Thursday, May 14, 2009

When a flip becomes a spec-house.

When it comes to flipping houses for profit, I've developed a habit of one-upping myself. I just don't seem to get enough abuse.
After several cosmetic re-habs, I bought this single-story ranch for $367,000. To just renovate the kitchen and bath would have maybe broke the project even. I knew this house needed something a 2nd story. I knew I could make money on the added square footage.
That decision shot the budget up from around $80K for my typical cosmetic re-hab to $167K to effectively double the total square footage of the home from 1100sf to 2500sf.

The town I chose to buy in had a cooperative, zoning-friendly building inspection department. So I was able to get plans drawn up, submitted, and had a permit in hand by the 5th week. I did have to carry the mortgage on the house for those 5 weeks, which was excruciating but worked into the budget.

By the time the house was buttoned back up, and ready for an open house, 12 weeks had flown by. I was 4 mortgage payments into this deal, and $167K lighter in cash but I had the best looking house on the market. After putting all that work and money into it, I was tempted to price it high. After all, there was no other new construction home on the market. I had a unique product.
About the same time I was coming on the market, Obama and McCain were at the height of their campaigns which both painted a bleak financial outlook for the US. That, coupled with the credit crunch, put a strain on my first open house.

I only had 127 people come through instead of the 150 I had hoped for. Yeah, it was a zoo. I came out 5% lower than any competition, and had the home under contract by the 7th day on the market. I had to come down a bit more in the negotiations, but got it sold in a week.

Here's how the numbers worked out:

After aquisition and construction, I was $534,000 into the project. I sold the house for $642,000, and after paying commisions, legal fees, closing and carrying costs, my profit was a little over $60,000.

This works out to about an 11% return on the total cash budget. Which is not so fantastic. Reasonable, but not fantastic. However, I utilized the most powerful tool in real estate investing: the power of leverage. Let's look at this again.

I didn't put $534,000 of my own cash into the project. Actually, I financed 90% of the aquisition cost, which meant I only put in about $200K of my own cash (and a sizeable chunk of that was on a credit card). So, my own cash-on-cash return came in at 30%. Now that's more like it. Annualized, because I finished the project in 5 months, is 72%. How many wall street guys saw those kinds of returns in 2008?

Invest in real estate. Whether short term or long term. Invest in real estate. You'll be glad you did.

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