Real estate investing comes with its own language, filled with acronyms and terms that might seem overwhelming at first. Understanding these concepts is essential for making informed decisions, analyzing deals, and maximizing your returns. Whether you’re new to investing or refining your strategy, this breakdown of key terms and owner financing will boost your confidence.
Key Real Estate Acronyms Every Investor Must Know
ARV: After Repair Value
ARV stands for After Repair Value, which refers to the market value of a property after renovations are completed. This is a critical number when evaluating a potential purchase.
When you’re buying a property, sellers may claim it’s “worth” a specific amount. But the current value is irrelevant compared to the ARV—the price someone will pay once the property is repaired.
Example Calculation:
Imagine a property has an ARV of $100,000. Conventional wisdom suggests purchasing it at 70-75% of the ARV. This figure includes both the acquisition cost and rehab expenses. So, for a property with an ARV of $100,000:
- 70% of ARV = $70,000
- If repair costs total $20,000, your max purchase price should be $50,000.
LTV: Loan-to-Value
LTV, or Loan-to-Value, measures the ratio of a loan amount to the property’s value. It’s a standard metric lenders use to assess risk.
Example:
If you borrow $75,000 to purchase a property valued at $100,000, your LTV is 75%. Investors and lenders aim to keep this number low to reduce risk.
Basis
The term “basis” represents how much you’ve invested in a deal. There are two key types of basis:
- Cash Basis: The amount of actual cash you’ve spent.
- Total Basis: Cash basis plus financed amounts, like loans or repair costs.
Example Calculation:
If you acquire a property for $75,000, spend $5,000 catching up payments, and invest $10,000 in renovations, your total basis is $90,000. But your cash basis might only be $15,000 if loans covered the rest.
The 70-75% Rule for Smart Investments
Many real estate investors use the 70-75% rule to determine whether a deal is viable. This rule states your total costs (purchase and repair) shouldn’t exceed 70-75% of the ARV.
This buffer exists to cover additional costs like closing fees, holding costs, and unexpected repairs while still leaving room for profit. For example, if you paid too close to the ARV, there’d be little room for error or profit.
Exploring Owner Financing
Owner financing is a strategy where you become the lender instead of a landlord. With this approach, you sell a property but provide the buyer with a loan to purchase it. You receive predictable monthly payments, similar to a traditional mortgage company.
Pros of Owner Financing
- No Tenants, Toilets, or Trash
As a landlord, dealing with tenants, property maintenance, and repairs can take up time and energy. With owner financing, you eliminate those responsibilities and focus solely on collecting payments.
- Fixed Returns
Rental cash flow is often unpredictable due to unexpected repairs. In contrast, owner-financed deals provide a fixed monthly income without surprise expenses.
- Lower Competition
Not many investors concentrate on owner financing. This gives you an edge in creating a niche market and differentiating yourself.
- Low Barrier to Entry
You can structure deals with minimal upfront investment. Creative financing strategies like “subject-to” allow you to take over existing loans without paying them off entirely.
Cons of Owner Financing
- Lost Appreciation
When you sell a property via owner financing, you aren’t capitalizing on future increases in value. Any appreciation belongs to the buyer.
- Foreclosure Risks
If your buyer stops making payments, you’ll need to initiate foreclosure. This process involves time and legal costs, but even then, you can often re-sell the property at a higher appreciated value.
- Complex Legal Requirements
Laws like the Dodd-Frank Act regulate owner financing. Ensuring compliance requires working with attorneys and Residential Mortgage Loan Originators (RMLOs).
How to Analyze Owner Financing Deals
Whether you’re buying or selling, efficient deal analysis is critical. Here’s a simple checklist to follow:
- Calculate ARV: Research comps to determine the property’s fair market value after repairs.
- Check Basis vs. ARV: Ensure your total basis leaves a comfortable margin for profit.
- Understand LTV: Evaluate loan amounts to ensure they don’t exceed the property’s current value.
- Save Reserves: Keep a cash reserve for unforeseen issues like holding costs or foreclosure scenarios.
FAQs About Subject-To Investing
Subject-to deals are a cornerstone of owner financing. This method involves taking over a seller’s mortgage without paying it off entirely. Sellers transfer ownership to you, but the original mortgage stays in place.
Why Use Subject-To Deals?
They allow you to buy properties without needing significant upfront capital. The seller benefits by offloading their debt, and you benefit by acquiring cash-flowing properties.
Is It Legal?
Yes, though you’ll need to follow specific laws and guidelines to ensure compliance. Using an experienced attorney or RMLO can keep your deals clean and legally sound.
The Financial Safety Net: Down Payments
Having a reserve fund is essential when using owner financing. A typical recommendation is to set aside any initial down payments you receive. This protects you in case of foreclosure or unpaid expenses if the buyer defaults. Treat the down payment as a safety net—not spending money.
Building Wealth Through Creative Financing
One of the biggest advantages of owner financing is its scalability. Unlike traditional bank loans, which limit the number of properties you can buy, creative financing can help you grow without restrictions.
For example, using subject-to deals, you can build a portfolio of properties without putting them under your personal name. This limits your personal liabilities while maximizing your income potential.
Conclusion
Understanding key real estate acronyms like ARV, LTV, and basis provides a strong foundation for making informed decisions. Strategies like owner financing allow investors to achieve steady returns without the stress of property management. And by leveraging creative financing techniques, you can scale your portfolio faster than relying solely on traditional methods.
Whether you’re just starting out or refining your approach, real estate investing offers endless opportunities for growth. Learn the terms, master a niche, and build your way to financial success. Always analyze deals carefully, maintain safety reserves, and surround yourself with knowledgeable professionals to guide the way.
