Our First Flip (Part 2): Hard Lessons in the first four weeks

I was floating with excitement as I got off the phone with the seller of our soon to be flip-property.  Sheila was staring at me in anticipation for what just happened on that phone conversation.

"The owner of that house we have been looking at just called back and said she would take twenty-five thousand cash!"

We were so excited!  But, soon the reality of the situation hit.  We hadn't completed the deal just yet.  We still had a lot of work ahead of us.  We didn't yet have a signed contract, we still needed an inspection to confirm my numbers, and we had no one in line to finance the deal.  

Our would-be family outing turned into an on-the-road business meeting with my wife and three kids in the backseat.  We immediately drove by the house just to get a visual.  It felt amazing knowing we were about to get our first real deal!  

During the car ride, we discussed who could help us with the project assuming everything went through.  My brother-in-law had been in construction his whole life and had just started a contractor business with his good friend.  The timing couldn't have been more perfect.  He needed work and we needed a contractor.  We trusted him with the project because he had done work for us before in a less-professional setting.  Sheila immediately called him up asking if he would be willing to give us a bid on the project and he agreed.  

The inspection confirmed my estimated repair costs.  We wanted a flip and were estimated at $30-40k to complete the project.  This was unbelievable news!  If the project stayed in budget at those numbers, we still showed a substantial profit!  In fact, we could meet our minimum criteria and still spend another 50% over budget!  It felt as if we couldn't lose!

While we were still in our contingency period, we worked on obtaining financing.  My only real contact with money was my parents.  After that, I figured I might have to just wholesale the property.  But, I was determined to get a property for myself!  I was tired of seeing house after house leave the MLS at killer prices and then see them return on the market months later at astonishing prices!  That needed to be us, and this time it was going to!  

My parents had expressed interest in investing their money in a way that would earn them better returns than they were currently experiencing, but I was still unsure if they would actually pull the trigger.  Growing up, they didn't even like talking about how much money they made.  Now, they were going to lend us up to $85,000.  I put together a packet of information about the property, including pictures, a plan, and potential profits.  We offered to pay them a flat $5000 for their loan.  To my surprise, they actually accepted it!  

Everything was in place.  We had $85k available to us.  We had a contractor who promised to clear his schedule and only work on our property.  And we had a signed contract with a motivated seller who wanted out of a property.  All we had to do now was to close.  It was almost too easy.  That is, until we got a phone call from our money partner.  

After further discussion, they did not feel comfortable lending us the full amount of money.  With concerns about their health and wanting to take a vacation, they felt that they should not release such a large sum to be tied up in a project.  They thought of it as helping us out rather than an investment.  They agreed to lend us $50k from their home equity line of credit.  They would keep the rest of the promised money in their savings account.  Throughout all of the emotion of acquiring our first real deal, I did not run the same due-diligence I had earlier.  In my head I told myself, I will make this happen no matter what!  I accepted the reduced loan and promised to pay them back in 6 months or less.  

We had just been shorted $20,000 on the project.  I wanted the deal so bad I was willing to look past this obvious fact without consulting my contractor.  We purchased the property for $25,000 and paid nearly $5,000 in back taxes and closing costs.  This left us with only $20,000 for repairs.  

The beginning of the project went great!  Our contractor was putting in the hours he promised and work was getting completed faster than we expected.  Most of the supplies for the property had been purchased and were sitting in rooms waiting to be installed.  We went through four glorious weeks of progress and then were hit with hard news.  Our contractor was out of money and so were we.  

Many major projects had been completed, including a new roof, fascia, drywall repair and replacement, interior and exterior paint, repair of interior rot, etc.  The entire house had been re-plumbed and an electrician came in for a couple days of putting the house up to code.  We had most of the material we needed to complete the job, but no funds for labor.

The job came to a standstill.  

That month, we had to cut a $500 check to my parents for a house that sat vacant, had no functioning kitchen, no functioning bathroom, and various projects than still needed completion.  We hadn't even touched the fact that completing the upstairs loft area, front porch, and garage were going to run us another $10-15k easily.  

A flip was not going to be realistic with the budget we were given.  We knew it from the beginning but were slow on our feet to change strategies until we actually saw the money deplete.  It was time to get real with ourselves and come up with a new strategy for turning this flop into a profitable deal.

Our primary goal was to pay my parents (our money partner) back in full without asking for any more money.  We didn't want to share our problems with them.  We wanted to hand them their earnings with a smile on our face in hopes that they may want to repeat the process in the future.

If we could not sell the house to pay my parents back, we needed to bring in more income so we would be eligible for a home equity loan.  We were maxed out on our debt-to-income ratio and needed to bring in additional income quick.  This fueled our decision to take the house we were living in off the market, put it up for rent, and move to the project house.  

The great thing about real estate is that you can pick up after a small tragedy.  Then, you can learn from the mistakes you made, get back in the game and do it better the next time!  If we were to do it differently (which we will next time), here is what we would have done:

1.  Communicate better with our contractor.  We had such a small budget to complete with project, but we could have done a better job at communicating this with him and his team.  We could have maximized the use of our limited funds with a simple system of prioritizing the project.  This would include first fixing any structural or foundation issues, or any problems that could cause further damage such as a leaky roof.  Second, we would focus on completing utilities and making the house ready to be functional.  Our third priority would be aesthetics and last would be the Wow! factor that would really set the house apart from the rest of the market.

2.  Utilize me more.  We have three kids and my wife works full-time hours currently at her job.  I work minimum hours (around 12 a week) and put the remainder of my time with the kids and real estate.  Since I have a personal relationship with our contractor, I would want him to utilize me more for picking up material and performing small/easy tasks to improve performance on the project and maintain deadlines.

3.  Better communication with our money partner.  I should have negotiated the budget instead of accepting anything to get the property.  I could have explained how lending us more money would allow the project to be performed completely and within expected time limits.  They actually increased their risk of not getting their money back by decreasing the loan.  I also should have been more informed about alternative strategies, such as needing to rent and refinance the property, and adjusted a re-payment schedule to suit the requirements of most banks (how long you must show rental income before the banks will count it as actual income).

4.  We should have better educated ourselves on various exit strategies instead of banking on one to work and not preparing for any variances in our plan.  If we would have been prepared before the project started, we could have quickly made a decision and moved on instead of sitting in the lull of indecision and taking that time to finally research our options.

It is said in real estate that you are either making money or getting educated.  We have had to put some of our own money into this project.  We have had to increase work hours and come up with creative plans to pay for the remaining fixes.  But, the greatest part of this is that we actually got started.  There are too many people sitting on the sidelines that let fear get in their way.  Most people fail in some way on their first flip.  We were looking to be no exception to the rule.  But, what did we really fail at.  One option?  We still had many others.  And, best of all we received something the books can't teach you: real-world experience.

It is April 17, 2016 as I write this post.  We have a signed lease with a tenant starting April 23rd.  We have 5 days to get our project house livable and move in.  I have no idea how we are going to accomplish this, but I don't want to focus my energy on worrying.  I want to place my energy on taking action toward making it happen.  I know it will and I know by putting in those steps toward what we want a way will present itself.  

Stay tuned for the next blog post where we share what happens at the completion of this current house project.  We will also periodically post inspirational stories and lessons we have learned along the way. 

See you here!

(First day of the project)

(Day 1: Out of Money)

(Plan B... back in motion and getting the house completed)