Flipping Properties Require Margin and Fixed Expenses
Monday, November 9th, 2009
This article, “Flipping Properties Require Margin and Fixed Expenses,” by M. Anthony Carr from Realty Times gives first time investors a good perspective on flipping homes. With so many foreclosures out in a buyers’ market, first time investor-flippers need to be aware of scenarios that might give them second thoughts:
Ah, yes. The flipping of houses. What better way can a common man build his millions? Well, not many. It really can be a quick way to create wealth as long as the flipper doesn’t let the flippee house take over his life and bank account.
The number one equation to take into account on this project is the margin. What is your cost to get into the house and the average sales price of a house in the selected neighborhood on a remodeled home? Obviously, you want this margin to be as high as possible. The challenge in today’s market, when looking at it nationally, is that many of the diamonds in the rough are located in areas where prices are still declining, so the investor must be sure to purchase the house, gut out the old, insert the new, and get out of the house before the declining price catches up with him and his profit.
Successful flipping is all about your margin. I would love to give you a set equation with fixed expenses, but every house is different. One house may need a kitchen, another, the kitchen and two baths. Here’s a pretty cool calculator online that can help determine your cost at www.RemodelingMySpace.com. With the flipping I’ve seen done in our market, it seems to be pretty accurate on its estimation of replacement costs.
Understanding that all homes are different, the sample below works for our hypothetical house only. Not for every potential flipper on the market. So here’s your calculation.
Let’s say the asking price is $199,000 for the house in its current condition. You see that it needs a new kitchen, 2 new baths, a new furnace, carpeting, painting inside and out and finally, some landscaping.
After your bids from your work crew come in, your fix up expenses come up to $47,000. Add the $47,000 to the $199,000 for your net expense: $246,000. Now you have the Realtor of choice calculate the price homes are selling for in the community that are remodeled or in excellent condition (because by the time you get done, yours should be in excellent condition). Let’s say it’s $285,000. Wow, it looks like you just picked up a cool $39,000. Well, not exactly.
First, you have to determine how long it will take to sell the house and calculate your carrying costs (monthly payment, construction loans, etc.) If you’re in the same situation as most foreclosure markets, you need to figure about 4 – 6 months carrying costs of preparation and marketing time. If your costs is about $1200 per month (for the mortgage plus utilities), you’re now out $4800 (and your take has dropped to $34,200).
And don’t forget your 7 percent selling costs for commission and closing expenses, which is roughly $19,950. So now your margin of profit is about $14,000 give or take a $1,000.
As you can see, this is how a lot of people get into trouble thinking that if they pick up a house for $85,000 under market price they’ll be rolling in the dough quickly. Most experienced investors are looking for a margin of 50 percent of the value or $100,000 on a higher priced home.
The challenge of a profit margin of $14,000 is that it can be quickly removed in a declining market or the negotiation process in a buyers market.
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