I got an email from a client recently who mentioned to me that he might be looking for properties to flip and it got me to thinking.

How much do you have to make on a deal to make it worthwhile in this market and have you considered what the numbers have to look like in order to achieve your goals? We are at a time in the market where the idea of making any money on a 6-18 month hold is becoming more and more suspect. I am strongly recommending buying with longer hold periods in mind and buying properties where the numbers work at the contract price.

Let’s say you’re going to flip a Single Family and the market price “as repaired” is $300,000. What would you pay for this if it required $40,000 in upgrades and repairs to get to that value?

Take the $300,000, less the $40,000=$260,000. But you have to figure on your construction number being short by 20% as a rule of thumb which is $8,000 - now we’re at $252,000.

Once you put the property under agreement we’re probably 60 days to a close realistically, maybe 45. If you think construction on the property is going to take 3 months let’s go ahead and figure on 5 months instead (just to be safe).

Now you have to market the property. Assume that this will take at least 3-4 months plus the additional 60 days for the new buyer to close. So this is a total cycle of 12-13 months where you’re carrying a note for 10 or 11 of those months. Also remember the time of year. At best getting into a property to flip today means you are closing in April, and hopefully coming to market in the fall, but God forbid if you’re starting your marketing in the winter.

Now if the reports I’m reading are right and residential real estate prices are going to continue to lose ground this year [let's say 8% before it turns around and we're making positive strides] then your $300,000 sales price that you figured on is more like $274,000, less the $48,000 in repairs equals $226,000.

So then you look and say OK, I’m putting down about $60,000 (approximately), so with this kind of risk what’s the minimum you have to make - $20,000 maybe, more? I have a friend a good friend who is a broker and has flipped a number of properties (I’ve mostly been involved in small and medium sized condo conversions as far as flips go) and this was his rule of thumb for making single property deals worthwhile, he wanted to make $20,000 for his trouble - yours could be more but let’s use that for these purposes. So now you can pay $206,000 for this property then put $48,000 into it for a total of $254,000 - but we haven’t figured on the financing charges.

Right now unless you are paying cash, and I don’t know why you would do that, you will have to put down about 25% of either the total figure “acquisition and construction” the ($254,000) or of the acquisition alone depending on the lender, but probably of the total so still about $64,000. Leaving you with a loan of $190,000. Let’s assume you can get an interest only construction loan at about 7% from a local lender. That payment will be about $1100 dollars a month plus taxes, let’s say $200 per month, and insurance for $100 a month. For a 10 month hold that’s another $14,000. So you can really only afford to pay $192,000, not $206,000 for this property.

But wait you forgot the marketing costs - figure on 5% anyway. Maybe someone will do it for 4%, maybe you have to pay 6% or maybe you think you’re going to do it on your own - not likely in this market. So 5% off the $274,000 is $13,700. This gets us down to $178,300. I haven’t even included any financing charges like points. Count on paying 2 points.

Remember you’d be taking on this whole effort to make an extra $20,000 this year. It’s true things could go better than I’ve described above but let’s not bet our $64,000 on it - this is a time to play it safe in real estate.

If this were a property on the open market the idea that a seller would let what is essentially a $250,000 property go for $178,300 is a tough bet. Truly there are enough owner occupants and value investors, at least in the multifamily market, still shopping that we’re still seeing multiple offers on well priced properties. It’s true you could pursue these deals through pre-foreclosure marketing strategies but then that’s not a service I’m involved in (RealtyTrac provides listings for 650,000 foreclosure properties.). If you ever read this blog you know I like the bank owned deals, but still… you’re talking here about making this basically a full time job - for $20,000 maybe.

I like the value play, get into as much as you can, make some money with it but watch it appreciate over 5 or 10 years. If not this then “value add” or reposition deals where you get your hands a little dirty but you’re getting into something where income is the idea and where your demonstrable returns justify your new ask price. Something where the value is not so speculative and short term, and something that is so rentable that you aren’t going to worry for 1 minute about carrying the property.

Obviously we could be more precise in an excel spreadsheet. Also I’m ready to be wrong about this, but I’d be thinking about a property that you wouldn’t mind owning for a while if you had to.

In a great area or an area with a lot of potential I wouldn’t mind having the property just pay for itself. If we’re talking about Lowell or Lynn or another area that will likely have you working a little harder for your money then you’re going to want some cash flow.

Thoughts?