The Sad Truth About Flipping Houses

Account Closed · 2016-09-17T09:37:34-07:00

Hey Guys!I wanted to share some knowledge I learned with you on this beautiful Saturday here in Fort Worth, Texas. I live only a couple blocks away from the TCU stadium and so I can hear when the big plays happen. This is a very electric atmosphere. Anyways, I have been into real estate investing for about 13 months. I have flipped 6 houses, built 3 houses and have 18 doors for rentals (just picked up another duplex). And I have been contemplating whether I am doing the right thing or not. But I found my solution through a mentor which is stated below. It was vague, but that was his intention. So I had a guy on BP ask me a series of questions about my flipping and holding strategy and this was my final message in the DMs. The last question he asked is if my strategy is short or long term?"Long term. My strategy is all long term. You have heard before that real estate is not a get rich quick game. And the only way to truly become rich is through long term holdings. But, don't let that scare you, you get paid every month too!The way I see it is this: If I flip a property and make 25k, I only make 25k, one time. But when I get a property for free (through financing), own 30% equity (free through financing), and charge a $1200 rent, I can make my money back in about 5 years. You do that 20 times in a year for 5 years, you have some serious cash flow and have enough earning power/assets to do anything you want. Ever. This whole thought process started with one of my mentors, who is worth around $500m, asked me 6 months ago: "Beau, why are you selling your houses. Why would you want to give away net worth?"And I thought about it. Best described in an example: say I make 25k off a 100k flip house. But through financing I can retain that house for FREE and have had a 30% equity, or 30k (increase your net worth). So technically, I am making LESS money up front selling the house (25k cash vs 30k net worth), and loosing infinite money down the road through rent and property increases.The way to make your money back through retention is to slap a home equity line of credit on that house. Usually around 70-80% of your equity holding which would be 21-24k disposable money for business. So, what would you rather have? 25k profit up front OR 21-24k profit up front, a 30% equity stake and rent for many years to come?"

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 18k+ posts · 17k+ votes

10y

Originally posted by @Account Closed:

And I thought about it. Best described in an example: say I make 25k off a 100k flip house. But through financing I can retain that house for FREE and have had a 30% equity, or 30k (increase your net worth). So technically, I am making LESS money up front selling the house (25k cash vs 30k net worth), and loosing infinite money down the road through rent and property increases.

Sounds like a guru pitch to me... The only way you're losing "infinite money" down the road on the flip is if you're throwing away that $25K in profits. If you invest that $25K in profits for -- let's say -- 10% compounded return, that $25K will be worth $40K in 5 years, $64K in 10 years and $168K in 20 years.

Of course, you have to factor in taxes and you have to be able to make 10% compounded returns (which hopefully most good real estate investors and business people can do)...but, the math is still pretty simple. If you need cash flow to sustain you as well, then just do the math for a longer compounding time.

Ultimately, there is more than one way to get rich/wealthy in this business. If your mentor is telling you otherwise, find a new mentor...

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24 Reply

Pat Martin

Knoxville, TN · Member since 2014 · 116 posts · 57 votes

10y

It's easy to say hold everything when you have a net worth of 500m. Flipping can be very profitable and give you huge short term returns which could allow you to buy and hold more.

6 Reply

Charlie DiLisio

Investor · Lake Worth, FL · Member since 2014 · 378 posts · 184 votes

10y

Thanks J, I was wondering the same thing and you explained it in easy to understand terms. The investing of profits makes the most sense to me whatever the situation is. I think most people make money and spend most of it rather than putting it back where it works for you on a continual basis. Its a business not a vacation. All the best!

5 Reply

Brian Pulaski

Flipper/Rehabber · Montgomery, NY · Member since 2016 · 2k+ posts · 1k+ votes

10y

Personally I prefer the $25k that I can put into the next house, and not have to be a landlord... However my views might change as my business model grows.

3 Reply

Chris T.

Investor · Downers Grove, IL · Member since 2015 · 1k+ posts · 955 votes

10y

One has to compare apples to apples. To say a brrr strategy makes more money than flip, and vice versa, you have to have the same house with the same conditions. Which is almost impossible.

