In 2019, homes sold as a flip reached an all-time high of 6.2 percent of national home sales. But there is another side of the story of house flipping. That same year, gross profit continued to decline to an average of $62,900, down from the record high in 2017 of $66,899. Remember, that is gross, so there is no telling how slim or wide the net was.
With all the associated costs of flipping a house, including contractors, closing costs, unexpected catastrophes, you have to wonder, how do you renovate a home while still making a profit? This article will unpack the essential things you need to do if you want to survive flipping in the real estate market.
Move Quickly
The longer you take to flip a hose, the more money you lose. It is that simple. So if you want to make a profit by flipping a house, you have to move quickly. Every decision that you make after the house is yours needs to be made without hesitation.
Think through the contingents ahead of time and know what you will do when certain things happen, so that way you will not have to waste your time recovering from surprise and considering your options. Here are some tips on how to keep moving through the course of your flip.
Have a Detailed Plan
This may sound obvious but you might be surprised how many people go into a flip with the notion by replacing the carpet, vinyl flooring in the kitchen, and slapping on some new paint, and worrying about the measurements later.
Know your prospective flip, know how much it needs to make it flippable. Be ready to go before you close the deal by having:
- A detailed plan of what you intend to do
- A schedule of the workflow
- Contractors scheduled and ready to go
These preparations will ensure that everything is ready to go before you flip your house.
Expect the Unexpected
This sounds cliché, but this is never more true than when applied to flipping a house. You never know what you are really going to run into until you start the work.
You could remove sheetrock and discover mold. You could pull up vinyl and underlayment in a bathroom and find that the wax seal on the toilet has been leaking because there are two or three more layers of vinyl and underlay beneath the first. The possibilities are many and varied.
If you expect these kinds of things, especially as they relate to problematic areas of a house, you will be able to come up with contingency plans to enact when (not if) they happen.
Memorize “The Gambler”
That Kenny Rogers song about knowing when to put your cards down and leave the table is appropriate here. All the experienced flippers have a flop in their past. The reason why they are still in the business is that they cut their losses and moved on.
It is hard to do this if you have fallen in love with your property. Remember, this is a business, not a labor of love. Be able to recognize right away when you are in over your head and sell the house as-is. The quicker you make this decision, the less you lose.
Make Your Profit When You Buy the House
The single biggest determining factor of how much your profit will be is how much you paid for the house. It does not matter how good your renovations are or how hot the real estate market is, if you paid too much for the house, you will not make as much on your flip.
The amount you invest lays the foundation for everything after you make the investment, and this ultimately determines your ROI (Return on Investment). To build on the earlier points, if you have paid the right price for your flip:
- Your detailed plan of renovations will yield the highest gross profit
- Unexpected problems (that you expected and planned for) will be easier to absorb
- You will not lose as much, and maybe even break even, if you have to sell and move on
So how do you figure out what the best price is to pay for the house that you want to flip? Read on because this article is about to unpack a couple of different ways to make your profit when you buy the house.
Figure Out the After Repair Value
For both methods of determining how much you should pay for the house you want to flip, you need to be able to determine something called the After Repair Value (ARV). The ARV is just like it sounds: what the house is worth after you fix it up.
Unfortunately, determining the ARV is not an exact science. You need to know a few things:
- The real estate market in general: is it hot or tepid?
- The real estate market in particular: what are houses going for in the neighborhood?
- By how much (realistically) are renovations likely to increase the value of the house
Figuring out the ARV may not be exact, but it is not guesswork either. Once you have your ARV, you are ready to look at the two ways to determine how much you should pay for the house in question.
The Safety Margin Formula
In this method, you start with a focus on the safety margins of your investment. This formula will safeguard your investment with the following rule of thumb: never pay more than 70 percent of the ARV.
As an example, say you are looking at a home with an ARV of $200,000 and estimated repairs of $25,000:
- Multiply $200,000 by .70 (70%) and get $140,000
- Now subtract the estimated repairs of $25,000 from $140,000 and get $115,000
The answer to how much you should pay for the house is $115,000 or lower if you can get away with it.
