Contingencies for hidden cost?

[Brett Stander]

Hello BP members, 

Being locked inside and with few credits left, I have been spending a lot of time researching real estate. I've been reading, listening, and watching- basically any down time is split between these. 

Today, I was watching a particularly interesting episode of fixer upper on HGTV. The husband and wife (forgive me, I am not familiar with their names) bought a house for 120k with a rehab budget of around 110k. However, once they purchased the house, they found every problem imaginable: Poor structuring and support, termites in the wall, water damage in the sub-layer beneath the floorboards. 

Well of course through some elbow grease, and more specifically, the magic of television, they were able to come in under budget!

However, as we live in the real world, investments don't always wrap up with a fairytale ending.

Any investor worth their weight (even someone as inexperienced as me) knows that while projects are budgeted to include unforeseen expenses, hidden/unpredictable cost can throw your numbers into a never ending pit of despair.  

For me, this is a horrifying thought. You can do all the right things, budget down to the cent, and still end up finishing a deal way over budget. Of course, I understand this is always a possibility- but experience and knowledge can help. 

So, my question is: How do you, the lovely members of Bigger Pockets, set up contingencies, at all, for things like this? I understand escrow closing is always contingent on the inspection, but what if you can't see it, and don't see it, until a month later? Do you have ways to back out of this deal, or, more specifically, ways to inspect behind walls and under floors? 

any advice is greatly appreciated- Happy investing!

[Joe Cassandra]

Well, first Brett, HGTV producers manufacture a lot of "catastrophes" into episodes to make the episode dramatic. That classic phonecall scene in every episode "We have a big problem...' *cut to commercial*

...beyond the HGTV bashing...

Yes, there will ALWAYS be problems that'll arise in a flip. Everytime. Which is why a 10-20% contingency buffer is important. The bigger the rehab, the bigger the contingencies. 

In many cases, you can see the 'effects' of problems before you find them. Moist subfloors would have more give and be bouncy...rotting decks could be the result of years of wear or termites...

In a recent flip, we found some rotting in the corner of the basement. We figured out that there was a hole in the roof that the water ran down the inside of the drywall and settled there. 

Those type of problems are ones you can bring up after inspection and negotiate a discount because you didn't see it before. Many sellers would panic you will find more problems and hastily agree to a reduction.

****

Other times, things happen and you won't catch them until after purchase. It's part of the process. Even in a BRRRR. We bought a house we just rented out expecting a 5k quick rehab. Had to pay an extra 1k to shore up some roof and chimney problems...and a few hundred more for some deck issues we missed.

It's a tough balance between building in a safe contingency and still being competitive in a deal. You don't want to give yourself a 40% buffer and end up pricing yourself out of a deal. 

I'm still learning too, trust me. 

It comes with experience and having trustworthy contractors who will tell you the truth.