Rental vs. Flipping: Which, and why?

Buying & Selling Real Estate Discussion 58 Replies

I'm sure most new investors have this question. Although I myself am new, I know where I stand. I'd prefer to build a rental portfolio accompanied by periodic flips. But I'm curious. Are you more on the side of running a flipping business, or building an income stream with rental properties, and why?

I'm an excited aspiring investor in Dallas, TX. To all others of you in my area, novice or experienced, let's network!!

I am also interested in answer :)

@Jarvis Davis  
New investor here as well. Interested in this post and would like to connect.

Originally posted by @Jarvis Davis:

I'm sure most new investors have this question. Although I myself am new, I know where I stand. I'd prefer to build a rental portfolio accompanied by periodic flips. But I'm curious. Are you more on the side of running a flipping business, or building an income stream with rental properties, and why?

I'm an excited aspiring investor in Dallas, TX. To all others of you in my area, novice or experienced, let's network!!

@Jarvis Davis my answer would be that it is 100% up to you and how they help you reach your goals. If you want a big payout every 3-6 months and have another job then flip, if you want checks coming in every single month then you should apparently rent. I am a commercial guy, so I like the income stream. Obviously, the big difference is that commercial properties will give you a larger monthly income. It depends on your goals and what you want to get out of real estate and then structure your investments that way.

Originally posted by @Jarvis Davis :

I'm sure most new investors have this question. Although I myself am new, I know where I stand. I'd prefer to build a rental portfolio accompanied by periodic flips. But I'm curious. Are you more on the side of running a flipping business, or building an income stream with rental properties, and why?

I'm an excited aspiring investor in Dallas, TX. To all others of you in my area, novice or experienced, let's network!!

We are having problems finding fix and flip houses.  It seems as though every time there is a decent deal on the market within 24-48 hours there are multiple offers, and imo a lot of people are paying crazy money.  So we have passed on a lot of properties.  

The other side to that coin is successful flips give you an opportunity to feed the buy and hold properties. 

Personally we are hoping to do a mixture of both buy and holds (BRRR), but and hold to create constant cash flow on into retirement and supplement it with flips.

@Jarvis Davis @Duy Hoang @Trey Goodwin I don't do Fix & Flip anymore. It has the highest tax bracket, takes the longest and is the riskiest. Generally a Fix & Flip runs for 3 to 6 months and and you can only do so many in a year. The market changes and you can be left trying to sell a property people can't afford. 

I start with the assumption that I am *not* going to put more than $25,000 into a property, "All in."

So, for instance, if the seller has $8,000 in equity, I give them $8,000 out of the $25,000 I have allocated and use the rest, $17,000 for the expenses. I Purchase (I take over the loan), pay escrow, pay title, pay carrying costs, pay utilities, pay for marketing, pay for property clean up, I do *very little* rehab and I keep $5,000 in reserves from that $17,000 in case I need it later. I've developed a spreadsheet for this model and I can tell pretty quickly if I am within my "safe zone". I assume 3 months to sell. Usually sells within 30 days though.

My typical houses are in the $150,000 - $300,000 range. I invest & coach in multiple states and In the Tri-Cities the numbers are a bit lower of course but relative to the same percentages. Say a property has a PITI of $1,200. I go to rentometer and see what rents are going for in the neighborhood. I then mark up the payment into the first quarter of the "red zone" on the chart, say, $1950. So the difference between what I pay and what I get is my monthly "cash flow" or $750 in that case. (That's from an actual deal.) People are willing to pay more if they will actually own the house rather than rent forever.

I do my comps and mark the sales price *up* beyond what things are currently selling for. Say, $30,000 above market. (Less of course in the Tri-Cities). It's "whatever the market will bear". I don't use real estate agents so I am saving the 6% fee, $12,000 in the case of a $200,000 property.

Then I offer the property on Owner Financing/Lease Option/Wrap/etc to business people who have great incomes, some money set aside and want to own a house but can't get financing because their Tax Returns don't show enough income. (Self employed get *great* tax write offs but that doesn't help when trying to get a loan from a bank).

The first Tenant Buyer who has $25,000 to put down and qualifies under DoddFrank gets the nod. If they have the money to put down, if they have a job that will support the payment under good lending guideline Ratios, (I used to be a loan officer and that is how I was trained), and If they don't have *unpaid* child support, if they aren't *delinquent* on student loans, if they aren't currently in a bankruptcy, if they aren't currently in a divorce, if they aren't currently in a lawsuit, etc. I don't care if they had a bankruptcy discharged last week. I don't care if they have lates and long ago write-offs.

