December 2, 2021
There are numerous ways to increase property value. For instance, you could invest in upgrades, build an additional unit, or install energy-efficient features. However, what if you’re just starting your business and don’t have the means to fund costly projects? Find out how sweat equity is a great way to build up a new real estate business when you’re on a tight budget.

What Is Sweat Equity?

Sweat equity is a term used to describe when a person contributes their time, labor, and effort to a project. It’s a non-monetary exchange used to cut costs and increase value. You’re putting in your own “sweat” instead of hiring someone else to execute a job.

How Does Sweat Equity Work In Real Estate?

In real estate, sweat equity often takes on a more literal meaning. Real estate investors and homeowners will make repairs or upgrades through their own physical labor. For homeowners, this could help lower the cost of homeownership or increase property value when putting their house up for sale. For real estate investors, this often applies when they’re flipping houses.

If you think about it, paying for contractors, painters, and carpenters can be expensive. If you can do it yourself, you can reduce your costs and boost your bottom line.

what is sweat equity

How To Calculate Sweat Equity

The value of sweat equity is measured by how much value is added to a business as a result of that sweat equity. It’s easiest to explain this in terms of how much equity an investor is willing to put in for a share of the profit.

To calculate sweat equity, take an investor’s investment amount and divide it by the percentage of equity it represents. Then, subtract the investor’s investment. The remaining number expresses the dollar value of your sweat equity in the business venture. Let’s use an example to flesh out this concept.

Example Of Sweat Equity

Let’s say that your friend wants to invest $25,000 into your latest fix-and-flip project for a 20 percent stake. The valuation of this deal is $125,000 ($25,000 / 20% = $125,000.) Your friend’s stake is $25,000, so your stake is $100,000. If you don’t invest any cash into the project, the sweat equity equals your stake, or $100,000. However, let’s say that you planned to invest $50,000. In this case, the value of your sweat equity is the remaining $50,000. ($100,000 – $50,000 = $50,000.)

This example shows that you control how much or how little sweat equity you put into a project. This largely depends on how much capital you’re willing to invest. If you’re just starting out, you may not have any choice but to put in 100 percent sweat equity. You can gradually increase your initial outlay and decrease your personal labor as you accumulate capital.

Summary

Another great way to think about sweat equity is the time value of your money. It is a great way to help build up your business with your own hands. Once you accumulate some capital, however, it’s a great idea to take a look at the big picture and evaluate how your time could be used effectively.


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