The books, videos and seminars make it sound so easy to fix and flip a single family home for a big profit. It seems there is always a middle class dressed professional marketer telling us how easy and fun it is to purchase property and turn it into a profitable business. With my research I planned to highlight the pitfalls and blatant mistakes so I can avoid them early.
As with any business or financial venture there are risks that cannot be seen on the surface and become hard lessons for the new guy. It results in money and time lost due to common mistakes. More important than that is entrepreneur becomes disillusioned and loses faith in the dream.
What are the 12 mistakes made when someone starts flipping houses?
- Failing to build a team at the start; agents, investors and contractors
- Creating a bad plan or not having one at all
- Failing to follow money management guidelines
- Failing to get agreements in writing
- Risking life savings or retirement money to get started
- Rounding and fudging numbers to make things look better
- Failing to control the buyer and process
- Holding the property too long and turning away from early less profitable deals
- Not requiring earnest money after inspections
- Handling post inspection results with a panicky buyer
- Trusting contractors with cash
- Failing to record your memorandum after contract is signed
These items may seem like easily identifiable and avoidable problems but when exploring a new venture common things can be missed. Each of these mistakes contain different reasons for the process to fail. It could be the buyer backing out, the contractor paying for previous work, too much risk for too little reward or just managing the numbers improperly. Lets explore some of the more common mistakes made by the first time flipper so we can avoid them.
1. Failing to Build a Team
There is only so many hours in a day and so much work that can be done by 1 person. Every investor makes a similar statement where they wish they had started building their team early on instead of after 2 or 3 flips. They lost capital and/or time because they thought it would just be a matter of will power and they tried to go it alone. We don’t want to make that mistake.
So what would constitute a team that could assist in financing, fixing and selling a property?
- Real Estate agent with access to the MLS
- Friends and family investors for low cost and short term loans
- Friends and family labor, consider paying them with profits
- Professional & insured contractors or general contractor
You can find realtors by simply doing your homework on properties that you might want to flip. Contact them about distressed properties and let them know you are looking for your first fix and flip opportunity. These types of relationships can be very valuable to the modern real estate investor.
The solution is to connect with friends and family first looking for that brother, sister or cousin that happens to be a realtor. You might also find some family members that will help with finances or contracting that can be trusted to complete the job as planned. The next step is to network in the professional world to find these same people and skills.
2. Not Creating a Plan
For the first flip you might be considering winging it, pushing through the tough times and taking it as it comes. Many first timers learned the hard way that this leads to higher costs and a longer time frame to complete the rehab and sell the house. In this business time is very important and can be costly to ignore.
Failure happens by not knowing what steps to prepare for when the current milestone is reached. The solution is to create a detailed plan and document each step along with challenges and their possible solutions. You should be rarely surprised when following a detailed plan. Here’s a rough one to get started with:
- Property or deal search, should include agent suggestions
- walk through evaluation
- Estimate on rehab and repairs
- Compare other homes and recent sold properties
- Generate your acceptable min and max offer
- Contact lenders and get pre approval
- Create an approximate schedule for property
- Make offer
- Property inspection, prepare to renegotiate
- Finalize and confirm a closing date
- Contact contractors and prepare to renovate
- Sign contracts and pull permits if needed
- Take before photos
- Begin renovation
- Check on contractor work daily
- Schedule permit inspections
- Final walk-through
- Take after photos
- Clean or professional clean the house
- List with Realtor or ‘For Sale by Owner’
- Review and negotiate offers
- Accept offer
- Expect home inspection & prepare to renegotiate
- Review buyer funding and settlement dates
3. Not Using Smart Money Management
In the course of purchasing property we will need capital to purchase, money for materials, more money for contracting and any other costs that arise while the rehab is happening. Mistakes while managing money will not be in the hundreds of dollars, they will be thousands and 10’s of thousands.
Smart money management means defining a budget, controlling costs and directing capital while keeping an eye on profit. Be sure to ask your tax professional on how to best to reduce taxes and save capital during the rehab. Here are some suggestions I found that make sense.
- Create a budget for each property & track all transactions
- Define capital requirements accurately, no fuzzy numbers
- Open a business bank account & use it for all rehab transactions
- Ask a tax pro about mileage & materials cost
There are plenty of apps that help with money management and can be useful especially when your more mobile.
4. Not Get It In Writing
This one should be pretty obvious, please avoid the real estate handshake deal. The lack of a documented contract leaves you open it the buyer backing out of the deal or changing the terms at any time. This situation can destroy a deal and your plans for flipping the house.
You can discuss the terms and requirements of the deal but be sure to record the details of the agreement to be included in the contract. Review these details with your attorney so the contract will be accurate and properly worded.
Basically no contract = no deal.
5. Risking it All to Get Started
Part of starting out is finding or generating capital to finance your first flip that results in profits for the next. I found many websites that recommend using risky sources for funding your first flip and to get started in real estate investing.