So, I get the $25,000 back when the Tenant Buyer comes along, usually within a month or two. I get the $750 a month ($9,000 a year) cash flow and I don't care how long he wants me to carry the financing. Each year that goes by is another $9,000 to me plus the principal is being paid down. When he eventually does do a refinance, the difference between his payoff amount and my payoff amount I get to keep. This is a more *complex* technique but anybody can be taught how to do it. I read at Realtor.com that the average gross return on a Fix & Flip is about $25,000. This is *far* easier, faster, less risky and more lucrative. IMHO

Updated about 1 month ago

Thanks for all the votes. ;-) I can write up an example if enough people PM me and request it.

@Ken Min

How do you find the deals like that - when banks agree to do "the subject to" instead of enforcing DOS clause?

Medium img 0538Irina Belkofer, Realty Bet | [email protected] | 216‑407‑0761 | OH Agent # 2017003108

@Irina Belkofer The bank is not part of the transaction. You have a right to sell your house at any point. They have the right, but don't have to exercise the right, to the DOS. Very few DOS clauses are invoked. Normally, it is only when the mortgage is abused or interest rates go up enough for the bank to think they can make more money by calling the notes and re-lending the money to other people at a higher interest rate that they exercise the DOS. I have not heard of one being exercised in years.

It really depends on your goals. Fix and flip is an operating income business. Buy and hold rental income is a passive income business. There's pros and cons to both. It's also important to realize what exactly you're excited to do. Not just about the money but the strategy that you feel motivated about working on. Then focus on that! I'm newer to real estate but not in business in general. A common mistake I see is that some people get so excited about all the opportunities out there, they spread themselves so thin. Focus on one strategy, stick to it, learn, improve, get knocked down a lot and learn a lot. Once you master it, then go for the next interest! It sucks to get knocked down a bunch when working on a strategy that doesn't interest you that much.

I am completely in agreement with Ken Min.  Texas is a tough place for flips. Property appreciation is really depressed by our property tax structure.  The only way that I flip a property is to offer to sell it with owner financing after the tenant has been in the property for at least a year (avoid capital gains taxation). The return in this circumstance is based on the model of truly uninhabitable low priced residential property that will rent after bringing the property up to speed, and nice return on the loan interest that you receive. This works best if the loan is structured so that it can be sold and on properties that you have no loan on.  You may be able to identify a distressed multi family property that you can fix and flip at a favorable Cap rate.  Fix it, fill it, flip it.  I am very fortunate to have a contractor who does things right the first time and on time at a reasonable price. (He works in Dallas as well and has lots of experience in rehabbing multi family). When bidding for properties my experience has been pay cash and have a close closing date. You will move to the top of the list. If you don't have cash but have a good relationship with a bank you might be able to get a line of credit.

@Ken Min I enjoy reading your comments on BP. It's cool to see this complete explanation of your technique in real estate. May I ask what marketing techniques you have found most successful in finding these sellers with low equity in these nice houses? And do you find it difficult to get them onboard with selling subject-to?

Cheers,

Gail

Gail Greenberg, The Aubrey Group, LLC | [email protected] | 484‑469‑7723 | http://WinWinNotes.com

@Jarvis Davis fix and flip is more a job than it is investing. That is the big difference. You only get income from flips as long as you are flipping. Rental properties pay you monthly and when you sell. 

Flips are taxed as ordinary income. Rental property has tax advantages that shelter incom from taxes.

Flips will get you money fast, versus rental property being more long term. 

Flips are very active and rental property is more passive.

I am oversimplifying of coarse, but that is the general difference.

@Jarvis Davis @Duy Hoang Now everyone is making a good point about the flipping vs renting, but it all comes down to your market. In NJ for example, right now you better be flipping if you don't have a established name or currently own buy and holds. Why? Well I haven't been around for too long at all but I know people that were buying at 14-17% cap rates back in 2013 and now people are jumping for joy at 4-6% cap rates because of the crazy price increases and market rise.

