BILL BYRD, REALTOR

FIX-AND-FLIP VALUE vs. AFTER-REPAIR VALUE

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The cost of acquiring the property plus the cost of the repairs is the fix-and-flip value, but that’s not what investors are chasing. They are seeking after-repair value (ARV), which is the approximate market value of the property once the repairs are complete. The difference between ARV and the fix-and-flip value is the expected profit.

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It makes no financial sense to buy a house, spend $25,000 fixing it up, then flipping it for the purchase price plus $25,000. Investors would neither gain nor lose money that way, but would waste a lot of time and effort. The point of fix-and-flip is to spend $15,000 on new plumbing and electric infrastructure, which adds $25,000 to the resale price. Meanwhile, the investors could spend another $10,000 fixing up the windows and shutters and improving the landscaping, adding another $20,000 to the home’s curb appeal. In this case, $25,000 in renovations yields an expected resale that’s $45,000 higher than the original purchase price. The profit for the investors, then, would be $20,000.

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The question becomes, why would the final homeowners — the ones who bought from the fix-and-flip investors — pay $45,000 for work that might have cost them only $25,000?

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Let’s assume the new homeowners fairly sophisticated. They know what fix-and-flip is. Also, they’re aware that this is what happened to their new home over the past few months. It could still be well worth it to them. After all, they probably aren’t inclined to do the work themselves and might not know reputable, competent contractors. Also, and most importantly, they may not have the cash on hand to finance the repairs. Further, they’re probably seeking the immediate gratification of moving into a home that’s habitable and comfortable on the day they make their down payment.

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TOP 8 REASONS WHY FLIPPING HOUSES IS A BAD IDEA

 

As a supporter of full-time house flippers, it might seem strange that I am writing a section about why flipping houses is a bad idea. However, being a supporter of full-time house flippers gives me direct and first-hand knowledge of not only the pros but also the cons of flipping houses.  While I love flipping houses with my partners, the fact of the matter is there are a lot of negatives to house flipping and it's not a good fit for everyone.   

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While there are many positives to flipping houses such as the potential to make a quick profit, being your own boss, and a flexible schedule there are also many negatives to flipping houses. Some of the negatives to flipping houses can include the potential to lose money, large amounts of needed capital, very time-intensive, stress and anxiety, time and opportunity cost, physical and manual labor, and high tax bills. So, before anyone jumps in, they should know more about the downside to fix-and -flips.

 

Let’s take a closer look at the top 8 reasons why flipping houses is a bad idea to help you decide whether flipping houses is a good fit for you, and if we should work together.

 

1. Potential to Lose Money When Flipping Houses
 

While we all have heard stories about the guy that made a fortune flipping houses or have seen the TV shows that tout spectacular profits from house flipping. The fact of the matter is, flipping houses is a form of real estate investing and just like any other type of investment, there is a very real possibility that you can lose money as opposed to making it. While there are many things you can do to minimize your chance for loss on a house flip such as knowing and understanding your real estate market, buying the house right, having a workable plan, and using a detailed budget even with all of these tools in your house flipping toolbox, the potential is always there to lose money on a flip. So if you have an aversion to risk or speculation house flipping may not be a good fit for you.

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2. Large Amounts of Capital Needed to Flip Houses
 

House flipping is very expensive not only due to the money needed to purchase the home but also because of the money needed to rehab and hold onto the property. So unless you or your house flipping partner has deep pockets, the sheer amount of money needed to flip a house can keep you on the sidelines.

 

While it’s true there is potential house flipping loans out there such as hard money loans and private money, it's not always easy to obtain these short-term real estate loans and they can have very high-interest rates. I’ve actually heard of some hard money lenders loaning money at an interest rate as high as 15% - not to mention the upfront points that can be charged at the start of the loan.  

 

3. Flipping Houses Can Consume All Your Time
 

It can be hard to explain to someone who has never flipped a house before, just how demanding flipping houses can be on your time.  While it’s true that flipping houses lets you be your own boss and offers some short-term flexibility in your schedule when you are flipping a house it tends to consume all of your waking moments. It really is amazing how even the simplest of tasks that you budget an hour or two for can end up taking all day; especially when it comes to rehabbing the property.  In fact, there is even a running joke around the worksite of our flips that however long you think a task will take, you better double it. So if you are someone with very little time on their hands and you cannot devote a substantial amount of time to a house flip, then flipping houses might not be a good avenue for you. 

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4. Stress and Anxiety When Flipping Houses
 

Even with the most well-laid plans and detailed budgets often times things don’t go as planned when flipping houses and unexpected surprises are almost never good.  Such as finding out the house your working on needs to be completely rewired to bring it up to code. House flipping is a lot like a roller coaster with a lot of highs and lows.  While it can feel great to reach the finish line and receive a big paycheck, there are usually a lot of lows and high-stress situations along the way. So if you are someone that doesn’t handle high-stress environments or bad news well house flipping might not be the best choice for you.  

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5. Time and Opportunity Cost when Flipping Houses
 

Watching house flipping TV shows can give you a distorted sense of reality when it comes to the amount of time it really takes to flip a house.  As house flipping shows tend to not paint a true or clear picture of the amount of time it actually takes to flip a home. Speaking from a house flipper's perspective, the fastest I have ever flipped a home from the purchase to the sale was 3 months and on average it usually takes closer to 6 months to complete a flip. Because of the amount of time, it takes to flip a house, you need to consider the opportunity cost associated with house flipping not only in relation to the amount of money being tied up but also the amount of time that must be invested. Knowing that a house flip can take a half a year or more to complete, is there something else you could be doing with your money or your time that would yield better results?

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6. Lots of Physical and Manual Labor
 

Flipping houses usually means a lot of long hard days filled with manual and physical labor. While it’s true you can farm some of the work out to subcontractors, a lot of the manual labor usually falls onto the house flipper because of the lack of qualified workers and the high cost of labor. Some work is completed by professionals but the bulk of the work usually centers around technical jobs like electrical and HVAC that we're not qualified for; while a lot of the grunt work and physical labor we do ourselves to protect the profit of the house. In all honesty, if all the work to be done on a home were hired out, there wouldn’t be a profit left at the end and more than likely there would be a loss. So if your someone that doesn’t like to get their hand’s dirty, house flipping is more than likely not a good fit for you.

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7. Re-selling At A Profit Is Not Guaranteed

When you are ready to flip your investment, remember the market climate will either optimize or reduce your optimum profit. If it is a seller's market, you will be in charge and most likely optimize your rate of return. If it is a buyer's market, you may choose to hold the property and rent, then remodel and sell when the market is in your favor. Remember, though, if you buy in a seller's market and sell in a seller's market, you will are taking on risk and may be exposing yourself to losses. So again, run the formula and make sure you are adjusting for potential market shifts when you are ready to sell. 

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8. Flipping Houses Can Lead to High Tax Bills
If you’re going to flip houses then you need to understand and be prepared for the typically high tax bills that go along with house flipping. Because house flipping is usually a short-term investment (less than 1 year), you are taxed at the short-term capital gains rate which can be much higher than the long-term rate. The only way to avoid this, is to rent the property and hope the market holds the price when you are ready to sell. Beginning and new house flippers are usually shocked by the amount of money they have to pay in taxes on the profits from their flip which can be as high as 40% or more depending on the amount of your overall income. 

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