I got a call out of the blue the other day. It was a real estate investor whom I’d never…
Author Justin Pierce
Let me make this brief and straight to the point. Real estate investors . . . your time is your…
Two weeks ago I wrote a warning about over-improving and last week I told you about a house that I…
Last week I wrote about the slippery slope that is rehab over-improvement. This week I would like to share a…
Rehabbing or flipping is almost 100% art. There are very few hard and fast rules. The goal, like in any…
I cringe to even think of writing this post, peppered with politics, but we just had an election for a…
Let me tell you a story about how I made a bundle of money this week. It’s the story of how I captured my latest deal. Now when I tell you the story you may think that I’m counting my chickens before they’ve hatched but you really do make your money when you buy. Never, loose site of that important fact. In this case the money is made and in the bank. Now until the home is sold the money is mine to loose or keep, depending on how I manage the project.
Persistence and Ambition Lead to a Working Relationship
You could say it started about a month ago. A young ambitious Realtor contacted me when he saw my ads stating that I buy houses. He sent me about a half dozen listing and to my surprise the list had potential. I am a licensed and active Realtor but I appreciate a go-getter when I see one. I can only cover so much ground myself and I love to enlist the services of ambitious people. We looked at a few of these properties on his list and we made some offers but nothing came through. The beautiful thing was that this young Realtor came back with another list of properties. That is how I knew he had the stuff. Many Realtors say they want to work with investors but when they actually see the nature of the game they roll out quite quickly. The fact that this guy came back told me he was real deal.
Knowing what to pay for a home is critical in the rehabbing game. I’ve come up with my own method for determining my purchase price for a property. While I don’t think my method will work for everybody, maybe it will give you a good place to start or perhaps, some new ideas.
There are a lot of different variables that you’ll have to take into account on any specific deal; I’m interested to know from other rehabbers how their math looks.
Calculating the Purchase Price for a Rehab Property
Step 1: Know the value of the property. – That is the resale, after repairs value of the home. Make sure you view actual recent comparable sales. Once I feel confident I know what a property is worth I deduct 26% from that price. 20% is what I like to shoot for in a profit. With the market firming up here lately I’ve been cutting that margin to 16% on real good deals. On bigger deals or on deals that feel a little more risky I stay firm with the 20%. I wouldn’t go much lower than 16%.
Historically homes sell on average for something around 8% less than asking price. If you’re only pricing in a 10% profit then you might end up just doing a practice flip. A practice flip is a deal where you don’t make any money. Essentially you donate all of your time and effort for free to the end home buyer. The other 6% is the number I put in for closing costs when I sell the home. I’m a licensed Realtor so I list the home myself, which will save me a little. So in my case, 4% goes to Realtor fees and the other 2% is what I budget for other closing costs. You can choose to try to sell the home yourself and save the Realtor commission. If you are not a Realtor and you plan on hiring a Realtor then you probably will need to budget 6% for the Realtor fees plus another 2-3% for closing costs. I always anticipate having to pay some of my buyers closing costs.
In real estate there seems to be a culture of do-it-yourself. There is a swagger amongst investors who will tell you they can do almost everything and anything in no time at all. Now, I’m sure you could learn how to be a lawyer at the public library but I think formal training might be of some value.
You can’t be all thing or all people in real estate. In the next few weeks I will write a post about forming a Master Mind Group but for now I want to give a special plug to wholesalers. I want to both convince investors to work with wholesalers (specifically rehabbers) and I want to help wholesalers add value to their services. The first step to any business is to learn the business and the next is to learn what you should delegate to others.
Keep Your Friends Close and Your Wholesalers Closer
There is another cultural norm in real estate: if you can be cut out of a deal you will be. I don’t know how many times I’ve seen wholesalers, realtors, and mortgage brokers cut out of deals after performing significant services for which they were never paid. This is one reality that makes it very difficult for wholesalers to provide their best services. They have to spend almost as much time securing their position as they doing trying to get the deal done. Wholesalers don’t have the protections that realtors have. They’re actually a pretty skittish bunch. Cultivating a relationship of trust with your wholesaler will ensure they can give you the best service and increases the chance that you’ll get more good deals coming your way. The wholesaler/buyer team is much like a marriage. It can’t work very well if there isn’t trust or if only one partner is working on the relationship. In fact, I know many would-be wholesalers that leave the business because they bust the humps to find deals but then can’t find reliable end buyers. That is just a crying shame considering how rare the good deals. Help your wholesaler help you.
