In previous weeks we discussed rehabbing a home for personal use (Getting Started In Rehab) and rehabbing for use as a rental (Rehabbing a Rental Property). This week we will look at rehabbing with the intention of flipping. This is, by far, the riskiest of the three. However, it can also be the most lucrative if you do it right. The key word here is “if.”
Swimming in a Pool of Sharks
When rehabbing to flip it seems that every problem is magnified. Never mind Murphy’s Law, in rehab it seems as if Murphy has moved in with you. The most pressing problem is usually your holding cost. This is especially true if you are using hard money financing. You also have the risk of the market changing during the course of your rehab. It may not be as easy to sell as you thought or had hoped. You may experience weather-related delays or problems finding the necessary contractors.
Sometimes you can experience something that seems to come from out of the blue. Shortly after Hurricane Katrina hit New Orleans I was rehabbing a house in Nevada. I was nearing completion and I needed about 10 sheets of drywall. I went to the only lumberyard in the area and was told that they don’t have any sheetrock at all. When I asked when they expected to get some in, I was told that a delivery was coming in on Tuesday. I figured that wasn’t too bad since it was Saturday. Then I was informed that the load that was coming in had already been sold. I could reserve some from the next delivery two weeks later! It seems that all available building materials were being diverted to Louisiana to help in their efforts to recover from the storm. I had to drive 250 miles one-way to find the material to complete the project. All told, I lost about three days. That may not be much time when you are working on your own home, but when working on a flip it can be a huge problem.
Time Is Money
Managing a rehab project can drive you crazy enough to think that you are hearing voices in your head. What you should be hearing is a ticking clock, like the one on 60 Minutes. Every tick you hear just cost you money. Contractor doesn’t show up…tick, tick. Failed an inspection…tick, tick, tick. Unexpected problem arises…tick, tick, tick, tick. Project is behind schedule and another mortgage payment is due… tick, tick, tick, tick, tick…BOOM!
Effective management of the rehab is the key to a successful deal. If you do this part poorly you will feel it in your wallet. Some important points are as follows:
- Know your cost per day. It is important to understand what time does mean in terms of money. Every delay eats into your profit or increases your loss.
- Stay on top of the project. This is not the time to take a couple of weeks off to go Hawaii. You also need to be there every day to deal with problems as they arise.
- Manage your timeline properly and stay on schedule. Coordinating the different aspects of the project is difficult but essential to its success.
- If you are doing most of the work yourself, weigh the time saving compared to the cost of the help. It is frequently cheaper to hire work out to save a lot of time.
- Don’t hold out for top dollar. If you receive an offer that yields an acceptable profit, take it. Getting greedy can turn a decent profit into a big loss.
Buying It Right
While there are no guarantees, there are two constants in rehab. The project always seems to take longer than you initially thought and winds up costing more than you expected. This needs to be factored into you initial evaluation. You might do everything else right, but if you paid to much you will lose. When deciding how much to pay you need to consider the following:
- Time Needed
- Material Cost
- Labor Cost
- Financing & Holding Cost
- Expected Resale Price
- Desired Profit
Remember to include plenty of “wiggle room” to be safe. This is not the time to put on those rose-colored glasses. Be brutally honest with the numbers and only attempt a deal that makes sense. There are enough good deals out there that you do not need to try to make a bad one work.
Avoiding danger is no safer in the long run than outright exposure. The fearful are caught as often as the bold. – Helen Keller