How to Tell If a Real Estate Deal Works on Paper

Most deals are pitched with three numbers: the ARV, the price and the repair estimate. Subtract the last two from the first and you get a big, satisfying profit. It fits in a text message, and it's almost always wrong.

The problem isn't that those three numbers are unimportant. It's that they're only part of the cost of doing a deal. The rest, closing costs, loan fees, holding costs, selling costs and contingency, rarely shows up in the pitch. Each one sounds small. Together they often eat most of the profit before anything goes wrong.

The napkin version

Here's an illustrative flip. The numbers are made up to show the structure, not taken from a real listing:

• ARV: $240,000
• Purchase price: $150,000
• Rehab estimate: $35,000

Napkin profit: $240,000 minus $150,000 minus $35,000 = $55,000.

That looks like a comfortable deal. Now let's add the costs that the napkin leaves out.

The costs that aren't on the napkin

Buying costs. Title fees, recording, lender-required items and your share of closing costs. Call it $2,500.

Financing costs. Most flips use short-term loans with origination points and fees. Two points on a $150,000 loan is $3,000, plus perhaps $1,500 in lender fees, for $4,500 total.

Interest. If you borrow the purchase price and part of the rehab, the balance averages maybe $170,000 over the project. At an illustrative 11% rate for six months, that's about $9,350.

Taxes, insurance and utilities. Property taxes for the months you own it, a vacant or builder's risk insurance policy, plus electricity, water and lawn care. Around $4,100 over six months in this example.

Contingency. A moderate rehab deserves roughly 15% set aside for surprises. On $35,000, that's $5,250. If you don't need it, great. If you don't budget it, you'll need it.

Selling costs. Agent commissions, title and closing costs on the sale, and concessions to the buyer, such as help with their closing costs or a repair credit after their inspection. At an illustrative 5.5% commission, 1% in closing costs and a $4,000 concession, that's $13,200 plus $2,400 plus $4,000, or $19,600.

Add it all up: $45,300 in costs that weren't in the pitch.

The real profit

$55,000 minus $45,300 leaves about $9,700.

That's before anything goes wrong. No ARV miss, no rehab overrun, no slow sale. On a deal that ties up tens of thousands of your own cash for six months and carries real risk, $9,700 is a thin result. One month of delay and one price reduction could take it to zero.

Notice that nothing here was exotic. There's no hidden foundation problem or market crash. These are ordinary, predictable costs that come with almost every flip. They just aren't on the napkin.

The 70% rule would have warned you

A quick screen like the 70% rule exists precisely because these costs are predictable. Your maximum offer is 70% of ARV minus repairs: 0.70 × $240,000 = $168,000, minus $35,000 = $133,000.

The deal was priced at $150,000, $17,000 above that maximum. The rule isn't perfect, and it's too tight or too loose in some markets, but it builds in room for exactly the costs listed above. When a deal fails the 70% rule by a wide margin, it's usually because the costs outside the napkin haven't been counted.

The spreadsheet mistakes that hide the problem

Even investors who use a full spreadsheet can make a deal look better than it is. A few common ones:

• Leaving cells at zero. A blank line for concessions or contingency isn't a conservative assumption. It's an optimistic one.
• Using the best-case timeline. Rehabs usually take longer than planned, permits and inspections add time, and houses don't sell the day they're listed. If your timeline assumes nothing slips, your holding costs are too low.
• Mixing up the loan and the cash. Interest is based on what you borrow, but your return should be judged on the cash you put in, including down payment, closing costs, points and any rehab you fund yourself.
• Using the pitch's numbers as inputs. If the ARV and rehab came from the seller or wholesaler, your spreadsheet is just a nicer-looking version of their pitch.

Stress-test before you say yes

Once your spreadsheet includes every cost, run a stress test. A common one is ARV down 5%, rehab up 20% and the timeline stretched by two months. In the example above, that would turn a thin profit into a loss of roughly $13,000.

That's not a reason to never buy. It's a reason to buy at a price where the stressed version still breaks even. Strong deals survive bad luck. Weak deals need everything to go right.

What wholesalers can take from this

If you wholesale, the buyers you want are running exactly this math. Deals pitched with napkin profits get passed over by experienced buyers, or they go under contract and get retraded once the buyer's real numbers come in. Showing realistic repair estimates and supportable comps, and pricing so the deal still works after all the costs, is how your deals close.

The bottom line

Price, rehab and ARV tell you whether a deal might be interesting. The costs around them tell you whether it's actually a deal. Every time you look at a property, whether on PropPipeline or anywhere else, write out the full list before you get excited about the headline number. The deals that still look good after that are the ones worth pursuing.