Flipping houses is more popular than ever. Thanks to the popularity of home renovation shows, taking a dilapidated house and turning it into a sellable home now seems like a fun and profitable weekend hobby rather than the risky, time-consuming endeavor it actually is.
That’s not to say it shouldn’t be done or that it can’t be rewarding. You just need to know what you’re getting yourself into.
What is House Flipping?
In the most basic terms, house flipping is when a person buys a house with the intention of reselling it for a profit. Generally, these homes are “flipped” fairly quickly, with the time between purchase and sale ranging from a couple months to a year.
In the fourth quarter of 2018, 10.9% of all home sales were flips, according to CoreLogic, a real estate data firm based in Irvine, California. This represents an overall increase in home flips since 2010.
On average, flippers are seeing a gross profit of around $66,000 per home, according to ATTOM Data Solutions, a real estate and property data firm also based in Irvine. However, how much of a profit you’re able to turn depends on the area you’re flipping in.
Technically, there are a couple ways to flip a house.
The first is what you’re likely picturing right now: an investor buys a property, renovates and updates the house and then sells it for a profit. This process usually happens very quickly, ideally within the span of a few months.
The second type is when an investor buys a property in a market where home values are rising quickly. The investor typically doesn’t make any updates but waits for the home to appreciate and sells it months later at its appreciated price.
In this article, we’re going to focus on the first type of flipping and give you tips you can use throughout the process, from choosing a property, to making renovations, to selling it for a profit.
How to Start Flipping Houses
While there’s a lot of work that goes into flipping a house and making a profit, the process can generally be broken down into four steps.
Figure Out Financing
As with any investment, you’ve got to spend money to make money. But where do those initial funds come from?
Obviously, the most straightforward solution would be to pay for the house you plan on flipping in cash. If you can help it, it’s best to avoid going into debt to fund a house flip. That said, you should also avoid using money earmarked for other, more important purposes, like your retirement funds.
If you don’t happen to have that kind of cash lying around or don’t fancy spending your entire savings on a house flip, you’ll probably want to look into getting a loan.
If you’re new to house flipping, this may prove difficult. Some lenders may want to see proof of a history of successful flips before they’ll agree to loan you any money. And even if you do have the experience, not all lenders will do mortgages for house flips. You may have to look to less traditional forms of lending, such as a hard money loan.
Hard money loans are short-term loans from private lenders. They can come with interest rates as high as 15%. While you should be careful and consider all aspects anytime you consider borrowing money, these loans can be useful for house flippers who need the funds to purchase property. Just be sure you’re working with a reputable lender.
If you own your home, you could also consider getting a home equity loan or a home equity line of credit (HELOC). These loans allow you to utilize one of your most valuable assets – your home – but because of this they can also be quite risky, as your home is used as collateral on the loan.
If you plan on financing your flip with a loan, be sure to consider all the costs and fees you’ll incur, and how that will cut into your profits from the flip.
Study and Learn the Market
You shouldn’t try to flip a house without an understanding of how the market works.
Understanding the process and how to interact with the real estate market will help you know how much you should spend buying the house, how to identify the home’s potential value and how to price the house when you’re ready to put it back on the market.
To successfully flip a house, you have to become an expert on the real estate market you’re going to be selling in. If you don’t, you risk putting more money in than you’ll end up getting out.
Experienced flippers know which repairs and renovations will provide the most added value to their properties, and they know not to try and increase the value so much that the house becomes overbuilt for the neighborhood it’s in. When this happens, the house becomes harder to sell because houses tend to be valued similarly within neighborhoods.
To avoid this, you need to do your research. Learn about what features make a home more marketable in your area, and find out what houses in the area you’re flipping in are selling for. You may want to consider working with a real estate agent who’s familiar with the local market.
Create a Budget
In house flipping, budget is king. Every choice you make should serve your goal of generating a profit.
To generate that profit, you need to figure out what your overall budget will be, and how much you can spend on each facet of it.
Figuring out how much you can spend on a property is your first task. This will help you price everything else in your budget.
When you’re searching a property, a good rule to follow is that you don’t want to spend more than 70% of the after repair value (ARV) minus the cost of repairs. ARV is the projected value of the home after repairs and renovations have been completed.
To figure out around how much you’ll spend on repairs, bring in the experts. Schedule a property inspection with a qualified inspector before you buy, and have contractors give you estimates on the work that needs to be done.
Once you have this information, you can decide if a property is worth what it’s selling for by using the 70% rule. For example, if you think you could sell a home for $250,000 after fixing it up and your general contractor says you’ll need to put in around $50,000 in repairs, you shouldn’t pay more than $125,000 for the property.
Keep in mind, however, that you won’t just be paying the costs of purchasing the property and reviving it. While you hold onto the property and wait for a buyer, you’ll likely have other costs as well, such as loan payments or property taxes. Then you’ll pay costs associated with the selling of the house, including agent fees and closing costs.