Furthermore, A landlord could lose money with a bad tenant and/or unexpected expenses. A flipper might lose money if they under estimated the rehab or holding costs etc.

Just like J Scott says, there are more than 1 way to make or lose money. You, the real estate investor, decide what works best for you.

5 Reply

Ryland Taniguchi

San Francisco, CA · Member since 2015 · 786 posts · 717 votes

10y

It all comes down to IRR (Internal Rate of Return) and Risk. Flipping is definitely more risky than a cash flow buy and hold strategy. On flips, you also have taxes working against you, seasons where houses don't sell and holding costs.

Nothing wrong with flipping but the key is velocity. You have to be in and out of flips within 90 days. Without velocity, flipping makes no sense and is very risky.

I think the minimum return that an investor needs to get on a flip is 60% IRR. You need a higher return to balance the risk of flipping. In my investing I am getting 70% IRR on BRRRR and 47% IRR non-recourse lending at 50% LTV to IRAs (the return doubles to 94% IRR if I use a warehouse line). BRRRR and 50% LTV lending is much much less risky than flips. In my portfolio, I would need to get 150% IRR for the flips to make sense for the amount of risk I am taking.

In Seattle, despite very good marketing systems with direct mailers and door knockers, I am not finding deals that flip at 150% IRR. In addition, I have had all kinds of trouble with finding qualified GC in a super hot construction market. I tried being my own GC and that was more of a disaster than hiring so-so GC. The combination of finding no deals and no contractors (and doing it worse as my own GC) made me quit on flips in my market. Labor and Industries overregulation and lack of quality subcontractors due to construction demand also caused us costly delays. I have done over 250 flips over the last sixteen years and can't even find one flip that will pencil nor get or construction systems in place. As a matter of fact, I acquired 52 deals since January 2015 and could not even find on flip that penciled for what I am looking for.

But I am trying to find another area in the country where I can do flips faster and get them done in 90-day, less regulation and can get a 150% IRR. The easiest way to get the higher returns is to do the flips faster.

What I don't understand is why one would do a flip at a 50% IRR if you could do a BRRRR at a 50%. The later is safer than the former.

3 Reply

Bryce Davis

Los Angeles, CA · Member since 2014 · 113 posts · 17 votes

10y

@Account Closed

You also have not factored in all the expenses. You have to pay a PAYMENT on that home equity loan. You also will get to the point that your dept to income is maxed and you will NOT be able to get approved for another loan.

Once you have all those loans what are you going to do if you do not have tenants. Hope you have some savings.

The best strategy is to have them all paid off and use the proceeds to buy more.

0 Reply

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 18k+ posts · 17k+ votes

10y

Originally posted by @Ryland Taniguchi:

What I don't understand is why one would do a flip at a 50% IRR if you could do a BRRRR at a 50%. The later is safer than the former.

IRR doesn't tell the entire story. I could do 100 flips this year, and never have to put in a single penny -- I could borrow all the money. So, even if I only made $1 on each flip, my IRR is infinite.

On the other hand, I can't buy rentals without any of my own money (at least not in volume), so my IRR certainly won't be infinite -- but my profits will likely be more than $1 per project... :-)

For that reason, IRR and NPV won't tell me which is the better investment without additional data and/or analysis.

Also, I'm not really sure how to model a buy-and-hold when I don't know if I'll be holding for 5 years or 30 years. If you know your time horizon on a B&H, IRR is meaningful; otherwise, it's a shot in the dark. The timing of income generated at sale is going to be a huge influence on the IRR.

But, then again, I haven't spent a ton of time thinking about the tradeoffs of flipping vs. B&H, in a general sense -- I just let the specific deal tell me which one is better based on the analysis of that deal...

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4 Reply

Account Closed

Investor · Frederick, MD · Member since 2015 · 43 posts · 21 votes

10y

I have done the BRRRR with the Refinance part as a heloc twice. It works. If you buy properly, the cash flow from the next rental will cover it's mortgage and the interest on the previous rental's heloc while still cash flowing.

The benefit to this is the helocs were free. no closing costs or appraisal. They're interest-only which means monthly minimum payment is very low. They're reusable and interest is only charged on what you use. They can be paid down with rental cash flow and day job quickly to be used as down payment again. They are also good as emergency funds.