There is a widely accepted but rarely named enemy that pervades our culture and handicaps our people. I hereby resolve to name it and identify it in defense of those with the capabilities which this enemy stifles. I want to give cover to all of you who have thought it but were afraid to speak it; to those who have muttered it but where silenced by the shrill cries of indignation. I will scream it in proud defiance atop the rock of natural law. Simple common sense and cause and effect will be my shield and my sword though I know they have proven useless against the squishy formless subversive weapons of the warriors of the enemy. I will be called greedy, heartless, and hateful by the merciless minions of the enemy but I will bare it as a patriot to the cause of productivity.
This enemy is guilt. Its weapon of choice: charity. Its result is the abdication of our free will to think, to speak, and to act in our own best interest. Guilt is the weapon that turns our strength against us. The more successful you are the more reward that natural law endows upon you and thus the more guilt you are expected to feel. In the end the most successful among us are left questioning their own rewards and sabotaging their own business by questioning whether they deserve to make so much money.
In turn the enemy is shameless. He comes with indignant scowl on his face with hand extended demanding his share of any profit. He grins and turns his back when a deal loses money as if saying, “That’s what you get.” Never would the enemy consider giving back a portion of what he took from the last deal. His interest seems to lie in taking from those who are successful and keeping down those who are in need.
After the financial meltdown last year lawmakers and regulators were determined to discover who was responsible for the debacle. Yes, the very people who drafted the laws governing mortgages and yes were also responsible for oversight of them went out to determine who was responsible for the melt down. The first culprit, of course, was the lenders. I think we all know how that played out. The next group on the chopping block was the appraisers. If they wouldn’t have appraised the homes then the lenders would not have lent on them, so goes the finger pointing. From that came sordid tales of realtors and mortgage professionals pressuring and even bribing appraisers to up the value of a property.
Home Valuation Code of Conduct – HVCC
After the scapegoats were identified the legislation followed. One prime piece of legislation aimed at appraisers was the Home Valuation Code of Conduct (PDF). The intent of the HVCC was to achieve more appraiser independence to reduce the amount of pressure placed on appraisers by lenders and Realtors. Well, if their had once been undue pressure on appraisers to inflate values it now pails in comparison to looming threat hanging over appraisers and it’s compelling them to keep prices down.
Every once in a while I catch an episode of Flip this House; I have to admit, it is entertaining and it does show the drama involved in fixing up a home. However, I am very amused when they show the final numbers. I have watched episodes where a first time rehabber has bumbled and stumbled through the process and yet still manages to make a profit in the end, according to the show. This and other shows might make one believe that a flip is a sure bet. When they do the numbers they normally list the Purchase price, the fix up costs, and the sales price. Wow, are they missing a bunch of stuff.
Please take my advice: Do NOT start that flip if those are the only categories of expenses that you are anticipating.
The REAL Costs of Flipping a House
Here are the actual costs of one of my recent flips.
*This deal was brought to me by a wholesaler. So my purchase price consisted of both the amount that I paid the owner (in this case a bank) and the finder’s fee that I paid the wholesaler.
Costs of Money:
3 Points: $7,312.50
Broker Fee: $2,437.50
Holding Costs: $9,500.00
Lender’s Lawyer: $1,220.00
Total Costs: $20,470.00
The cost of money or the cost of capital to me is everything that the lender charges for the use of his money. Note that in this case (which is pretty standard) I paid the lender 3 points and I paid the broker 1 point. Note that there is also a lawyer; this lawyer is not the title company. This is the lenders lawyer who writes up the contracts and the deed. He’s the one who does his very best to shackle me to ensure his client gets his money back. The lawyer represents me in no way at all, but I get the privilege of paying for his services. Most hard money lenders will either have this fee or some sort of administrative fee of about the same price.