Buy a property, fix it up, and sell it for a profit? Thanks to HGTV, flipping homes has become a popular way of getting started in real estate investing, with flipped homes accounting for 10% of U.S. home sales in the first quarter of 2022.
Be warned, however: home flipping is neither as easy nor as simple as it looks on TV. When done right, it can be a fantastic way to quickly make a return on investment. But it’s also easy to go wrong. Let’s talk about house flipping and what it takes to make a profit from flipping a home.
What is house flipping?
House flipping is a type of real estate investment strategy in which the investor buys property, fixes it up or renovates it to add value, and then sells it for a higher price. The goal with a house flip is to buy a property for a low sale price, upgrade it, and then sell it quickly for a much higher sum. Unlike other real estate assets, typically bought to live in or rent, house flips are short-term investments purchased to make a quick profit. Most investors will generally concentrate on one type of property or region.
The pros and cons of house flipping
While house flipping can be a fantastic real estate investment strategy, not everyone is a home flipper. It would be best if you could withstand a certain amount of risk and deal with high levels of pressure, not to mention a working knowledge of how to fix up a house cheaply so you don’t lose all your profit on contractors. If you can do that, flipping can be a very lucrative business. Here are some pros and cons of house flipping before jumping in.
Pros
1. Profit potential: According to Attom Data Solutions, a provider of property and real estate data, the gross profit on typical transactions stood at $67,000 in the first quarter of 2022, up 5.5 percent from $63,500 in the fourth quarter of 2021. When done right, a house flip can result in significant profit in just a few short months.
2. Diversification: Diversification is the key to success as a real estate investor, and as one of the less risky investments, flipping homes can be a valuable addition to your investment strategies. While you may have other real estate holdings that you invest in for the long-term, a single-family home or apartment complex that you buy to flip can be a short-term move to generate some cash for more longer-term assets.
3. Gain experience: Flipping your first home will be a stressful but educational experience. Flipping a home will give you acute insight into working with contractors, performing DIY repairs, and understanding building codes. It will also teach you how to do so on a tight budget. This knowledge can be precious as you grow your real estate holdings and purchase more properties in the future.
4. Insights into real estate markets: Many of the homes you buy to flip may be in a distressed condition or coming from distressed sellers. When flipping a property, you will learn about housing markets, regional values, and up-and-coming areas. An insight into local and national market trends can be extremely valuable for a long-term real estate investor.
Cons
1. Run-down homes: When you buy a house to flip, it will come with its share of issues. There could be high costs to fix the home to make it ready for resale and get a reasonable price. It would be best if you were mindful of this when you purchase. You want to buy something that not only recovers the cost of the repairs and renovation but also brings a decent profit. And sometimes, despite your best intentions, you may spend more on a home than you can sell it for, resulting in a loss.
2. Selling time varies: In theory, you would purchase a home, fix it quickly, and then sell it straight away for a tidy sum. In reality, this is not always the case. The renovation may take longer than you expected, the home may take a lot longer to sell, or you could run into timing issues with the general marketplace—an economic downturn or a pandemic, for instance. These are all risk factors worth keeping in mind.
3. Requires planning and budgeting: If you’re not the best budgeter or planner you know, consider bringing someone in who is. It would be best to keep costs low to maximize profit from a flipped property. And to do that, you will need to work on a tight schedule and a tight budget. The longer you let the project go, the lower your profit margins will likely be. This can be intensely stressful, especially if you’re inexperienced and new to house flipping.
4. Unanticipated costs: You will estimate down to the last penny, create budgets, and plan for everything. And, without fail, still, come face-to-face with unanticipated costs. While you can minimize this by hiring the right team and ensuring you have the right checks, unexpected costs are an expected part of a house flipper’s life. The best thing you can do is plan for it and leave some room in your budget for the costs when they arise. Also, don’t forget that renovating a property naturally increases its value and property taxes.
How to get started with house flipping
There are a few essential steps to getting started with flipping houses. It’s good to keep these best practices in mind to increase your odds of success and reduce financial risk.
