A large segment of today’s housing market is being fueled by flippers and real estate investors who seek to turn a hard money loan or investment property loan into a nice, tidy profit.
While it’s not unusual to see someone parlay a rehab loan into a nice five- to six-figure profit, there are definite hazards that come with flipping. Many of these hazards lie not within the investment property, but in the assumptions of the renovator.
1. Underestimating The Project Scope
Underestimating the time, hard costs and the amount of work involved is one of the surest ways to drain the profitability of your flip. You estimate 4 months of work; it takes 6 months. You estimate for new shingles, then discover you need a new roof. You estimate being on the market 4 weeks – but it sits 3 months. Each inaccurate estimate makes a direct impact on your bottom line.
2. Underestimating Or Ignoring The Non-Material Costs
Drywall, flooring, windows and landscaping aren’t the only costs that will go into your flip. To turn a profit, you need to anticipate all the other costs you’ll incur: Appraisals and closing costs. Building permits. Inspection fees. Realtor costs. Property taxes and utilities. Interest from a real estate investment loan.
Since some of these do not come directly out of your checking account, it’s easy to fall into the trap of saying, “Those will be covered when I sell.” But that’s just another way of saying, “It’ll come out of my profits.” Anticipate those costs up front, and build the into your overall budget.
3. Not Calling In Pros When Needed
Another common mistake: Not calling in pros when their skills, speed or insights are needed.
For example, some flippers try to save by not calling in an appraiser or inspector. Avoiding a $200 inspection can cost you thousands in undetected problems.
Others take on tasks like drywall, tiling, or even selling. While this seems like a sound idea, it could be a huge mistake. Why? A deadline-driven contractor, might finish a job in two weeks, while you might let it linger for two months. And, while avoiding a realtor cuts commission costs, a good realtor might help you sell faster, for more money, and with fewer headaches.
4. Ignoring The Neighborhood
The dream of every flipper is to buy the worst house in a great neighborhood, and increase its value by rehabbing it.
For novices, flippers on tight budgets, and flippers in tight markets, there’s a temptation to go with the cheapest house available. Unfortunately, these homes are usually surrounded by eyesores, abandoned properties or sub-standard housing. Taking on a flip just because it’s cheap could give you the seller’s worst nightmare: Owning the nicest home in a terrible neighborhood.
5. Partnering – Or Partnering With The Wrong People
Many first-time flippers will choose a partner as a way of “sharing the risk” with someone else. But that means you also have to share the profit — and minimize your upside — when the sale is made.
The real problem goes deeper: Let’s say that you personally need to pocket $50K on a flip to make it worth your while. If your flip nets $60K, you only keep $30K of it. So, even though you technically have had a successful flip, your share makes it not worth the effort.
Partnerships can work if one person has one piece of the puzzle (such as access to funds), and the other person has another piece (such solid rehab skills). But for most entrepreneurs, it’s more lucrative to go it alone. And if the only reason you’re partnering is a fear of financial loss – maybe flipping isn’t right for you.
6. Having Unrealistic Expectations Of The Selling Price
A moment ago, we talked about calling in pros when needed. It’s helpful to have a seasoned realtor you can tap for advice — especially when it comes to estimating what your property will go for.
For example, you might estimate that selling price of $495K, when its real market value is $450K. You’ve only overestimated it by 10% — but that $45K might represent a third to a half of your anticipated profit.
7. Thinking That It’s Going To Be Easy — And Fast
There are tons of TV shows that portray flipping homes in a misleading light. Sure, in some episodes things go wrong and the flipper loses money. But the most misleading image they convey is that it’s all wrapped up and done — in just one hour. That’s sort of the equivalent of the “Rocky” movies we see Sylvester Stallone gets ready for a championship fight by working out for three minutes: it just doesn’t happen that way.
Novice flippers may not truly appreciate the fact that a typical flip involves months of work, coordination, scheduling — and headaches. Enthusiasm fades. Stress builds. If you’re not prepared mentally, it can quickly sour you on flipping forever.
8. Going In Underfunded
This goes hand-in-hand with underestimating the scope of your project. When you underestimate, you not only impact your profits; you also run the risk of running out of money. In that case, your home could sit half-finished until you find or scrape together the funds you need to proceed.
Typically, you should count on your total costs (including repairs) being 70% of the ARV (After-Repair Value) of your home. If you pay more than that, it will eat into you profit. If you have access to less than that, you increase the risk of running out of money before your flip is finished.
Learn the Secrets to Finding Great Investment Properties
Now that you have a firm handle on how to avoid common fix and flip mistakes, learn more about how to fix and flip houses by grabbing our handy, downloadable guide with all the tips and tricks we’ve learned in our combined experience flipping over 2,500 properties ourselves.