The Profit Margin Formula
The second way to determine how much you should pay for the initial investment is as follows.
After you determine the AVR, decide how much profit you would like to make and work the formula from there. Pretend you want to make a modest net profit of $25,000 Using our previous example, the formula goes like this:
- Subtract the cost of repairs ($25,000) from the ARV ($200,000) and you get $175,000
- Now subtract the profit you want to make ($25,000) from $175,000 and you get $150,000
In this formula, you can see that the price you pay for the house is variable depending on how much profit you want to make. If you want to make more money you have to pay less for the home. If you are willing to go with less profit, you pay more for the home.
Which Formula is Better?
While the profit margin formula illustrates the main principle (make your profit when you buy the house), it does leave some wiggle room. For new or inexperienced house flippers, this could be disastrous.
If you are greedy, you may miss getting the house because you want to pay too little. If you are gun shy, you could miss out on easily won profit by paying too much.
So the safety margin formula is the best for beginners. It takes the guesswork out of the equation by giving you a safety margin that you should not cross over.
Put Your Sweat Into the Equity
Whether you decide to do the work yourself or hire it out, you will have to put time into the flip if you want it to go well. Later on, this article will discuss important things about hiring work out, but for now, consider your personal time investment.
The time you put into the flip will depend largely on whether you hire everything out or do the work yourself. This decision revolves around two main areas of the flip:
- Fixing up the house
- Selling it
Choosing professional help in these two areas can make you or break you in more ways than one.
Doing the Renovations Yourself
The more you do on the flip, the more money you save. So one of the things you should consider before you get into flipping is how handy you are. Especially at the beginning, money will be tight. You can increase your profit by taking on some of the work yourself. At the very least you can do the demolition, such as:
- Removing old carpet
- Tearing up old vinyl and tile
- Removing damaged sheetrock
- Removing countertops and cabinets
- Prepping subfloors by removing stables of scraping up glue
This is the unglamorous side of flipping. But by doing this, you can easily save yourself money.
But renovations involve more than just demolition. While every flip differs, here are some of the common tasks that you may need to do:
- Lay new carpet or hard floors
- Put up new sheetrock on walls
- Texture and paint
- Install cabinets and countertops
The more of these tasks you are able to accomplish the better your flip’s profitability. But do not be deceived. It takes skill and knowledge to do these tasks correctly and have them turn out well in the end. An attempt to save money could end up costing you money if you overestimate your skill level.
The best approach is to honestly evaluate your skills. If you have never done any of these things before, do not assume that you can just google it and figure out how to do them well. If you are in this position, then hiring out may actually save you money in the long run (more on that later).
Selling the House Yourself
One way to increase your profitability on a flip is to avoid realtor’s fees and sell the house yourself. When you involve a realtor, you need to pay their commission on the sale.
On the other hand, putting a for sale by owner sign on the front lawn may not get the job done. Selling the house yourself involves more hustle on your part. Using social media, direct email campaigns, advertising and other means are all part of what you may need to do to sell the home and complete the flip.
Have a Team That You Trust
In the beginning, you will need to put a lot of sweat and time into your flip, but there are some things you may need to hire out. The fact is, you cannot do everything (and if you are new and inexperienced, you may not be able to do anything).
At the very least there may be electrical problems, detailed plumbing problems, even roofing problems that require professionals.
If you want to make a profit at flipping you need to gather around you a team of pros who you trust. Get to know contractors and people who are skilled at the trades. The more people you have around who you trust to do good work and charge a fair price, the more money you will save in the long run.
There is an old adage about getting at least three bids before you decide who you want to do the work. There is a place for this, but, remember, to be profitable at flipping houses you have to be fast. Having a trustworthy team who are dependable and respond quickly is key to getting your flip done so you can move on to the next one.
Element Home Remodeling is a home renovation contractor based in Mountain View. We service the entire Bay Area and have extensive experience with both large and small renovation projects for investment properties. Contact us today to learn more and to request a consultation.
