12 expenses to consider when properly analyzing a flip
How to properly analyze a flip (12 expenses to consider)
Some of my favorite and most lucrative investments have been a flip property. I typically only flip as a tool to create a large chunk of cash to use as a down payment to purchase a buy and hold. Heck sometimes I actually convert my flips into a fix and Holds.
For me flips are more of a good paying job than an actual investments but lucrative all the same. I know many people who love to fix and flip properties. They have it down to a science and they have become very good at knowing what is the best rehab to do in what areas. They understand the importance of following a proven process. Things like, what upgrades offer the best return on their investments, what fixtures and appliances and floor coverings etc. to use and the importance of sticking to your plan. Most importantly you must stick to a budget and never waiver from the budget unless unforeseen circumstances mandate it and only without trying to tighten in other areas first.
Why new investors struggle
Having a budget is critical and most people who start flipping have figured that out the hard way. The biggest challenge I see with new investors who start flipping is as purposeful as they try to be they wind up over budget and their stress levels are through the roof.
It is not that they did not create a budget; it is that they create a budget without proper diligence. All too often they back into expenses. They establish a sell price, and when considering their acquisition cost they identify how much of a budget they can afford. They then divvy that budget up to the rooms or items that need to be fixed or repaired and then they assign a number to it. Surprise, surprise they did not guess correctly, each line item goes over budget until stress mounts. Please do not arbitrarily pick a number by plucking a number out of the sky.
Perhaps it is all the media attention given to programs who show a watered down version of house flipping designed by Hollywood to be more entertaining than educational. They tend to show you purchase price, rehab cost and sale price.
The T.V, version of a flip
Purchase for $100,000, rehab cost of $25,000 for a total investment of $125,000. Then the end of the show a buyer buys it for $195,000 and the flipper made $70,000 on the property, or did he?
A Real and successful flip
Purchase for $100,000, rehab cost of 25,000 (which includes a contingency fund), holding costs, insurance cost, selling cost of $20,000 for a total investment of $145,000. With a TRUE profit of $50,000
The rehab cost is just one of the expenses of a flip and in the real world they entail many more cost than illustrated in these shows so let’s take a peek at them. Not all these expenses are in every flip and please do not let these items discourage you but instead be motivated by having all the cost considered. Having them on your budget will remind you of them so they are not overlooked.
Expenses to consider when flipping
Purchase price: You make your money going in so buying right is paramount. Take your time to find one that makes sense from the start. Remember good quality fixes on a property you bought cheap is better than cheap fixes on a property you paid too much for. Buyers do not care how much money you have in the property they only care about its true finished value.
Closing cost: Mortgage points, title insurance, basic closing fees are often overlooked when calculating costs. A local realtor or title company can give you close projections on these
Home inspections and WDO inspections: You cannot make a proper budget without getting clarity to the true condition of the property. Hidden termite or carpenter ant damage as well as asbestos and mold are common budget busters that can be mitigated with proper inspections.
Termite and pest control: Not all properties will necessarily need this, but most rehab properties are in need of rehab due to less than perfect care taken of the property. Lots of times in a distressed situation pest control has not occurred in a while.
Title issues: This should have been identified before purchase and your buying decisions should have been made around any title issues, but correcting any of these issues you may have accepted as a condition of the purchase needs to be carefully evaluated for a proper budget.
Basic renovation costs: This is often the one item most people actually do consider. Over time you will get pretty good at knowing what things costs and will be able to quickly establish cost for each item such as a roof replacement or kitchen replacement etc. The more time you spend on this to be accurate the better.
Finance costs: A common missed expense. Cost of any financing and interest payments during the hold time is something you will want to forecast often 6 months or more of holding costs incur.
Insurance, property taxes and utilites: These are very common missed expenses. The property needs to be insured. Taxes need to be paid as do utilities during this renovation time and needs to be on the budget.
HOA: Some properties have a Homeowners Association that will have an expense during your holding time. (A side note on HOA - often these HOA’s have architect committees where you will have to get any improvements to the exterior or landscaping approved. Even things like paint color may require approval in advance so you do not want to hold up your project and incur unnecessary expenses by having to wait for approval or worse yet have to repaint due to HOA restrictions.)
Landscaping, lawn mowing, water sprinklers, snow removal (in the north), may all be holding cost that need to be considered
Contingency funds: Anyone who does flips knows that regardless of how purposeful you are in trying to consider every expense that you may encounter, you may still have unforeseen expenses. Matching new product to old product may spark unforeseen expenses. Often when doing demo you uncover challenges that were impossible to see without opening walls so contingency funds are paramount. The correct amount for contingency depends on the depth of your renovation. I find 10 to 15% works pretty well for me.
Selling costs: Realtor fees, title insurances and basic closing costs all should be considered.
Setting proper budgets (Garbage in Garbage out)
Flipping is not easy, it requires a great deal of diligence, but anything worth doing does. I trust you will feel more empowered knowing you have considered all possible expenses for your fix and flip.
All these cost considerations will not be scary if they are put into the budget up front. The next task is accuracy. Only a budget with accurate line item expenses will produce good results. As the ol saying goes “garbage in, garbage out”.
This is something that improves over time, but getting them as accurate as possible is the key to success. So how do you get them accurate as you first start? By building your Power Team.
Your Real Estate Power Team
This is indeed a relationship business; yes it is true no one does a profitable fix and flip project alone. You do not want to wait until you buy a property to find contractors, plumbers, electricians, etc. Networking and finding tradesmen you know like and trust up front will be vital to your success.
You can use these people to help you create accurate budgets for your repairs and having a relationship with these tradesmen up front may aid you in getting your project work done on time and on budget.
You may, from time to time, need to ask your tradesmen to pull you a favor to get the work done on your required time so these relationships may prove to be one of your best cost saving items in your tool bag. Plus if you become a repeat customer they become more loyal to you and give you priority services.
Your power team can be advocates for you
Additionally these people on your power team become great advocates for you. They can be your eyes and ears on new projects that come available helping you to find your next flip.
I always recommend to let your entire power team know your growth strategy. Let them know what you want to accomplish and encourage them to help you build your portfolio. They know if they bring you more properties they will have more future business as well. As the saying goes about a Team: T.E.A.M. = together everyone accomplishes more.
Another great resource for Flipping is to understand The Who, What, When, Where and How to Fix and Flip Real Estate for a Profit