1. Set your purchase price
It’s important to remember that you’ll probably end up spending more than you planned, so, instead of keeping your estimates conservative, make your budget as high as possible.
The 70% rule is commonly cited among real estate investors as a way to determine the ideal purchase price of a property. According to the 70% rule, the purchase price of a property should be no more than 70% of the home’s after-repair value minus repair and renovation costs. If the ARV of a home was $100,000 and it needed $10,000 in repairs, then 70% of the ARV would be $70,000, and subtracting the repairs, that comes to $60,000. In this scenario, you wouldn’t want to pay more than $60,000 for this property.
Knowing exactly how much money you have to purchase a property is essential. The goal of flipping a house is to make a profit, and if you end up paying too much for a property that needs renovation, the costs of fixing it up could eat into your profit and even send you into a loss.
2. Find the right property
The property you buy is one of the most critical factors determining your flip’s profitability. But it’s not just the actual house; it’s also the location. Cities with the highest average return on investment for flipping a home include Scranton, Reading, Pittsburgh, Johnson City, and Buffalo in New York. The cities with the highest rates of flipped home sales are Phoenix, Charlotte, Tucson, Atlanta, and Jacksonville.
Researching the real estate market in a city or neighborhood can be as important as looking into the actual property itself. You want to look at school districts, crime rates, and the local economy. You can purchase a condo and do it up very nicely, but if it’s in an area known for low home prices, you might not be able to sell quickly or for the price you want.
Once you understand the neighborhood and the market, it’s time to find the property. Properties that are good candidates for flipping include:
- Older homes in need of repair.
- Short sales are homeowners who are about to be in foreclosure and want to sell for less than the current mortgage balance.
- REO, or real estate-owned homes, are properties that have been foreclosed on and are owned by the bank.
- Homes that have been inherited, especially by out-of-state owners looking to sell quickly.
3. Finance the purchase
Most real estate and personal finance experts advise that you flip houses only if you can purchase the properties with cash. If you take on debt for the purchase and the renovation, you’re putting yourself at additional risk and pressure, leading to desperate decisions if things don’t go to plan. When you purchase with cash, you don’t have to pay high interest rates, have no rush to sell, and may have more flexibility if unexpected expenses crop up.
That said, it’s not always possible to purchase a property with cash, especially if you’re just starting. Statistics show that 40.5% of flipped homes are purchased using financing. However, if you’re financing your house purchase, don’t forget to include these costs when calculating profit. Some options for funding property to flip include:
- Hard money lenders
- Home equity line of credit
- Investment property line of credit
- Cash-out refinance loan
- Bridge loan
4. Renovate the house
Once you’ve purchased the property, the real work begins. Before you start renovating, however, consider making both a budget and a timeline for repairs so that you can stay on track and not overspend. Each house and each renovation is different, so while one may take three months, another could take six. Make sure you clearly know what upgrades will be needed and how much time, money, and personnel you’ll need to get it done.
If this is your first flip or you don’t have experience with renovation, consider hiring a trusted contractor. While this may seem like a significant investment, reputable tradespeople who know what they’re doing can save you from costly and time-consuming mistakes that can set you back.
5. Sell the property
Now it’s time to sell the property and cash in your investment. Enlist the help of a real estate agent so that you can widen your reach and find the right homebuyers.
Depending on the house and the work you need, you can flip a house from anywhere between six weeks to a year. Ideally, it would be best if you aimed to make improvements quickly and sell the house as quickly as possible.
Easily invest in rental properties with Arrived
The bottom line is that flipping homes can be a fantastic way to start real estate and quickly make a lot of cash. However, flipping homes is labor intensive, requires an investment of funds, and can be highly risky if you don’t know what you’re doing. Arrived Homes might be the right fit if you’re looking for an easier, more hands-off way to get started in real estate. Our fractional ownership model allows you to get on the property ladder without the hassle of landlords for a fraction of the cost. Look through our available properties on this page.
The opinions expressed in this article are for general informational purposes only and are not intended to provide specific advice or recommendations for any individual or on any specific security or investment product. The views reflected in the commentary are subject to change at any time without notice. View Arrived’s disclaimers.
