A Guide to Buying, Renovating and Selling Houses
What is “Home Flipping” Really?
This guide, written with the help of the experts at HomeVestorsⓇ, the largest home buyer in the U.S., is meant to familiarize new potential investors with what some people refer to as the “home flipping” process, but HomeVestors prefers to address the professional home buying business with its challenges, benefits, and ROI.
Flipping houses is a good business, but the term “home flipping” generally implies a quick buck for little work, when the process actually involves a lot of hard work, knowledge, and skill. In fact, the professional real estate investor defines “flipping” as the process of buying a distressed house below market value, increasing its worth through repairs or other means, and selling it for a high price to make back the original investment and more. ”Flipping” can actually involve many complicated calculations, concepts, and decisions to be made, and failing to understand these issues can cause you to lose money on your investment.
If you’re just starting a career in real estate investing, you probably have a lot of questions. But, the process doesn’t have to be overwhelming. We’ve laid out the following how-to guide to help you learn how to earn the highest possible return on your home-flipping investment.
Calculating Your Potential ROI for Home Flipping
Before you purchase a house, you must have the tools for valuing residential investment property to determine the potential return on your investment. If a house’s total cost is significantly less than its estimated after repair value, it can generate a return. To get the process going, you will need to address the following points.
ARV > Total Costs
AFTER REPAIR VALUE (ARV)
- The After Repair Value is the expected price a given home will sell for under current and expected market conditions.
- To estimate ARV, compare your property to other similar properties in the same area that have sold recently.
- Purchase Price
As the largest cost, purchase price presents the greatest chance to reduce your total expenditure through negotiation with the seller.
- Repair/Renovation Costs
- Add 20% to estimates to account for unexpected costs.
- Base repairs/renovations on the expected use of the home, depending on the surrounding area.
- Based on assessed property value.
- Can vary, depending on:
- Length of ownership;
- Personal or investment property; and
- Primary or non-primary residence.
- Carrying Costs
- Mortgage costs, utilities, insurance payments, and any home services.
- Multiplied by months carried. The average number of days a home stays on the market varies widely based on local factors, season, and asking price. Know how many months you will likely need to pay for and factor this into your costs.
- Interest/Cost of Money
Depends on funding source. A bank loan will generally cost more to borrow than a loan from a friend or acquaintance. Mortgage rates also vary based on the market, credit score, geographic area, debt-to-income ratio, and down payment. HomeVestors offers funding support to all qualified purchases for its franchisees.
- Transaction Fees
- Realtor fees, typically 5-6% of selling price.
- Escrow and recording costs: ~$1000, vary by market.
By looking at other two-story, family use 3-bedroom homes near Dekalb and Stuyvesant in Brooklyn, I can determine this property will likely sell for $200,000 after repairs to the roof, new flooring, and a new coat of paint. This house is on the market for $140,000. Repairs are estimated at $35,000, and other costs are estimated at $17,000. This equals $192,000, or barely less than the ARV of $200,000. Don’t buy this house!
- After Repair Value = $200,000.
- Total Cost = Purchase Price + Repair Cost + Other Costs = $192,000.
- Total Cost is a significant percentage of After Repair Value. This house will probably not generate a return on an investment.
When You’re Ready to Buy
Once you’ve assessed that you’ve found a fixer-upper home for sale that may return your investment and then some, it’s time to make your purchase. Knowing the steps needed to close on a purchase and planning ahead can help ensure you’re able to seize the opportunity before the competition does.
After You Buy
You’ve now undergone months of research, preparation, and hard work to find a house and rehabilitate it to market value. Now it’s time to make good on that effort, by preparing to sell the investment property and finding the right buyer.
After You Sell
Pay capital gains tax
- Capital gains tax will be applied if the house is held for over a year. Otherwise the sale will be taxed as regular income.
- Rates will vary depending on whether it is your primary residence or not, how soon you sell it after you buy it, and whether the IRS considers it a personal or investment property. Consult with a tax expert to be certain of your situation.
While this is enough to get you started, there’s a lot more to know about buying and flipping homes. Each property comes with its own set of challenges, and a poor investment choice could take years to recover from. Experts recommend starting small and avoiding homes in need of major repairs. It will be to your benefit to start out by practicing on properties only requiring minor alterations, like new flooring or paint.
To learn more about the nuances of the process, take a look through our blog to learn more about what HomeVestors® can do for you. If you’re interested but don’t know how to take the first step, or have real estate experience but are having trouble finding leads, contact HomeVestors to learn about our franchise programs, which include training and ongoing mentorship.