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How Do You Adjust For Investor Profit On Reos?

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Doug in NC

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In a recent CE class on REO properties, the class author indicated that he adjusted for investor profit when appraising REO properties. I assume that would be adjusted as a fill in the blank line item down below the porches in the SCA? A very significant adjustment that I'm sure many appraisers may not even consider.
 

George Hatch

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Only when the REOs aren't driving the market and there actually is a profit.

"Most probable" has a meaning in the english language. By the time the REOs comprise a large percentage of the market and become the benchmark for the pricing the non-REOs end up selling for the same. I've personally seen those conditions occur in two previous economic cycles so that's not even up for debate anymore.

Now if we're talking about a more stable market where the REOs aren't a significant factor then an appraiser wouldn't voluntarily choose to use one as a comparable in an appraisal in the first place, and if they did the adjustment for the terms of sale could be readily extracted from the non-REO comparables. But yeah, that margin will reflect a combination of the contignencies for physical condition and the residual will be attributable to the investor.
 

DWiley

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I agree with GH. But would also offer that one of THE most common mistakes I see is an REO addendum where the appraiser seems to be applying this simple equation - As Is Value + Cost of Repairs = As Repaired Value

Folks, its just not that simple :)
 

J Grant

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In a recent CE class on REO properties, the class author indicated that he adjusted for investor profit when appraising REO properties. I assume that would be adjusted as a fill in the blank line item down below the porches in the SCA? A very significant adjustment that I'm sure many appraisers may not even consider.

What kind of REO is he talking about? An REO sale listed on MLS and sold on open market, or REO's bought at auction or by investors scouring liens etc to buy cheap before it hits MLS/open market?
 

George Hatch

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IRL I've seen examples of that profit margin exceeding 150% of the costs of any repairs or upgrades, and I've also seen the margins at or near zero. Obviously at different ends of the economic cycle.

To me it means that the amount of discount attributable to an REO sale is an opinion to be developed, not an assumption to make.
 

glenn walker

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As Is Value + Cost of Repairs = As Repaired Value** Done when a person is buying FHA-203K loan BUT with a typical REO there is no way to know the investors profits - I have purchased REOs in the past where I sold it the next week to another investor so I could make a quick $15K-20K but if I would have invested $50,000 cleaning it up and updating it I could have made $75,000. *** I disagree with the teacher there is just no way for an appraiser to know the investors plans or what his end profit will be .
 

Doug in NC

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Many properties in terrible condition requiring tens of thousands of dollars to rehab aren't likely to be purchased by your average home buyer. In those cases, an investor would purchase those properties with the intention of fixing up and re-selling for a nice profit. Without that profit motive, the investor would not purchase those dilapidated properties and no one else will either. So the profit motivation has to be considered in the appraisal, added to the cost of bringing the house up to selling condition.
 

J Grant

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Many properties in terrible condition requiring tens of thousands of dollars to rehab aren't likely to be purchased by your average home buyer. In those cases, an investor would purchase those properties with the intention of fixing up and re-selling for a nice profit. Without that profit motive, the investor would not purchase those dilapidated properties and no one else will either. So the profit motivation has to be considered in the appraisal, added to the cost of bringing the house up to selling condition.

The profit is the motive, but it is not what we adjust for. Just as moving in and raising kids in a house is a motive, it's not what we adjust for.

If our subject is also in bad condition/dated and an investor is the identified likely buyer for the subject, then dated REO's are a good set of comps. IF our subject is not dated /bad condition, then bad condition REO's are not comps for it

MV opinion is the most probable price (in the appraisal opinion ) the property should transact for. The price price is negotiated between buyer and seller, whatever profit or loss the seller realizes is his end of the ledger at closing
 

George Hatch

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Physical conditions adjustments for most major fixers will include a profit element whether its acknowledged as such or not.
 

DWiley

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Many properties in terrible condition requiring tens of thousands of dollars to rehab aren't likely to be purchased by your average home buyer. In those cases, an investor would purchase those properties with the intention of fixing up and re-selling for a nice profit. Without that profit motive, the investor would not purchase those dilapidated properties and no one else will either. So the profit motivation has to be considered in the appraisal, added to the cost of bringing the house up to selling condition.
Agreed. We got REAL familiar with this concept after the big flood we had in 2010. We had 10,000+ severely damaged homes. Investors would but them, but only if they could see about a 40% gross return. That is, they had to be able to sell it after repaired for 1.4 times their total cost (acquisition cost + repairs). Anything less and they would walk away (or offer less).

So, if the as repaired property could be sold for $140,000, and the repair cost was $50,000, they would not pay $90,000 ($140,000 - $50,000 = $90,000) for the "as is" property. They would only pay $50,000.

$50,000 + $50,000 = $100,000. As repaired at $140,000 gives 40% gross return.

In one case, the IRS challenged us on this (the reports were being used for amended tax returns to reflect property loss) saying that 40% was just WAAAY too much. . We buried them in data :) It was actually a little funny.
 
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