Prioritize the Right Renovations
The renovations you do must boost the value of the home. But how can you know what will add value?
After you’ve completed all the necessary repairs, you’ll need to make a lot of aesthetic decisions about how you want the house to look. While you might be tempted to pour all your funds into a big kitchen remodel, your money might be better spent on some more practical, essential elements to the home, such as replacing the siding or installing wood floors.
While having a nice, attractive kitchen is important in selling a home, you don’t necessarily have to replace and rearrange everything to get that added value. You also want to avoid over-renovating and making the house difficult to sell.
This is true with many of the renovations you’ll make on your house flip. While sometimes things will likely need to be completely replaced, finding areas where you can simply update already-existing elements – for example, by adding a fresh finish or a new coat of paint – will save money.
When you’re prioritizing your renovations, focus on updates that will look clean and modern while sticking within your budget. And don’t neglect the home’s exterior. Making the outside look welcoming by painting the front door, installing outdoor lighting and doing some landscaping can go a long way with buyers.
If you’re stumped on where to start, a real estate agent or experienced flipper in your city can help give you some clues as to what the must-haves are for homes in the area.
House Flipping Mistakes to Avoid
With so much money on the line, it’s best to avoid learning about the house flipping process through trial and error. Here are some common mistakes first-time flippers make, and how to avoid them.
Overpaying on the Property
If you pay too much initially, it’s hard to make up for it later on.
Make sure you’re observing the 70% rule mentioned above. If you can pay less than that for a property, that’s great (though be careful that you aren’t getting something that will need significant and costly repairs, like a house with major foundation issues). But if you pay more than that, you’ll be diminishing the amount of money you can make.
Not Having Enough Time or Money
Flipping a house is a time-consuming and expensive project. When you underestimate just how much time and money it will take, you risk the whole investment. Avoid this by fully preparing yourself ahead of time.
Gather as much information as you can when creating your budget, and be sure to make space for unforeseen costs. Don’t make any assumptions – get estimates from professionals on the work that needs to be done, find out how much your materials will cost and be realistic about your abilities and time frame.
You should also think seriously about whether you have the time and patience to take on a project of this magnitude. If you already have a busy life or are someone who enjoys spending their weekends relaxing, your money would likely be better spent on more passive investments.
Not Being Handy Enough
Sweat equity is where you make your money, so you need to be sure you’re up to the task.
Sweat equity is the work that you personally put into the house – the work that you don’t have to pay for. When you tear down a wall or install a lighting fixture yourself, you’re saving yourself the cost of having to hire someone to do it. If you have to hire a contractor for every little thing, you aren’t going to make much of a profit.
This is why you should be at least somewhat skilled in home renovations. If you’re considering getting into home flipping, think about what practical skills you bring to the table. You don’t necessarily need to be good at everything – maybe you take on painting the walls but bring someone in to install the flooring. But if you plan on hiring a full team to make over the house while you contribute nothing more than the funds, don’t expect to make much of a profit.
Of course, you likely won’t be able to do everything on your own. Leave the big jobs, such as replacing the outdated wiring, to licensed professionals.
Getting Too Emotional
Don’t get too invested in your investment. As a first-time flipper, it’s easy to get caught up in every decision you have to make and think that everything needs to be top quality. But this can slow down the process and lead you to spending money on things that ultimately don’t matter.
Time and money are of the essence, so don’t be too precious over every detail or feel like you need the most expensive, brand-name hardware or fixtures. Your goal should be to get the house looking nice as swiftly as possible while sticking to your budget.
You should also avoid putting too much of your personal style into the house. You want potential buyers to be able to picture themselves in the home – keeping the styling neutral makes that much easier.
Forgetting to Factor in Taxes
You’ve completed your first successful flip and made a good chunk of change off it. All’s well that ends well. But don’t let those dollar signs in your eyes blind you to reality. If you made money on your house flip, you’ll need to pay taxes on it.
Everyone’s situation is unique, so if you plan on getting started flipping houses, we recommend speaking with a tax advisor who can look at your circumstances and tell you how the additional income will affect you. But here’s a basic rundown of what you should know.
If you held onto the property for less than a year, you’ll pay short-term capital gains taxes on it. Short-term capital gains are treated as ordinary income, and are taxed as such. If you owned the property for more than a year, you’ll be taxed according to the long-term capital gains rates, which range from 0 –20%.
However, if you start flipping houses regularly, the IRS may classify you as a dealer. This means you’ll not only pay income tax on your profits, but the 15.3% self-employment tax as well.
Is Flipping a House a Good Investment?
House flipping can be a great investment opportunity for the right person. If you’re looking for a safe-bet investment where you can keep your money and leave it alone for long periods of time, this isn’t what you’re looking for.
If, however, you like working with your hands and are looking to take on a challenging project that can generate a profit, you might find flipping to be a fulfilling and worthy investment.
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