With that in mind, while house prices are going up YOY, it is best to flip and pocket large sums of profit and then use the capital to either continue to flip until you expect the next market correction to happen (1-2 years I think) and hope that you hold no inventory as far as flips go. And when the market does correct, then you buy the 4-5% cap rate properties for 10-15% all because you had the dedication to wait an extra year or so until the prices dropped. 

Now there are a lot of truths as to passive vs active. Flipping is definitely a day to day thing, you can't not be doing anything when you're flipping, you have to be involved. Buy and holds are less involved especially when you have PM do everything for you. Flipping is also taxed heavily whereas buying and holding has its tax advantages. So you have to look at the pros and cons and weigh out your options and what you want to do. 

Personally, I feel that flipping allows you to learn the ins and outs of the business. Teaching you what to look for, how to talk to contractors, how to talk to inspectors, how to raise capital more effectively, how to sell your property, how to market a product, what kind of features/finishes potential home owners look for. All this matters in the BIG BIG scope of the REI world and flipping and being actively managing it in the beginning when you are first start will help you get there. IF you go right into buy and holds and you don't want to deal with any of that, it sets you up poorly for the long haul as people will look to potentially take advantage of you because they know you don't know as much as they think you know. TRUST ME contractors can easily screw someone.

That's my 2cents though.

@Gail Greenberg   @Irina Belkofer @Bart Hedgcock   Gail, Thank you for your compliments. As you can tell, I am open about what I do and how I do it. To your question:

"May I ask what marketing techniques you have found most successful in finding these sellers with low equity in these nice houses?"

My sources and techniques for finding these properties is a little different than most, so I reserve it for coaching students. The techniques work anywhere. It is not as though nobody has ever thought of these sources before; okay some of my sources *are* pretty *creative*   ;-)              but I've counted 105 different ways to find good properties, so there is no shortage. My Profile goes more into all of this. We're not allowed to get too "self promoting" on posts, so visit my profile and send me a colleague request if this interests you.

@Ken Min Brilliant strategy.  I have wanted to see what would happen if I took over a loan but never wanted to deal with the DoS clause.  You inspire me.


As for the topic of this thread.  I recommend you have a two pronged approach.  Determine what your exit strategy is before buying any property.    At what percentage of increased value, when would you sell it?  That answer is your short term ownership option.  You have no guarantee you can sell anything in the short term right?  The market could change on a dime.  So you have to ask what about the long term.  Would this property work as a rental and if so how does it impact your financial position.  Keep in mind, loosing money or negative cash flow is not necessarily a bad thing.  If you can say a property works short term for a flip and long term for a rental then you can pick.  I'm an advocate for own and NEVER sale.  I tell my clients who are W2 employees this, "Is your boss ever going to give you a $100.00 pay raise per month?"  Usually the answer is no.  Rental income puts you in a good financial position.  With lots of properties it makes the w2 jobs less and less needed as the portfolio increases.

As a tax strategy, owning the property as a rental for 12 months or more allows you to be taxed at %15 percent for long-term gains right?  Selling at less than that and you are taxed as earned income.  This might push you unexpectedly into a higher tax bracket and eat your profit.

I personally only want to flip when I am cash hungry to put another 25% down on a four plex.

In conclusion, if I was only flipping / fixing, I'd have money in the bank but, no equity, no regular cash flow and probably not a healthy set of Business line of credit.  On a 1003 at the end of the day when your debts and liabilities and your tax returns all match, banks will be happy to work with you.

Let me try to answer this.  I have flipped a few properties, but generally I do not like it.  

On a fix and flip- you have a job-  There is a lot of work and then you get your profit (hopefully) and then pay taxes at your ordinary income level.

Buy and Hold-  I buy it, fix it to the market I am renting to.  In 1-2 years usually closer to 2 years.  I refinance.  I get my cash back out the renter pays off my mortgage, pays the expenses, gives me a little cash every month.  

Example:  Just bought a 54K repo.  borrowed 25K from private investor @12%.  I will have 24K in repairs when finished.  Will rent for $1100-1200 per month.  Or I can sell for 125 to 135K.  

Or in 2 years I will refinance for 70% cash out out, I will pull 87, 500 to 95,000,  

I have a monthly income, I have my cash, I have paid back by investor.   I can depreciate the property, take the interest off and I have a nice property.

You are in the Dallas area, I am just south of there.  Dallas is hot, gather the property up that will cash flow for you and build an empire.

