SHOULD I FLIP … OR SHOULD I HOLD
Residential Rental Properties … That Is!
First in a Series of 2 Articles
As CEO of KRS Holdings – a rental property management firm serving investors in Central Virginia – I have both personal and professional experience in two residential real estate investment strategies – “house flipping” and “buy and hold”. There is a place for each to be considered by residential property investors. In this article and its companion-piece next month, we’ll take a look at where each approach may have merit, and the relative pros and cons of both. This month, we’ll focus on flipping houses.
As you read these two articles, be sure to keep this guiding principle in mind: Which investment option is best for you based on your short and long-term objectives?
House flipping has as its main objective, turning a profit as rapidly as possible by buying and then re-selling a single-family or apartment at a profit. Therefore, the object of the exercise is to have your capital tied up for the least amount of time possible and enjoy short-term profit-taking as a result.
Properties that are suitable targets usually come in one or both of two “flavors”:
Note: There are cash costs and carrying costs associated with flipping, so the faster the flipper flips a property, increased profitability is the prize.
So, here’s a happy scenario that would put a lot of money into your pocket. Let’s say you buy a fixer-upper for $125,000, invest $25,000 in improvements and flip the house for a sale price of $160,000. Nicely done! You’ve just enjoyed a return of $10,000. Do that enough times in a year and you can realize huge profits.
Consider this definition of investment:
An investment is an asset intended to produce income or capital gains. Investments can be anything an investor believes will produce income (usually in the form of interest or rents) or become worth more.
By this definition, an investment is a vehicle to generate passive income. Develop sufficient passive income and you will be financially independent and not reliant on your daily work to provide for your welfare and that of your family. Reach that milestone and if it’s your choice … retire.
In contrast, house flipping does not yield passive income. Your profits will be one-time, earned income project-to-project.
House flipping is work! Flipping must be treated as a business that requires constant attention to research, market trends, personal time commitment as well as workers and employees. It is a management-intensive endeavor that includes:
OK. So flipping is work. Lots of money-makers are. Let’s see what the work vs. reward equation may look like on just two of the above.
Finding your flip: It’s not that easy. And when you do find a target you will be in competition with others who are on the same flip-mission as you. Investing your time to create a network of people who may be “in the know” when a property will be available as a desirable flip-candidate will be of considerable help to you. A few examples are lenders who may know of a distressed property headed for foreclosure, divorce attorneys with clients seeking a quick sale at below market prices and tradesmen who see a mutual opportunity to partner with you on a fixer-upper.
Funding your flip: Flipping involves many variable costs to be deducted from the gross profit realized from the sale of a fixer-upper or distressed property, including:
So, let me be clear … I’m not making a hard and fast case that you shouldn’t flip. However, you really must understand that it’s a business … not an investment.
In general, I caution that flipping is reserved for aggressive financiers seeking short-term gains … and who have the intestinal fortitude to bet on a run-down property having no major structural flaws … that can be renovated cosmetically for a quick turn-around sale; or a property that is in financial distress that may be purchased at a below market price and quickly resold.
If you fit that profile, certainly consider flipping, but do your homework to be sure you’ve got all bases covered before you take the plunge. (Please excuse the mixed metaphor.)
By way of contrast, in our next article, we’ll tackle the residential rental investor world of “buy and hold”.