In March-April 2020, the rental rate decreased by 0.5%, which is the largest drop in the last 5 years. It is difficult to predict further decline or possible growth. At the same time, the demand for housing purchases is steadily increasing. This is what prompted investors to pay attention to House Flipping. On the one hand, this type of investment seems too labor-intensive, but on the other hand, it is an opportunity to get more income than from a quick resale of the object.
What exactly do the “flippers” make money on and why has it become demanded?
It all started with numbers. According to the Association of Mortgage Bankers, the home buying market remains in positive dynamics, despite the pandemic and the decline of the global economy. People keep buying real estate. On average, the number of applications for a mortgage is growing by 6–9% every month. Most buyers have limited personal funds, so they tend to purchase the most complete housing, that is, that satisfies their needs: renovated, household appliances, for someone with a pool and garage. Relying on the wishes of potential customers, investors buy apartments in satisfactory condition at a low price, invest in renovations, furnishings, and only after that they put the object up for sale again. It is risky, just like all investing, but the income is much higher than from simply reselling houses.
Experienced flippers stick to the 70% rule. This means that the house is bought for 70% of its estimated cost after renovation, taking into account the deduction of costs for consumables and the work of specialists.
For example, you realize that you can sell a home in this area for $ 200,000. On average, a good repair will take about $ 40,000. This means that you need to look for an object worth no more than $ 112,000 (200,000 x 70% — 40,000 = 112,000).
It should be borne in mind that in more prestigious and expensive areas, in proportion to the cost of the house, repair costs also increase. For example, on the coast, where the average real estate price is about $ 1 million, the cost of repairs will be 5 times higher than for the renovation of an economy segment house, even with a similar area, and will amount to about $ 200,000. The reason is that with the same cost of building materials, the cost of labor — builders — is several times higher.
The 70% rule is not a 30% profit guarantee, but it helps to filter out inappropriate offers at the first stage of the search for an object.
Checklist for working with property unit.
Investing in real estate is all about numbers and calculations. To make the deal profitable, use the checklist:
1. Estimate the house in its current state. Consider how you can improve it to determine the range of resale prices. Find out the average home prices in the area. Be realistic about your assessment. After buying a small house in a disadvantaged area, you will not be able to sell it as a luxury segment, even if you cover the walls with gold.
2. Describe the costs associated with the purchase and sale of real estate: the work of realtors, appraisal, preparation of documents, transfer of ownership, and so on. Usually, investors put about 8% of the cost of the object on this. If we go back to our example with a house for $ 200,000, then for such services it is necessary to mortgage $ 16,000.
3. Calculate the cost of materials and other repair costs in a specific area, not the national average.
4. Think about how long it might take you to renovate and then sell your home to calculate maintenance costs: taxes, utilities, electricity, water, sewage, homeowners’ association fees, and so on. Depending on the area, you can sell a house in a few days, or you can look for a buyer for several months. Taking into account the forthcoming cyclical crisis in the real estate market, it is better to budget for 2–3 months, or already for 2–3 years.
5. Consider the cost of loans and mortgages separately if you are going to use them.
6. To understand how profitable your resale is, consider profit margin as an expense.
Each object has its own characteristics and it is necessary to carry out an analysis based on a specific proposal. A checklist is not a guarantee that you will not lose money, but it will definitely help you avoid many mistakes and minimize risks.
What else is important?
The speed of searching and buying objects, as good offers do not last long. The speed of renovation, as every day you own the property reduces your potential income. Selling speed, as no one is immune from unforeseen situations and broken pipes. And, of course, do not forget about the changes in the market. What you predicted to sell for $ 200,000 today may be worth only $ 100,000 tomorrow.
If you gather around you an experienced team of contractors, real estate agents, loan officers, plumbers, electricians, and so on, then the processes of reselling homes will begin to go faster and you will stop worrying and redoing the same thing several times, losing valuable time and profit.
Where to look for houses at a bargain price?
The first thing you should pay attention to are sites of mortgaged real estate and auctions of bankrupt housing. These are houses that the owner cannot pay for and banks or lenders put them up for sale. As a rule, banks are interested in quickly getting their residual share, so real estate prices there are below market prices.
You can quickly find a house and assess the investment potential, including construction and renovation costs, through specialized services, for example, Zillow for the American market or Fincase Fond for the Russian market.
If you want the adrenaline rush of competition, then visit auctions and public trades.
The most exciting way to find the right property is to drive around the area of interest. Pay attention to abandoned, dilapidated houses, write down the address and conduct your mini-investigation to find the owner.
If your interest is in reselling, rather than searching, hire an intelligent real estate agent who will filter out unsuitable options in the first step and suggest the best.
Remember that no matter how exciting and profitable the business may seem, investing is a risk that can be minimized by cold calculation and a real assessment of your own funds and forces. Resale of refurbished homes is not a passive income, unlike, say, equity investment or home rental. Finding, buying and repairing itself takes a lot of time. But it’s worth a try. On at least one project and who knows, you might like to give new life to old houses.
Dmitry Tsyplakov, CEO/Product manager of Fincase
Denis Podshivalenko Ph.D., MRICS, digital asset valuation expert, CEO of vOcenke.ru exchange