3 Reply

Brad Crawford

Investor · Fort Worth, TX · Member since 2016 · 15 posts · 5 votes

10y

Hey Beau, I'm in Ft worth too. Would love to sit down and network with you. How can I contact you?

1 Reply

Ryland Taniguchi

San Francisco, CA · Member since 2015 · 786 posts · 717 votes

10y

Originally posted by @J Scott:

Originally posted by @Ryland Taniguchi:

What I don't understand is why one would do a flip at a 50% IRR if you could do a BRRRR at a 50%. The later is safer than the former.

IRR doesn't tell the entire story. I could do 100 flips this year, and never have to put in a single penny -- I could borrow all the money. So, even if I only made $1 on each flip, my IRR is infinite.

On the other hand, I can't buy rentals without any of my own money (at least not in volume), so my IRR certainly won't be infinite -- but my profits will likely be more than $1 per project... :-)

For that reason, IRR and NPV won't tell me which is the better investment without additional data and/or analysis.

Also, I'm not really sure how to model a buy-and-hold when I don't know if I'll be holding for 5 years or 30 years. If you know your time horizon on a B&H, IRR is meaningful; otherwise, it's a shot in the dark. The timing of income generated at sale is going to be a huge influence on the IRR.

But, then again, I haven't spent a ton of time thinking about the tradeoffs of flipping vs. B&H, in a general sense -- I just let the specific deal tell me which one is better based on the analysis of that deal...

Many ways to get wealthy. Lol

I use none of my own money for the BRRRR and can get 10 rentals a year with none of my own cash. Technically, each one of my BRRRR could also be a flip deal since it is bought 70% of ARV minus $60 per sq ft (which is what I found it costs me to do a BRRRR rehab in my market).

If I were using my own cash on the BRRRR versus a 2nd lien position GAP private loan, my return on the BRRRR would be 70% IRR. But since I am using none of my own funds, it is also an infinite return. The additional criteria on the BRRRR is the All-In Cost (cost of rehab, acquisition, closing costs and holding costs) has to be a 1% to 1.5% rule cash flow property as well.

I would argue that the BRRRR is slightly less risky than the flip because I am not paying 10% in selling costs not active income taxes, and if the market crashes my cash flow would pay for the mortgage whereas I would pay for the holding costs on a flip. I would also argue that BRRRR is more forgiving for construction delays because delays in the short run kill you but are marginal over a longer IRR calculation period on a cash flow property.

But they are both great strategies and what you do depends on your market. The flip market sucks right now in Seattle and so in my market BRRRR in Tacoma is the way to go. Other markets flips is the only way to go as the properties won't cash flow.

Actually, my suggestion is that investors take a diversified approach to real estate. 1/3 in wealth preservation strategy like performing notes at a 6% minimum tweet IRR, 1/3 in cash flow at a 18% minimum IRR target, and 1/3 in accelerated wealth like flips and development with a 60% minimum IRR target. With this diversified approach, 70% of your money is safe during a real estate market crash.

Flips are risky because during a market crash it takes longer to sell them. The math at least for myself is 8% of ARV for holding costs every six months. So if you have to pay hard money loan interest on a 24-month, it eats up 32% of ARV and the 10% closing costs is on top of that.

Also, in my case, I do know which year I will cash in all my chips and that is targeted all at 2021 (based on an 18-year real estate cycle analysis), which is one of the challenges with IRR. On the other hand, the cash-on-cash part of the IRR is more predictable.

I agree that IRR is not the only measure. IRR does not assess risk. But if you can get the same IRR on a BRRRR as a flip, the BRRRR is less risky.