This is just my opinion, I am not a CPA or an Attorney, but it works for me

Regarding Flipping, in fast market and system to make offer:

Do you (1) have agent go see it and estimate repair costs,  (2) and then formulate offer number, and if accepted (3) then have a GC go to document in writing repair estimates during due diligence?

or?

Everybody has their preference and tolerance of work involved. Another option is what I call a "slow flip" rent it out immediately so your not losing income, tenant moves out and you upgrade a few items and raise the rent, after 3-5 years you have a nice unit that rents for top dollar and can be sold for a nice profit.

CO Agent # FA 100073207

I most definitely plan to focus on building my rental portfolio, but I'll be supplementing that with flips when the right deals presents themselves. I'm interested in the pros of buy and hold MUCH more than the benefits of fixing and flipping. Passive income interests me, because part of my "why" for entering into REI is not only financial freedom, but to free up and redeem time in my life. So rentals it is for me!!

To @Ken Min or anyone else who can answer, what exactly is DOS clause?

I flip every property that I have ever purchased, I just flip them to the rental market instead of the sales market ... in so doing, I can get a vast majority of the best of both worlds.

Originally posted by @Jarvis Davis :

I most definitely plan to focus on building my rental portfolio, but I'll be supplementing that with flips when the right deals presents themselves. I'm interested in the pros of buy and hold MUCH more than the benefits of fixing and flipping. Passive income interests me, because part of my "why" for entering into REI is not only financial freedom, but to free up and redeem time in my life. So rentals it is for me!!

To @Ken Min or anyone else who can answer, what exactly is DOS clause?

 Sure,

"A due-on-sale clause is a clause in a loan or promissory note that stipulates that the full balance of the loan *may* be called due (repaid in full) upon sale or transfer of ownership of the property used to secure the note. The lender has the right, but not the obligation, to call the note due in such a circumstance."

DOS is rarely called currently, but in a few years that could change, particularly if interest rates go up significantly.

Originally posted by @Ken Min :
Originally posted by @Jarvis Davis:

I most definitely plan to focus on building my rental portfolio, but I'll be supplementing that with flips when the right deals presents themselves. I'm interested in the pros of buy and hold MUCH more than the benefits of fixing and flipping. Passive income interests me, because part of my "why" for entering into REI is not only financial freedom, but to free up and redeem time in my life. So rentals it is for me!!

To @Ken Min or anyone else who can answer, what exactly is DOS clause?

 Sure,

"A due-on-sale clause is a clause in a loan or promissory note that stipulates that the full balance of the loan *may* be called due (repaid in full) upon sale or transfer of ownership of the property used to secure the note. The lender has the right, but not the obligation, to call the note due in such a circumstance."

DOS is rarely called currently, but in a few years that could change, particularly if interest rates go up significantly.

 ... and if that were to start happening, then what would be your exit strategy? Try to refinance? Sell? Stick it to the person whose name is on the loan?

@David Faulkner Whoa, No need to be rude and impertinent. "Stick it to the person whose name is on the loan?" 

I think I would decline to work with you or teach you the techniques if that is the kind of thing that pops into your head. That comes from the heart and I don't think I am the one that has the ability to straighten that out.

No, the solutions are rather simple and honest: Exit strategy in the event a DOS is called

1) Cash it out with personal money and pay off the loan

2) Refinance and pay off the underlying loan

3) Get the Tenant Buyer to refinance and pay me off so I can pay off the underlying loan (give a "discount" if necessary for him to qualify)

4) Get a hard money loan and pay off the underlying loan

5) Work out an "assumption" with the note holder (bank) of the underlying loan

6) Have the Tenant Buyer "assume" the loan with the bank

7) Transfer the Deed back to the original seller and assign my interests to him

There are other solutions, but these are sufficient for this discussion.

Now, go wash your mouth out with soap and don't think thoughts like that. ;-)

@Jarvis Davis i am new to REI as well but can already see my strategy changing, mostly in part to BP. i currently have two SWMH i just remodeled and will be renting shortly (one was rented but we are going through our first eviction - didn't even make it a month) i am now thinking of selling on owner financing and investing in a multi-family. i got into it for the passive income but really enjoyed the remodeling.

@Rodney Morris  I wish you the best on your journey, sir!! You seem to be well on your way. 

@Ken Min I am so appreciative of the knowledge you've shared. This is invaluable stuff. Thanks sir!!

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