In July of 2012, I went in with a friend and bought the house next door to mine. We renovated it, used it as a vacation rental for a year or so, then listed it. All told, we had about $450,000 in it and sold it in December 2014 for $625,000.
Sounds good, right? I did this because I was following my own advice, the same advice I gave you in April 2012 when I wrote “Housing Has Bottomed – It’s Time to Buy.”
But that was then. What about now? Here’s this week’s reader question.
Hello. Is investing in fix and flip homes a good idea in our present economy? — Robert
Flipping houses: Not as easy as seen on TV
While Robert doesn’t say where his interest in flipping houses comes from, I hope it’s not from one of the many reality shows on the subject. They make flipping houses look easy and virtually always profitable.
Unfortunately, the only thing most “reality” shows have in common with real life is the label.
I wrote an article a while back called “Why House Hunters Shouldn’t Watch HGTV’s ‘House Hunters.'” It’s about how horrible that show’s advice is, especially for property virgins.
I’d be surprised if house-flipping shows are any better.
Can you make money flipping houses?
The potential fly in the ointment: Making money, whether in real estate or anything else, requires either luck or knowing more about the subject than those you’re competing against.
From a recent New York Times column by Carl Richards called “Real Estate Investing Offers Only One Likely Outcome: a Low Return“:
The few, very successful real estate investors I know share three things that make them exceptions. First, they’ve developed the unique skill of identifying undervalued properties. It requires many years of painful trial and error. A three-day course on “How to Become a Successful Real Estate Investor” won’t cut it. … Second, they’ve invested the time to understand the category. … Finally, they have relationships. … Who you know matters a lot in real estate, and it can be the difference between getting the deal or leaving empty-handed.
My sole house flip is the one I described at the beginning of this post. But since I kept it for two and a half years, that’s really not a flip at all.
I’ve been investing in real estate off and on my entire adult life. I’ve owned a dozen or so rentals, as well as raw land and a handful of personal residences. I’ve put in countless hours over the years fixing up property, keeping it rented, then selling it. While difficult and sometimes stressful, it’s been both satisfying and, more often than not, rewarding.
Here’s my advice for Robert, or anyone approaching investment residential real estate.
What it takes to make money in real estate
Real estate investing shares one important characteristic with stock investing: Your risk is inversely proportional to the amount of time you’re willing to wait.
In other words, the shorter the holding period, the more elusive the profits.
Hold a quality stock or piece of property for years, and your odds of success are excellent. But hold for hours, days or weeks, and your odds decline dramatically.
Bring lots of cash: The best way to find houses below market value, which is especially critical if you intend to flip, is through judicial foreclosure auctions or distress sales. Often, although not always, this requires cash. In Florida, where I live, property purchased at county auctions must be paid for in cash within 24 hours. Since there’s no way to get a mortgage in one day, it’s cash or nothing.
If you’re buying via more traditional means where financing is a possibility, you’ll still need money for a down payment.
Then there’s fixing it up. When my partner and I bought the house next door, we spent twice as much time and money as we originally estimated. As longer-term investors, this wasn’t too painful. Had we been flippers, however, it could easily have made the difference between profit and loss.
Have excellent credit: If you think borrowing for a mortgage on a primary residence is tough, wait until you try financing an investment property. Even with excellent credit, you’ll find loans harder to qualify for, and they’ll have higher interest rates and higher down payment requirements.
Before you look at your first property, talk to a few mortgage brokers or lenders. Have them pull your credit report and discuss how much you’ll qualify for.
Know what the hell you’re doing: Before buying property, you’d better have a very good idea of what it’s worth, both in its current condition and after it’s been fixed up. You’ll also need to become an expert at how much fix-up costs will be. Mess this up, and you can easily lose more on one property than you’ll make on 10.
In my state, when you buy at foreclosure auctions, you’re responsible for knowing about any liens already on the property. Go in uninformed, and you could end up paying $50,000 cash for an $80,000 house, then later discover there’s another $100,000 mortgage you didn’t know about. Result? You now owe more than your house is worth. Or, to put it another way, you just lost your entire life savings.
Think it doesn’t happen? Check out “How NOT to Buy a Foreclosure.”
In short, as with most things in life, knowledge is everything. Don’t leave home, or buy one, without it.
Have a team in place: On reality shows, the fix-up team appears while the ink is still drying on the purchase contract. Between commercials, they turn a frog into a prince, completing the work within budget and just minutes before eager buyers begin showing up.
In my experience, construction cost estimates and completion dates are laughingly inaccurate. Simply finding someone minimally competent who will even show up can also be a challenge.