3 Reply

Account Closed

New Jersey, NJ · Member since 2015 · 327 posts · 137 votes

10y

Everyone who reply to this post, your definitely good with your numbers. But everyone miss the big point which I understand what Beau Gumbert was trying to say. #1-Using the BRRRR, buy and hold and rentals to gain long term wealth is an excellent way of becoming rich BUT it does not apply/work in all cities and states. #2- flipping/rehabbing properties is also another way of getting rich BUT it also does not apply/work in all cities and states. EXAMPLE: I live in NYC and anywhere in the 5 boroughs, you will lose if you try the BRRRR, buy and hold and renting because NYC is a tenant friendly city and they all know it and they will milk the system and not pay rent for the next 8-12 months which takes that amount of time to kick them out. The properties here are way too expensive and will take years to recoup when rental out. BUT NYC is the one of the best place for flipping properties. LA IS THE WORST FOR RENTALS, here is a BP forum of an investor that just purchase a property and took 5-1/2 year to kick them out : https://www.biggerpockets.com/forums/67/topics/64944-the-occupants-from-hell- CONCLUSION: you can be rich with rentals in certain cities, states and town. Vise versa for flipping properties, so there is no right and wrong answer to this forum, it all depends what market you are in.

3 Reply

Stan Butler

Investor · Roswell, GA · Member since 2008 · 231 posts · 104 votes

10y

Originally posted by @Account Closed:

This whole thought process started with one of my mentors, who is worth around $500m, asked me 6 months ago: "Beau, why are you selling your houses. Why would you want to give away net worth?"

Net Worth is the difference between your assets and your liabilities. When you sell your home with $25k equity and convert that into $25k cash, you arent giving away anything. Besides, you cant pay for groceries with equity. You need a mix of short-term and long-term real estate investments in my opinion.

8 Reply

Account Closed

OP

Investor · Fort Worth, TX · Member since 2016 · 20 posts · 17 votes

10y

I think you guys really, really misinterpreted what I was trying to say. Instead of taking my strategy as it is, you have decided to try and prove it wrong. That was not the purpose.

This is a proven strategy that if you ACTUALLY did some REAL number digging, then you would find the truth.

To put it in one sentence: would you rather get paid once for doing work, or every month for the rest of your life?

Answer seems super simple, to me. Esp if you had no money down.

And J Scott, guru pitch, I feel so honored to be called that lol. But we are talking real estate, not banking/finance. Plus I would rather get paid EVERY MONTH AND HAVE 5-7% annual growth than wait 20 years to get my money.

2 Reply

JD MartinBusiness Member

Moderator

Rock Star Extraordinaire · Northeast, TN · Member since 2015 · 10k+ posts · 16k+ votes

10y

Originally posted by @Account Closed:

I think you guys really, really misinterpreted what I was trying to say. Instead of taking my strategy as it is, you have decided to try and prove it wrong. That was not the purpose.

This is a proven strategy that if you ACTUALLY did some REAL number digging, then you would find the truth.

To put it in one sentence: would you rather get paid once for doing work, or every month for the rest of your life?

Answer seems super simple, to me. Esp if you had no money down.

And J Scott, guru pitch, I feel so honored to be called that lol. But we are talking real estate, not banking/finance. Plus I would rather get paid EVERY MONTH AND HAVE 5-7% annual growth than wait 20 years to get my money.

I think he was calling your mentor a guru, not you :) .

There is no one way. Personally, I prefer buy & hold, because it is a generally stable, long-term view towards wealth creation. That said, there are plenty of landlords who grossly underestimate the holding costs of a property over the long term, including: capital expenditures, vacancies, tenant damage, neighborhood decline, market dilution, geographic decline, tax & regulatory issues, and other factors I'm certain to have missed. When you decide to buy & hold, especially with a property that needs rehab, you are making a time-based bet on the ability of that house in that market to provide a suitable return. The flipper, on the other hand, is making a present-based bet on the ability to reclaim their investment plus significant upside based on information in the here and now.

As already mentioned, there are markets where buy & hold now (meaning you don't own the property 5 years ago), even leaving rehab/refinancing out of the equation, is a borderline disaster. Someone mentioned NYC & LA, from a cost perspective. You can find Rust Belt towns all day long where the pool of possible renters is so small that you have to procure a house for virtually nothing in order to make a dime. There are conditions that make buy & hold right, and there are conditions that make flipping right, and there are conditions that make lending right.

Know your market, identify your conditions, make your plan and work it, and adjust as necessary. No guru required :)

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4 Reply

Account Closed

OP

Investor · Fort Worth, TX · Member since 2016 · 20 posts · 17 votes

10y

@JD Martin I guess I am talking about my market, Dallas/Fort Worth. Growth here is crazy and big industry is moving here like it's going out of style.

