One of the great pieces of wisdom that applies not just to business, but any major project is “hope for the best, but be prepared for the worst.” This simply means that you should always work towards having a positive outcome in mind for whatever goal you have, but you should have contingencies in place to deal with the unexpected, especially of a negative nature.
This is certainly the case when it comes to real estate investment. In a perfect world, buying, flipping and selling properties would be a straightforward activity, where whatever you plan is exactly what happens. But this is often not the case when it comes to property, especially with older properties, and this is where the 20% rule comes in. So what is it, and what does it mean for people in the business of selling property?
20% For Emergencies
The 20% rule is a very simple act of provision. Taking the same approach as hope for the best and being prepared for the worst, the 20% rule dictates that whatever budget you are planning to allocate to a property to spend, you should always add an additional 20% to that cost.
The reason for this is all the unforeseen events or discoveries that may come along that may require an additional expenditure on your part in order to get things order. For example, a much older property may seem like a real bargain in terms of pricing, so you jump on it, making some optimistic and preliminary calculations about how much money you’ll make back once you figure in a rehabilitation program for the building.
Unfortunately, after getting a more thorough inspection of the property, you find out that asbestos was used to line the walls. Since this now considered illegal for use in buildings, you will have to front the cost for removing it from the building before you can complete the project. With the 20% rule in place, you may have the “wiggle room” you need to accommodate this unpleasant surprise. Without it, you may find that your bargain is now going to be sold at a slight loss once everything’s done.