Buying a fixer-upper, investing in repairing and remodeling the home and selling it for a profit is a relatively routine practice for real estate investors. For people new to real estate, flipping homes can seem like easy money. Anyone who’s spent a lot of time flipping homes can tell you, however, the process is rarely as easy as it seems!
There’s usually a lot of capital at-risk when you’re flipping homes, and it can often be challenging to recoup your expenses, let alone turn a profit. Many homes that look like good candidates for flipping require much more investment in remodeling and repair than is initially apparent. For many investors, the real estate they’re planning to flip can quickly turn into a money pit.
There are several external market factors that make it challenging for even the savviest real estate professionals to flip homes. One example is the neighborhood housing ceiling.
Meet the house ceiling
The neighborhood housing ceiling refers to the maximum sale price associated with a specific area of a city. While the average sale price of a home in your city may be $500,000, for instance, the average sale price of a home in a specific neighborhood may be significantly lower.
If you purchase a home with the intent to flip it, you need to be intimately familiar with the area and surrounding micro-economic factors.
Buying a home in a neighborhood you’re unfamiliar with, you may think you’re getting a good deal when looking at the city market as a whole. In actuality, you won’t be able to recoup the value of your investment.
Overcoming the housing ceiling
Thankfully, savvy investors can conduct research and perform due diligence to ensure they’re investing in a solid flipping opportunity.
The first thing prospective home flippers need to do is establish a target neighborhood. Rather than looking for opportunities city-wide, first select the specific area where you’re considering flipping a home. This helps you adequately research micro-market conditions impacting the success of your investment. Becoming an expert in your target investment neighborhood provides you with information necessary to make informed, lucrative home purchases.
Once you’ve selected your target neighborhood, you’ll need to carefully research the sub-market, and watch sale prices and neighborhood trends. This empowers you to make a more informed investment decision that’s data-driven and backed by hard observation.
Choosing the neighborhood
It may not seem like it, but selecting a target neighborhood is the most important step in flipping a home. If you fail to select a lucrative neighborhood, you may end up with an overvalued investment property you’re unable to sell, because you need to exceed the neighborhood price ceiling to recoup your investment.
There are both benefits and drawbacks associated with investing in both low-income and high-income neighborhoods. Low-income neighborhoods present a much lower barrier to entry compared with high-income neighborhoods. They’re more likely to have a low neighborhood price ceiling, however, which could greatly reduce your ability to reap a good return on your investment.
Transitional neighborhoods may have a flexible price ceiling and could provide you with the best possible return. If there’s a formerly troubled neighborhood with significant new development activity in your area, consider investing in a home to flip there.
Considering market data
You should plan to spend a lot of time examining market data in your target neighborhood before purchasing a home to flip. This allows you to more accurately budget for renovations, prepare for real estate sales cycles and time your investment correctly.
There are several aspects of the micro-market investors should consider before buying an investment property to flip, including the following:
•Track sale prices: Look at the average sale price of homes in your targeted neighborhood to determine how much homes are going for. Assuming most of these homes are in good condition, this is the amount you can reasonably expect to sell your investment property for.
•Determine the months of supply: The months of supply refers to the amount of time it would take to sell all of the existing homes on the market in your targeted neighborhood. If the months of supply is higher than six, it’s a buyers’ market and you should consider investing elsewhere.
•Research market trends: There may be other market trends affecting home sales in your targeted neighborhood. For instance, new developments in the area may be pushing prices higher; conversely, an uptick in crime or governmental regulation could depress real estate sales.
Finding the right house
Next, you’ll have to identify the investment property that most accurately meets your needs and goals as an investor. There are several factors you’ll have to think about before purchasing a home to flip, including the following:
•Purchase price: Carefully consider the amount of money you’re going to spend on the home’s down payment, mortgage service and closing costs. Even small miscalculations or oversights could result in missed profits from your flipping opportunity.
•Necessary repairs: Analyze the home thoroughly, and determine all of the repairs necessary. You should plan to spend more than you think is necessary – there are a lot of issues you may not be able to identify immediately.
•Size and property type: Also consider the size and type of building you’re attempting to flip. While buying a multi-family property may be more lucrative in the long-run, for instance, there are regulatory considerations you’ll have to account for.
While purchasing a home to flip can certainly seem like a risky investment, it can be a great way to get your career as a real estate investor off the ground. It’s also a great way to rapidly build wealth, provided you perform your due diligence and acquire a property you’ll be able to sell for a profit.
The headwinds of neighborhood house ceilings can be strong, but not insurmountable. Learning to identify good flipping prospects in an area will also lead to a better fundamental understanding of house valuation. In the future, you’ll be a more savvy investor when it comes time to buy a property—whether you continue flipping or try a different investment approach.