My whole point is that you get automatic money for years to come. And yes, you need to know the costs that come along with it. And location is always a huge factor in real estate.

I thought I would share my strategy in hopes that people would see the awesome strategy to get homes for FREE, income producing every month (esp in my market where rentals are in great need), and the property increasing in value every year.

This was an eye opener to me because I always thought that you had to pay 30% to get a rental property. And when I found out that you can actually own 30% equity in a property for free, I freaked and started doing my research. I got so excited about it that I changed my entire strategy around this concept.

This strategy is the essence of why I got into real estate: making money without having to work for it. Making my money work for me.

For example: If I have 50 rental properties free and clear in 12 years, making 50k a month gross, 600k gross annual (around 200-250k net after taxes depending on your situation), and you didn't have to work but 2-5 hours a week on all of these properties. Is that not the American Dream at its finest?

2 Reply

JD MartinBusiness Member

Moderator

Rock Star Extraordinaire · Northeast, TN · Member since 2015 · 10k+ posts · 16k+ votes

10y

Originally posted by @Account Closed:

@JD Martin I guess I am talking about my market, Dallas/Fort Worth. Growth here is crazy and big industry is moving here like it's going out of style.

I thought I would share my strategy in hopes that people would see the awesome strategy to get homes for FREE, income producing every month (esp in my market where rentals are in great need), and the property increasing in value every year.

Yeah, but you know around here, that's like walking into any Baptist church and asking the people there if they've ever heard of a book called The Bible :D . I'm not positive, but I'm pretty sure most of the people here have heard of your strategy ;)

Anyways, welcome to BP!

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4 Reply

John Chapman

Investor · Dallas, TX · Member since 2009 · 718 posts · 913 votes

10y

Okay, I'll chime in since I'm in your market. First, I've got to be honest, what you are saying sounds very guru-ey. I know it's your mentor who's saying it, but when people talk about getting homes for "FREE," (in all caps) my bs meter starts to go off (I think it's the same for most reputable people here on BP).

I really can't tell from your post how you are acquiring these "free" homes. (You keep referring to it as a "strategy" with no details.) If you are talking about buying at 70% minus repairs, fixing them up, refinancing so you're out no money, then I can at least understand that model. Having been investing here for almost nine years, those deals are out there, you just have to work insanely, insanely hard to find them. (Almost to the point where you are better off just paying more.) If you're talking about seller financing and crazy off the wall sub-2 deals, those are very hard to find as well (sub-2 is easier, but comes with its own set of risk) Your description makes it kind of sound like they are just out there waiting to be plucked from a tree. (I don't think you meant to do this, it's just how it came across.)

You are correct that our market is incredibly, incredibly hot right now. I believe our market also poses unique challenges as compared to other markets (due to structural issues here, I believe most investors underestimate cap ex, for example). You can still make money at it, but a model that suggests you can grow on a sustainable level by acquiring properties for "FREE" seems a little bit pie in the sky. Not trying to be mean (and maybe I'm reading too much into your post).

7 Reply

Account Closed

OP

Investor · Fort Worth, TX · Member since 2016 · 20 posts · 17 votes

10y

@JD Martin Don't be raining down on my parade ;)

As a 24 year old real estate investor who has been in the industry for 13 months, everything I find is new to me. And it gets me excited. Enough to write a post about it.

And I would beg the differ, most people I talk to do NOT know about this strategy. When I tell people that I can get houses for free their ears perk up and the questions start rolling in.

0 Reply

Tony Gunter

Investor · Canton, GA · Member since 2014 · 728 posts · 500 votes

10y

I am a little surprised you are able to find a HELOC for an investment property. Maybe I don't get out enough... Also, it seems like those appraisals always comes in lower than expected when comparing a refi to a buyer coming in to buy the newly renovated property. That is another kink in the plan, as I have found out myself. This is even on buying using the standard flip criteria. The appraisal is the weakest link in the plan IMHO. However, that said it is still a great plan to work.

