In 2012, I went in with a friend and bought the house next door to mine. We renovated it, rented it out for a year, then recently listed it. All told, we’ve got about $450,000 in it and have it listed for $645,000.
Sounds good, right? It certainly does to people like the author of this week’s reader question.
Here it is:
Hello. Is investing in fix and flip homes a good idea in our present economy? — Robert
Flipping Houses: Not as Easy as You See 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 nearly 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?
You can definitely make money in real estate. You can also make money in retail arbitrage, antiques, art, stamp collecting, cars … you name it.
The potential fly in the ointment: Making money, whether in real estate or anything else, requires 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 — if you can call it that — is the one I described at the beginning of this post. Since it’s not yet sold, I haven’t flipped it. And even if it sells tomorrow, I’ll have had it for nearly two years, which hardly qualifies as a flip.
But I have been tinkering with real estate off and on my entire adult life. I’ve owned a dozen or so rentals, as well as some development land and a handful of personal residences. I’ve also put in countless hours 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 odds of making money are inversely proportional to the amount of time you’re willing to wait.
In other words, the shorter your 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 perfect 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 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. Put another way, you just lost your life savings.
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 be a challenge.
People who successfully flip houses for a living often have an experienced full-time construction team moving directly from one house to the next. If you’re flipping only the occasional house, you’ll have months between houses, and your team will drift away. You’ll have to rebuild it, costing time and, ultimately, money.
In addition, if you’re going to flip, you’ll need a Realtor on your team. Otherwise, you’ll be paying 6% of the sales price every time you sell. If you’re holding long term, appreciation can offset that cost. If you’re not, the selling agent may be the only one who makes money.
Find a mentor. When I graduated from college, I was eager to learn as much as possible about investing in real estate. I read a few books, then found the best possible mentor: my landlord. He owned more than 100 rental houses, so as often as I could, I followed him around asking as many questions as I felt he would tolerate.
Of all the tips offered here, this is the most important. No matter what you want to succeed in, the single best thing you can do is find someone who’s been there, done that. Then ask questions until they either teach you what they know or get a restraining order.
Timing and location. I live in South Florida, so I witnessed one of the best — and worst — house-flipping markets in history. Leading up to the housing implosion of 2007, even a moron could make money, because housing prices were escalating at a feverish pace. After the bubble burst, however, even a genius couldn’t break even because prices were plummeting.
Obviously, as with stocks, a rapidly rising market is where the easy money is. But if you know your stuff, a stable market is also fine. Just don’t ever buy in cities where employment, and thus population, is shrinking. When that’s happening (think Detroit), supply will outstrip demand, and there’s nowhere for real estate prices to go but down.
Don’t Be Discouraged
If I’ve made the process of buying and selling property appear complicated and/or dangerous, that wasn’t my intention. This isn’t rocket science, and I’d encourage anyone with an interest to pursue it. All I ask is that you go into it with your eyes open and do lots of learning before you attempt to do any earning.
This post originally appeared on Money Talks News.
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