Risky is defined and sources that you depend on to live such as life savings, retirement loans or any other investment tools that you might borrow from. Further searching found other professionals recommending to avoid these finance options as they can become a one and done solution. Don’t risk it all when you can generate capital yourself, partner with a financial source or use a hard money loan.
One of the skills an investor should develop is the ability to build capital for future investment. Instead of risking personal finances you can partner with an investor, ask family members to invest or look into generating capital by wholesaling properties first.
6. Fudging the Numbers
Another common mistake is modifying the numbers to feel more confident with a deal or property. Often times you will generate 10, 15 or 20 offers and only accept 1 of them that’s profitable enough to be flipped. This can be frustrating and the less experienced flipper might being to ‘fudge’ numbers to better reflect the results they would like. This can lead to losses when the house is sold for less than what was expected or when improperly calculated materials & labor cause cost overruns.
Lowering the labor and materials cost or increasing the final sale price is how many flippers fail. Keep a close eye on all materials cost and document them down to the penny. When performing the initial analysis use tools such as the 70% rule with comparative analysis down to the square foot. A good real estate agent can help with a better understanding of the market value and you can definine real numbers that can be counted on.
7. Failing to Control the Buyer
After the offer is accepted but before the final documents are signed the buyer may back out of the deal. This can happen for a multitude of reasons but in many cases it can be avoided by controlling the buyer. Luckily there are signs to watch for that may signal that the buyer is getting cold feet. Some common red flags are:
- Not returning calls & missing appointments
- Constant request for contract changes
- Failing to return completed paperwork with signature
If the buyer is getting cold feet you will want to contact them and discuss the issues they are facing. It’s not uncommon for the buyer to have issues with obtaining a mortgage or concerns after the appraisal comes back lower than expected.
8. Holding Too Long
The process of buying, fixing and flipping a house is not an overnight task. It takes many months to get the people, approvals and materials together in a logical plan and complete all the work. There are times when starting a project where a buyer may appear interested in the property before all of the planned rehab has completed.
The overwhelming response to this situation is to ‘Not’ wait to get a better offer as planned. Consider the buyer and profit over your current schedule.
For instance spending two more months time and labor to finally put the house on the market and get 10% more than the buyer is offering now may not pan out. Holding the property too long can change a profitable project into a loss.
9. Not Requesting Earnest Money
Earnest money is proof that the buyer is committed to closing the sale by providing a small deposit. The non-refundable amount is usually between 1-3% of the purchase price but it is also negotiable and has seen rates as high as 10%. The money is held in escrow by the seller’s broker and will be applied to the down payment and closing costs later.
If the buyer is not willing to provide earnest money then they should not be considered serious about the purchase. Investors sometimes feel bad asking for ‘proof’ but this is another method to get the buyer to commit to the sale.
10. Post Inspection
The post inspection is where an independent inspector looks over the repairs done to the property and identifies any issues. As the seller of the property the results can scare a potential buyer away so it’s important to be prepared to discuss the results with the buyer.
Keep in mind that the inspections tend to turn up issues even if they are small. Most people do not want to pay for an inspection that never finds an issue so the inspection will include even small and less important problems.
This is an opportunity to talk with the buyer about the inspection results and reassure them that that the deal can continue. If there is still work to be done you might need to push out the closing schedule or renegotiate the price to satisfy the buyers concerns.
11. Trusting Contractors with Money
After you have verified the contractor’s certifications, experience level, checked customer references and obtained proof of insurance you will need to agree upon a payment schedule. Payment should only take place after the work has been completed and inspected. Many contractors will ask for money up front or a percentage before starting any work.
The rule of thumb is to never pay contractors up front or for incomplete work. I found some horror stories where contractors had spent money from their last incomplete project on alcohol and they are hoping to use your payment to finish that job before stating your… and it goes on from there.
Some contractors prefer to be paid cash and offer a discount for you to do so. It’s not recommended to pay cash but if it’s necessary always require a receipt for every cash payment and be sure to have an agreed upon signed contract before making any payments.
The contractor will need to purchase or have purchased materials for the project. They should provide a list of the materials needed because they are the most knowledgeable regarding the work to be done. To protect your project and support the contractor you will pay for the materials on credit so there is a record of every item. This protects you from a contractor dispute who leaves with the materials or walks off the job.
12. Fail to File Memorandum
Once you have an offer accepted and contract is signed there is another step to protect your deal and dissuade seller to sell to a higher bidder. This is to officially record the sale of the property by recording a memorandum at the courthouse. This prevents the seller from selling without you knowing for any number of reasons including if they get another offer.
Documenting the sale will ‘cloud’ the title for this property and this will appear when a title company searches the title, they will then see that the seller already has an agreement with you. The title company will then contact you using the information provided on your affidavit. At this time the title company cannot issue a title policy to insure the title because they now know you have an interest in purchasing the property.
How to flip a house for the first time
Search for a distressed property and calculate the repair costs, then find an investor or hard money loan to fund buying the property and flipping it. Learn as much as possible before executing the process.
How To Flip Houses With No Money
Search for a private investor or partner or get a hard money loan to fund the project.