0 Reply

Johnny Moncrief

Santa Clara, UT · Member since 2015 · 3 posts · 1 vote

10y

Does this website have a legend for all the acronyms I'm seeing here because I'm lost hahahaha

1 Reply

Mark Weinstock

Investor · Sunrise, FL · Member since 2009 · 105 posts · 15 votes

10y

Originally posted by @Johnny Moncrief:

Does this website have a legend for all the acronyms I'm seeing here because I'm lost hahahaha

I'm lost in the lingo also this link helps

https://www.biggerpockets.com/renewsblog/2015/08/28/16-investing-terms-newbie/

1 Reply

David Faulkner

Investor · Orange County, CA · Member since 2015 · 2k+ posts · 3k+ votes

10y

Originally posted by @Account Closed:

LA IS THE WORST FOR RENTALS, here is a BP forum of an investor that just purchase a property and took 5-1/2 year to kick them out :

https://www.biggerpockets.com/forums/67/topics/649...

CONCLUSION: you can be rich with rentals in certain cities, states and town. Vise versa for flipping properties, so there is no right and wrong answer to this forum, it all depends what market you are in.

I don't know about NYC, but I have been a buy-and-hold investor in LA for the last 15 years and based on my experience respectfully disagree. LA has been a fantastic market for rentals and consistently ranks in top 5 markets in the nation for total profitability (appreciation + cash flow). I have never once had to evict a single tenant in those 15 years, none the less had it take 5-1/2 years ... some left in the night without paying, and some needed to be talked out (using strictly legal means), but nothing like that and looking back those that did leave were my mistake in screening or the type of property I bought ... most of my tenants stay as good, paying on time, take care of the place like they owned it, professional, responsible, families that they are, they stay for years,
I raise rents every year, and when they do leave I have a line of people around the block ready to rent the place so vacancy is minimal ... based on my experience, I think it is highly unlikely to get such a nightmare so long as you buy quality properties (or rehab them into quality), in quality locations, delivered vacant COE, and are competent at screening new tenants.

I have nothing against flipping either, BTW ... I think the more tools you have in your belt the more properties you will be able to acquire and profit from and the more sub-markets and parts of the RE cycle you will be able to operate profitably in vs a one trick (buy-and-hold) pony.

3 Reply

J ScottPro Member

Moderator

Investor · Sarasota, FL · Member since 2008 · 18k+ posts · 17k+ votes

10y

Originally posted by @Account Closed:

And J Scott, guru pitch, I feel so honored to be called that lol. But we are talking real estate, not banking/finance. Plus I would rather get paid EVERY MONTH AND HAVE 5-7% annual growth than wait 20 years to get my money.

I have closer to 20% annual growth across my entire portfolio (flipping, rentals, lending, equity partnerships, etc). And I don't wait 20 years to get my money -- I'm making money after each flip and then making money every month when I invest those flip profits.

Why is that sub-optimal to what you're doing?

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1 Reply

David Faulkner

Investor · Orange County, CA · Member since 2015 · 2k+ posts · 3k+ votes

10y

Originally posted by @J Scott:

Originally posted by @Account Closed:

And J Scott, guru pitch, I feel so honored to be called that lol. But we are talking real estate, not banking/finance. Plus I would rather get paid EVERY MONTH AND HAVE 5-7% annual growth than wait 20 years to get my money.

I have closer to 20% annual growth across my entire portfolio (flipping, rentals, lending, equity partnerships, etc). And I don't wait 20 years to get my money -- I'm making money after each flip and then making money every month when I invest those flip profits.

Why is that sub-optimal to what you're doing?

The main difference I see is in long term exit strategy ... if you choose a buy-and-hold in the right market and neighborhood, then once rehabbed and stabilized it can become very passive, where as flipping seems to me to always be more active. Not to say that one is optimal over the other, depending on your needs and what the market offers, but that is the main difference I see. Out of curiosity, J., if you don't mind me asking, what is your long term exit strategy from the flipping business? Do you intend to grow a huge pile of cash from flipping and then at some point convert it into more passive investments to live on? Or do you plan to build your team and systems up such that you can essentially put your flipping business on auto-pilot any time and for extended periods of time (or maybe you already have)? Or do you love it so much that you intend to actively do it until the Dr puts a toe tag on you and hauls you away in the Hearse?

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The Sad Truth About Flipping Houses

The Sad Truth About Flipping Houses

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