Newbie Alert – Don’t Buy Into the Wholesaling Hype
I know that a lot of you are struggling to find direction in real estate.
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This is evident from the daily posts on the forums here at BiggerPockets, and it is understandable indeed as you are bombarded with conflicting messages coming at you from every direction.
I received a call from a fellow BPer yesterday. He is not a newbie; he has been trying the wholesaling racket on for size unsuccessfully for 9 months. Did this sink in? Let me say it again – he has been trying UNSUCCESSFULLY to wholesale houses for 9 months! Now – the wisdom which lead him to me is not entirely clear to this dumb landlord (me), but he, and we talked, and he asked and I answered – he needed clarity.
Don’t know about clarity, but I think I did OK for him. The guy is rather sharp indeed and asked all of the right questions, so I think that he’ll be just fine. After about 45 minutes, he thanked me and said that I helped him to visualize things quite a bit.
Today, in hopes of helping a few more of you newbies out there, I’ll do my best to outline the central points of what was said.
Why He Struggles
As I mentioned, when he called the first thing out of his mouth was that for 9 months he’d been trying to figure out wholesaling. He told me that in that time he has had 2 deals fall apart on their way to closing. He told me that retailers seem to be excruciatingly particular and simply will not invest outside of very narrowly defined geographical areas and economic parameters. The numbers, he said, have to be an absolute flat-out slam dunk…!
Are you paying attention – you guys? You think your neck of the woods works any different?
He further told me that he has been marketing, and he is getting leads, but it is extremely difficult to find the type of spreads that make wholesaling possible, and I know that he is not lying because I know his city very well – I lived there for 7 years!
Now – as it turns out, this young start-up is doing wholesaling as a means of coming up with down-payment for income-producing long-term holds, which is what he really wants. And he is taking this route because he is following advice that is heavily propagated here on BiggerPockets and everywhere. A few observations:
The first thing I told him and will now tell you is this: please be careful what kind of advice you listen to. In the world of Real Estate investing and like-kind activities, wholesaling is one of the most intricate activities to master. Translation – wholesaling is hard as hell – period! If anyone suggests to you that this is a “good place to start”, then either they don’t know a thing of what they speak or they choose to lie to you; in either case – RUN. And if this happens on BigerPockets – the advice is the same; jump to another thread, read another author. Wholesaling as a place of entry and a means for coming up with easy cash is the most ass-backwards thing I’ve ever heard…a lot!
The reality is that as a wholesaler you have to be at least as well educated as your buyer; and you must assume that your buyer is a PRO. You must understand construction and know the costs, because otherwise you can not possibly do the numbers on a rehab. You must know the local codes to know what can and can not be done to the property. You must understand the marketplace to establish the retail price-point in order to walk the whole deal back on paper. You have to be cognizant of the financing options available to your buyer so that you can include those with your numbers.
None of the above is impossible, and all of this comes with experience – do you have experience? If this is your way in; if you’ve never opened a wall in your life; if you’ve never put-in a main sewer line or replaced a breaker box; if you’ve never dropped a reciprocating saw into a wall covered with asbestos shingle siding in order to replace a window – how the hell do you know what’s involved…?
Just the other day Brandon Turner was trying to convince me to give up on my lame attempts at Internet Marketing and instead go wholesale houses if I wanted the money. Brandon, of course, was playing the Devil’s advocate since he understands very well that I would take internet money passively several times per month before I even think about making $3,000 via wholesaling, which is anything but passive. Understand this:
Wholesaling stops making money if and when you stop wholesaling!
Saying that you want passive income and so you’ll get started by wholesaling houses is like saying you want to get out of debt so you’ll go borrow some more – see what I’m saying; you ain’t the government…?
Wholesaling does not work in every market; sad but true. For instance, in a blue-color area where a house will retail for $80,000, assuming $25,000 of repairs, which is not much, this house literally has to be put under contract at no more than about $20,000 in order for you to get a $5,000 and leave enough meat on the bone for the retailer. Don’t forget, it is he who will have to pay the Realtor at the back end; it is he that will have to absorb the carrying costs; and it is he who having estimated 25k for the remodel will likely come in at 10%-20% over.
Tying up that house for 20k is very hard indeed and not something that you can build a business model around. You will eat a lot of crap getting one deal in a million, and at the end of the day you will have earned $5,000 of pre-tax income, which will be taxed as ordinary income and might even push you into a higher bracket if you’re not careful…
Now – this works better if you play around in neighborhoods where mid-range houses retail for five times as much – $400,000. It works better because the remodel does not cost five times as much. Thus, for example, if you pay $180,000 for a house which needs $50,000 of rehab and can be retailed for $400,000 then obviously there’s room in the deal for everyone to make money. Most of you, however, do not live in those kind of areas, and to do this business on smaller spreads really requires that you be a PRO – are you a PRO…?
No matter how many deals you assign for $5,000/each, you’ll eventually come to realize that it’s impossible to earn enough so that you can buy as much income-producing property as you say you want. At the end, you’ll still have to figure out financing options. Here’s the thing:
If you want to attract capital with which to buy income-producing assets, then everything you do in your investment life needs to reflect this. In other words, spending all day every day looking at junkers may eventually lead you to become an expert wholesaler but it will teach you nothing about income-producing sector and financing thereof. So, if that’s what you really want, then you are wasting your time with wholesaling by definition.
A fool is born every minute of every day, which makes you one of many. Just as you’ve heard the message – wholesale a few houses to make enough for down-payment on a keeper, so has everyone else. As a result, everyone and their mother, father, and uncle is out there calling themselves wholesalers and pretending like they know the steps to this dance. For your own good, please understand that out of 100 wholesale deals, the PRO gets 95, a part-timer gets 4, and a fool gets lucky once – are you going to get lucky?
Do not buy into the hype.
Wholesaling is the highest form of making money in real estate, requiring good grasp of marketing, construction, and contracts; not to mention insane negotiation skills. I can’t believe I am going to say this, but as dangerous as fix and flipping is it represents more of an opportunity for a start-up like you by far. But, at the end of the day, if it’s passive cash flow you want, then instead of warring about making the money for the down-payment, learn how to create it out of thin air – learn Creative Finance…
Photo Credit: DG Jones