Most instruction on house flipping teaches people how to do a segment of the house flipping business so they can be involved in the process. Well, the process is very extensive. You have to be able to purchase, repair and market the property. And you have to do all three very well to be successful in the home flipping business. Most people do not have the capitalization and/or skill set to do all of those things. Let’s break it down a little bit more.
Hi it's John welcome to John Wilhoit on Real Estate. Today's topic is Houses: To Flip or Not to Flip and the Number One Thing to Avoid.
I'll start out by telling you upfront that I'm not a heavy advocate of the home flipping business. I understand it has its advantages. I have been there myself. That's how I started many years ago in the real estate business by flipping a few homes. But that's just one single road of all the roads we can take within the real estate industry. And I think it's kind of been oversold.
You always know something has been oversold when you see too many commercials for it, right?
Whether it's electric cars or self-driving cars. When we start seeing a lot of information about something we know that it's coming to a head. We know that it's something that a lot of people have interest in but it doesn't necessarily mean it's for everyone. That's my bend on flipping houses; it's not for everyone. I think there's more people giving seminars on house flipping than there are attending seminars on house flipping.
I wanted to do a program about my perspective on home flipping. And as I shared I started my career by flipping homes. I think had I kept five or ten of the first Homes I had flipped versus selling them, I'd probably be better off. But that's a misnomer. Because you can't keep every home when you're flipping homes because you have to sell one to buy the next.
We have to sell the next one to buy the next until you get to a point of capitalization where maybe you can buy one and hold it and buy another and flip it. I'm not suggesting that it's a business to be avoided. I'm just suggesting it's one of many types of ways you can be in the real estate business and it's certainly by far not the only one.
With respect to home flipping while I'm not an advocate, but there is some meat on the bones there
It does have some potential for some people but not as many people as I think are pretending to be in the business today and devoting so much time to home flipping when there's other things they could be doing within the business that gets them to where they want to go. With home flipping it takes the real estate business down to a bite sized piece but it's still hard to swallow because most people really don't have the requisite skill sets to complete a flip from start to finish. And that's understandable because there's a lot of steps to it.
The standardized teaching out there in the world is to teach people how to do a segment of the house flipping business so that they can be involved in the process. Well the process is very extensive. You have to purchase. You have to repair often and you have to market a property. You have to do all three of those things well to be in the home flipping business and most people don't have the capitalization and/or the skill set to do all of those things. But let's break it down a little bit more.
We talked about purchase, repair and market
With respect to the process, the first part is finding, negotiating and purchasing a particular property and it's a very competitive marketplace. Granted, some places more so than others but with respect to house flipping you can't go out into the country where there is no one and buy a property for $20000 and hope to flip it for $30,000 because if that were true, if that were easy, somebody would have already done it.
The reason the property is only $20,000 is because nobody wants it. Nobody wants to be out there. When you come closer into the population centers where there's more people that automatically means there's more competition and margins shrink. You have to be selective on what you purchase which means you have to be selective about where you find it, what it looks like what the margins are in your negotiations, just to get to the purchase part of the transaction.
We haven't done anything yet with respect to the flip other than identify property and attempt to negotiate a price and that price point takes a lot of penciling because you have to buy it right to make a flip work. That's the first part. Purchasing property.
The second part is repairing the asset and most properties that are flipped are flipped because there is a margin there. That means that there's work to do to get the property in shape for a market sale. In the repair segment, there is estimating the work, scheduling the work and then doing the actual repairs. All of these, again, are different skill sets from just purchasing an asset.
This requires of you to be very good with numbers and also have the cash to have made the purchase, right? So, you would have had to made the purchase and now you're looking for additional dollars to do the repairs.
Your estimating skills have to be almost at the professional level from the very beginning
Otherwise you're going to go under by under-estimating the repairs necessary to get the property up to speed so that it can be marketed. And once we get to the marketing phase we have a whole other set of skills necessary. First we have to have skills to find and negotiate and purchase the property. Then to estimate the repairs.
Before we purchased the property an estimate of the market value and hold time for the property is necessary. You have to over-estimate just to make sure that you will have some nominal or reasonable margins on the sale because you don't go through all these steps just for the sake of selling the property for what you paid for it, right?
The objective is to generate a profit
Look at all the things that you need to be good at to get to the point where there is a margin. And in today's marketplace a net margin of 10 to 15 percent is very good. Margins higher than that is exceptional. And the reason the margins are so low is because there is competition.
In this particular episode I am not talking to people that are in the business full time and have been doing this for a while because they're going to have greater margins because they've got all of their systems in place. They have their vendors in place and they have their processes, they know their markets. They're already in the business.
For someone just coming into the home flipping business and wanting to do their first flip, you have to be capitalized beyond the amount of money that you think is necessary
And if you're not, then you're already created undue financial risk for yourself. Because however much you think you're going to need in terms of cash to get the deal done from soup to nuts, you're very likely going to need more than that based on this being your first deal. It doesn't matter who you are; a flip never goes perfect. There's always some glitch in there and the question is what is it.
