There’s a lot to consider when entering the world of house flipping.
Two of the most common questions among new investors are: how much does it cost to flip a house and will I make a significant profit? To answer these questions and help you create a budget for your first flip, let’s go over a few key factors.
Rehab and renovations
Along with the cost of the house, there are costs associated with the rehab of the house, including the materials and hiring contractors to do the work you can’t (or don’t want) to do. Investors new to flipping houses will probably choose to start with single-family properties vs. multi-family properties to cut down on costs for rehab and renovations. Of course, the average renovation costs depend significantly on the current state of the home. A home that just needs some fresh paint and a new appliance or two will be less expensive than a home that needs a new roof, walls, or a complete gut job. Home renovations usually fall under three categories: cosmetic, moderate, and extensive. Aesthetic or cosmetic repairs are going to be the least expensive to make, but will contribute significantly to the profit you make when selling the home.
Buying a home that just needs some cosmetic repairs and some TLC can drastically improve your return on investment. New investors can learn as they go by starting with a home that just needs a little love, and work their way up to homes that need significant repairs. However, the beautiful thing about house flipping is that with the right tools, resources, and time, you can successfully flip a house regardless of your experience. You’ll probably learn a lot from trial and error, but that’s all part of the fun, right? The end goal is to get as much for the property as possible without putting a ton of money into it. Doing things like replacing cabinet hardware or giving an interior room (or two) a new coat of paint can give the home an upgraded feel and increase the purchase price. When it comes to buying new appliances, don’t forget to factor in the cost of delivery and labor to get them installed properly.
Moderate repairs include things like renovating the kitchens and bathrooms or painting the exterior. These things will require the knowledge and experience of a licensed contractor, which means your labor costs will be higher than for cosmetic repairs. Homes that need these types of repairs will probably be cheaper to buy, but remember to consider the time that it’ll take to complete these renovations and what costs will be carried over during that time.
Homes that are in need of another bathroom or have serious issues with the roof or the foundation will be tempting to purchase because the acquisition price is so low. consider the money, time, and commitment before investing in a property that needs extensive repair work.
The longer it takes you to flip a house, the more you’ll pay in carrying costs, which include utilities, financing, and property taxes. As you become more experienced, the time period between purchase and sale will decrease, and so will the costs. Along the way, you’ll learn the tips and tricks to save time and money. But if you are new to the game, avoid getting stuck with a property that takes forever to renovate and ends up costing you more.
Insurance and utilities
There’s the cost of the home, the cost to make the renovations, and then there are taxes, insurance, and legal costs. It’s necessary to buy property insurance when you’re investing in a fix and flip. Property insurance varies greatly by location, so it’s important to figure out the average cost in your area and work that into your budget as well. Contractors need water and lights in order to do their jobs, so it’s imperative that you get the utilities for the home up and running as soon as possible to avoid delays. To get an idea of what this will cost you, you can contact the previous owner for a breakdown of the average monthly utility bills.
Once the fixing is done, the flipping can get underway. Getting the word out that you’ve got a recently renovated property for sale may not be as easy (or cheap) as you think. While word of mouth, “For Sale” signs in the yard, and social media are great places to start, you may want to consider adding specific marketing techniques to the budget. One of the most popular ways to get the word out is by working with a realtor. Realtors do a lot of behind the scenes work so that you can find qualified buyers without spending a lot of time. You’ll have to pay them for their services, of course, but it could be worth it if you don’t have the time, experience, or network to advertise your property effectively.
Doing the math
Understanding that there are a variety of different factors that contribute to the cost of fixing and flipping a house is one thing, figuring out how to work your specific budget around your unique situation — that’s something else altogether.
Some investors pay cash for their first properties, but this is not realistic for everyone. If you’re planning to finance your investment, there are a few things you need to know. First, hard money lenders are in the business of lending money to real estate investors. Unlike traditional mortgage companies or banks, hard money lenders loan money based mainly on the property value. This is a great option when you need money quickly and want a loan that is a little more flexible than a traditional loan.
Once you get your financing in order, there are more numbers to crunch. Having a solid idea of your after-repair value (ARV) will help you set a realistic budget to flip a house. This is the final value of the home, after you’ve worked all your magic and completed all the upgrades. A good way to figure out your ARV is to check out the competition. Seek out comparable homes in the area that are similar to your property in size, location, and upgrades. Determine how much they’ve sold for in the last three months, and this will give you a good idea of what the price tag at the finish line will look like in your situation. The ARV is the total of the purchase price plus the cost of repairs. After you’ve determined the selling price of the home, you’ll be able to budget accordingly, including your renovation costs.
The ARV can also help you determine the best price to bid on a property. The rule of thumb is to bid up to 70% of the expected sales price. To calculate the best price to bid on a fixer-upper, follow this formula:
best bid price = (ARV x 70%) – cost of repairs
This means if you find a property that has an ARV $150,000 and you figure it’s going to need $30,000 worth of repairs, the highest price you should be willing to pay for the property is $75,000. This will provide a buffer when it comes to the repairs, marketing, and other costs.
Determining your ROI
So is flipping houses profitable? If done correctly, absolutely. There is a reason why so many people find excitement, purpose, and wealth in this particular real estate investing strategy. Investors are always focused on the end goal: return on investment. There are a few different ways to calculate your ROI when it comes to fix and flip investments:
The out-of-pocket method
This method takes into consideration the money you spend out of pocket to fix and flip the property. If you are financing the home, the down payment, plus the cost of renovations, is what you use to determine the out of pocket amount.
Let’s say you put $15,000 down toward the purchase of a house and anticipate spending $30,000 in repairs. Your out of pocket costs are $45,000. If, after all of the upgrades the home the property is worth $180,000, you would have $135,000 in equity ($180,000-$45,000=$135,000). When you divide your equity by the total value of the home, you get a percentage of 0.75 or an ROI of 75%. That may look like a pretty good deal on paper, but you have to remember that the percentage is so high because, in this example, the amount of cash you are putting towards the project up front is high. This method takes into account all of the out-of-pocket expenses while also relying on the leveraging of financing to come up with a (usually) higher ROI than the cost method.
The cost method
Another way to calculate your ROI is to simply divide the equity you have in a home by the sum of all costs. This method requires factoring in all costs that come with the acquisition of the property and the rehab.
Suppose you purchase a rental property for $130,000 and spend $12,000 in repairs. Your total investment would be $142,000. If you rent out your property for $1,100 a month, you’ll earn $13,200 over the course of a year. Now factor in property tax and insurance ($200 each a month or $2,400 annually, in this example). You’d figure out your ROI this way:
Your net operating income is your rental income minus expenses, which in this case would be $13,200-$2,400=$10,800.
Your ROI is your net operating income divided by your total investment, which would be $10,800/$142,000 or 7.6%.
In order to flip houses successfully, you have to estimate how much you need going in and how much each step is going to cost you. From making the smartest bid on a property to calculating everything from labor costs to utilities, creating a well-thought-out budget before you get started is critical to your success.
Ready to launch?
If figuring out all these details seems overwhelming and you don’t know where to start, remember that they are plenty of educational resources and industry leaders like LendingHome, who can provide you with knowledge and guidance. Don’t hesitate to reach out and speak with real estate professionals who can help you start and grow a profitable property investing business.
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