You can basically offer any price you want. Whether the price makes sense will depend on the presence of other able and willing buyers who will bid against you and on the bank's current willingness to accept a short sale at all. If there are others submitting offers, your offer will have to at least best their bids. And, your offer will need to be high enough to entice the lender to accept the short sale. If it's too low, you've just wasted your time and effort. Nothing wrong with that if you're willing to put in the effort for a slim chance at a discount.
In a case where the home will not qualify for FHA financing, the buyer pool is diminished, if the home wont qualify for conventional financing, the buyer pool diminishes further. When the home has a diminished pool of buyers, less competition equals lower price. It's that simple.
In the case of a short sale that needs this much work, your Realtor, in my opinion, should be asking the listing Realtor to procure a comprehensive bid from a general contractor. Your offer should reflect the comperable market value for the home, less the comprehensive bid. This works best if there is a condition of the property that makes it not qualify for financing. The sellers lender WILL more often than not in my experience fully consider offers in line with this.
You will have your savings in doing as much of the work as possible and basically acting as the general. General Contractors, true general contractors, typically estimate the entire job and add 10% for running the job. That is some built in equity. But be respectful of the GC, especially if you pick them. They will put in a bunch of time to provide the bid and as a courtesy, you may want to try and hire them, if they did a good job and will negotiate with your further, for the parts of the job that you cant do yourself. After all those guys dont get paid to write bids, so we need to be respectful of their work product. .
There's no formula on what to offer for a distressed property. Some are artificially underpriced to attract the biggest pool of buyers.
Just because it's a distressed property doesn't mean one should automatically offer less than list price, specially if it's already priced low to begin with to allow for improvements to make it habitable.
What does your realtor tell you?
The list price on short sales may or may not reflect market value. Trying to determine an offer price using the list price doesn't always work. Estimate what the market value of the home would be once repairs are complete. Then estimate the cost of repairs to determine approximate value. I would then offer some 10-13% below because of the short sale and see how the bank responds.