Is it new found repairs that add another five or ten thousand dollars to the transaction to get the deal done just on the repair piece? Is it that you're expecting a 60 day hold and it's actually a six-month hold? Is it that you thought market values in this neighborhood were $220,000 when in fact they are only $200,000? There's all these things that are elastic, that move over time. You have to be an expert in all those areas from the very beginning.
If you are in the deal by yourself attempting to do a flip, the only surefire way to make money flipping houses is to do it on an all cash basis and to buy it for less than 60 percent of retail and then add to that if you can do all the repairs yourself which lower’s your cost on the repair side.
All of those skills are seldom found in one person, right? Someone that has enough money to buy all cash, that has the skill set to do the repairs and they can do the estimating to know without a shadow of a doubt that the purchase price that they are rendering for the property is at 60 percent or less of retail value? You can see that there's a lot of skills necessary here just to get the deal done right.
What happens in a seminar environment today? People go to these public seminars and they buy a package that will teach them how to flip homes assuming that everybody can do everything. Or, they will just share in a seminar how to do one particular thing that will get you in the game. And here's what I'm suggesting is the number one thing to avoid irrespective of what seminar you've attended:
Avoid becoming a bird dog for someone else to flip the house
I say that with all sincerity because becoming a bird dog requires an excruciatingly large amount of time. And before you put that time into looking for properties for someone else to flip, use that same amount of time devoted to your own segment of the real estate business or devote that same amount of time to a job or a position that will create additional income for you that will allow you to go and purchase a property on your own.
Too many times I've run into people, and I'm seeing this over an extended period of time, where someone has put 200, 300, 400 hours into looking for homes for someone else and someone else purchases the home and they flip $5000 to the “dog.” Well that's a lot of time for $5000.
Before devoting that kind of time on a whim or on the potential of maybe making that kind of money, that same person could have devoted the same amount of time to working a part time job somewhere and probably earning the same amount or more- and that's a successful bird dog. That's someone who earned the fee.
I'm suggesting to you that most people that do this never earn a fee at all. They give up before the process gets to the point where they found a property only to hand it off to someone else only for someone else to flip it only for them to get a small fee. And most people, but the time they get to that 300 hours or 400 hours, and haven't found anything, that's when they kind of fade out of the business.
I'm suggesting please don't do that. Take that same amount of time, put it into an endeavor that will generate revenue, generate money for you and take those dollars and put it into a piece of property that will be yours, one that you will own. For the novice please stay away from bird dogging house flipping deals for other professionals that are in the business full time. They've got plenty of other people that are doing that for them and you don't need to be one of them.
Let me recap. Let me go back to where we were from the beginning with respect to the process. If you want to be in the home flipping business you have to know:
Those are the three overarching items that you have to be good at to be in the home flipping business. And then within that, for purchasing a home to flip, you have to:
That's item one: purchase the transaction. Secondly, you have to be able to:
You have to understand the market dynamics of where the property sits. You have to understand what the market values are and have a good grasp of what the market hold time will be. Don't be conservative! If anything, take it out three months further, six months further so that you know that you know the property will sell within the market time that your business plan has structured. Recognize that home flipping is a very capital intensive business. And any use of creative financing really puts a target on your back.
There are a lot of people that go into the home flipping business using other people's money: they don't read the fine print
The fine print says all the things you don't want to hear. If anything goes wrong it's on you. If there's a negative, it's on you. If there are overruns and costs, you. People are so hungry to get into the game, to get their first deal done, they'll do anything to get access to capital for that first transaction. If that's you--> please read the entire document. Please read the fine print and please have legal counsel on your team to guide you through the process so that if the deal goes upside down, that's an unfortunate event, but let's not make it an unfortunate event that has future negative financial consequences. If this is your first transaction and too many things went wrong, and if someone loses money we don't want you to be the one responsible for having to repay that money that was lost.
That's the reason to have legal counsel so that you have people that can guide you through that process. As much as it sounds like I'm trying to get people to stay away from house flipping, I think home flipping, like I said, is just one of the many roads that you can take within the real estate industry, but it's one that requires a high level of skill in a number of areas.
If you don't have all of those skills then go forward with trepidation because all of those skills are necessary to get the transaction done and to have an opportunity to generate a profit. If you're missing one of those skills then your potential for profit exponentially decreases because there's no shortcuts in life. Certainly, there's no shortcuts in real estate and there are definitely no shortcuts in flipping homes either.
Thanks for listening today. I hope you learned one new thing. I appreciate you listening to our show.
John Wilhoit is the Author of five books, including: "How to Read a Rent Roll: A Guide to Understanding Rental Income". Join the conversation at JohnWilhoit.com for updates, blogs, books and podcast.