repair process, such as repairing damaged pipes or replacing old wiring. Although experienced investors can often predict such expenses, there’s always the chance that something will catch you off guard. This is true even if you hire a property appraiser (though with the aid of an appraiser, the likelihood of your ARV being inaccurate is significantly reduced).

A Key Tool For Smart Investments

While ARV might not be a perfect metric, it’s still an excellent tool in the hands of a savvy investor. Through proper application of ARV, you can determine not only whether or not a property is a smart investment, but also what renovations are a smart choice.