Things you need to know when flipping houses

The term ‘house flipping’ has taken its place in the modern vernacular.

It’s the process of buying homes, sprucing them up, then selling them again. And it can be a full-time job, or even a business, for some.

Making a profit off of flipping houses sounds entirely feasible in theory. But, as with most money-making ventures, it’s not without its pitfalls.

What is house flipping?

Let’s start at the beginning. House flipping is an income or investment strategy that involves buying a property, renovating it, then selling it again at a profit.

Perennial house flippers can keep doing this ad infinitum, theoretically building capital as they go.

As you can imagine, to be a successful house flipper relies on being able to buy low and sell high. In between, it requires some investment in renovations, home insurance, utilities, council rates and charges, property taxes, and all the other usual costs of home ownership.

Some house flippers are more successful than others. Being able to do most of the renovation work yourself can save a tidy sum in labour costs. Living in the property as your principal place of residence while it’s being renovated can see you avoid capital gains tax when you sell (more on this below).

But even such skills and strategies won’t ensure house flipping is a lucrative venture. Let’s consider some of the ‘do’s and ‘don’t’s you’ll want to be aware of if you’re considering becoming a flipper.

Do: Study the market

House flipping only works if you're buying the right properties to begin with.

‘Buying low and selling high’ might sound easy enough, but you have to know what’s out there.

You, along with hundreds of other homebuyers, are looking for an undervalued property.

As a flipper, you have the added requirement of buying something that you can add easy value to, ideally without too much capital outlay.

You need to do extensive research, stick to your budget, not let emotion guide your decisions, be patient, and be ready to strike when the right property comes along.

Do: Buy well

Flipping essentially relies on buying homes at prices substantially under what other properties are valued at in the same neighbourhood.

Many flippers employ the 70% rule. In simple terms, the rule is not to pay more than 70% of a property’s post-renovation value - or after-repair value (AVR) - minus the estimated cost of the work it needs. For the maths nerds, here’s how it looks as an equation:

As an example, if you think you can sell a revamped home for $500,000, 70% of that is $350,000. Then you need to take off the estimated cost of the renovations, say $50,000. That means you should be aiming to pay no more than $300,000 for the home you think you can sell for $500,000 after you’ve done your magic.

This may see you targeting distressed or foreclosed properties, which can come with their own issues, or looking for suitable fixer-uppers across many diverse markets. That could mean starting out in outer suburbs or lower-cost areas where there might be more growth potential.

You’ll need to keep up with emerging growth markets, which can also help elevate the value of the home, as well as planned infrastructure projects that could stimulate property prices.

Do: Get the right finance

If you play your cards right, earlier flips should fund a growing proportion of later ones. But, if you’re just starting out, it’s particularly important to keep costs down wherever you can, and that means securing a home loan with the lowest interest rate possible.

Then there's the added requirement of being able to pay the loan out early, without penalty. This will generally rule out fixed-rate loans.

You also need to ensure you can afford the repayments on top of the cost of renovations. If you’re a full-time flipper or doing all the work yourself, this means ensuring you have enough funds in your kitty to cover these costs and your usual living expenses. If you’re financially stressed, it can seem a long time between flips.

Some flippers borrow against their own home and use the equity to fund renovations. This way, they can avoid expenses like lenders mortgage insurance (LMI) and recurring loan establishment fees.

A mortgage broker may be able to help you find a loan with terms and conditions well suited to house flipping and your own circumstances.

See also: how to choose a home renovation loan

As a guide, the table below features home loans with some of the lowest interest rates on the market.

Important Information and Comparison Rate Warning

Do: Know how to add value

Not all renovation work is equal when it comes to boosting the value of a home. Sometimes the simplest and cheapest of work can pay the biggest dividends. Here’s a list of typical, proven value adders:

• Kitchens and bathrooms
  These are the areas that tend to date the most, and they get the most use. Newly renovated kitchens and bathrooms can be the clinchers for potential homebuyers, so they tend to be worth the investment.

• Cosmetic
  Cosmetic upgrades can be relatively simple tasks, like a new paintjob, new fittings such as flooring, lighting, or updated door handles, and a bit of landscaping to add street appeal. These tasks often don’t require too much capital outlay and can make a world of difference to the selling price.

• Deck
  Adding a deck or outdoor area can effectively increase living space at a cost much less than that to add a room. A usable deck that flows from a main living area can be a good investment.

• Extra bedroom
  If there’s an option for an extra bedroom, like converting an unusual or wasted space or extending a smaller office, this can be a great boost to a property’s value.

The renovations that don’t tend to deliver as much bang for buck

• Swimming pool
  While it’s true pools can add value in markets with warmer climates, a swimming pool can also be a turn-off for some homebuyers. If there’s already a pool at the property, it pays to refurbish and landscape around it, but it may be difficult to recoup the cost of installing a pool unless the home is family-friendly and located in a neighbourhood where families with children are likely to buy.

• Luxury upgrades
  Overcapitalising is a no-no when it comes to house flipping. You don’t need luxury to add value. Keep a lid on your renovation costs and opt for functional, simple, and tasteful additions, rather than marble, gold taps, and fancy fittings that likely won’t be reflected in the sale price.

• Garage conversions
  Tempting as it might be to convert a garage to add living space or an extra bedroom, many buyers prefer a lock up garage for their car and storage.

Do: Accept your limitations

House flipping is more lucrative if you - or your contacts - can do a lot of the work to keep labour costs down.

But there’s a difference between being a professional tradie and a do-it-yourself dabbler. Recognise which jobs you can do yourself and which jobs need to be handled by qualified, licensed tradespeople.

Time is also of the essence in house flipping. The longer you hold a property for, the more you're paying in interest and other home-owning costs. Calling in the required tradies can see the job being completed faster and cheaper than if you were to try to do the work yourself over a longer period, even with labour costs considered. Not to mention, if you were to do a poor job yourself, you might end up calling in the tradies anyway.

Don’t: Be afraid to walk away

Don’t just jump to buy a property because you need a project.

Starting out on the back foot will set you up for a potentially shaky outcome. Be patient until the right property comes along.

Don’t: Underestimate

You may identify a property that you think just needs a coat of paint, some new fittings, a bit of cosmetic work, and maybe even a new bathroom or kitchen.

At first inspection, it all looks entirely doable according to your budget and timeframe. But homes, particularly old homes, can present a minefield of unforeseen surprises.

Leave a buffer of funds and time when planning your project. It’s probably unlikely to be as straightforward as you might have planned.

Similarly, if you’re planning to undergo major renovations, make allowances for obtaining planning permissions (if needed) and delays in drawing up plans, sourcing materials and tradespeople, and final inspections. Again, be prepared for cost and time blowouts.

It pays to be conservative in your house flipping cost estimates, rather than optimistic. That’s the best strategy to determine whether a renovation project is going to be worth the investment in the first place.

Don’t: Forget taxes and levies

You’ll also need to factor in the unavoidable costs of buying and selling properties. The big two costs are stamp duty and capital gains tax.

Stamp duty is levied by state and territory governments on the transfer of a property title. It can add tens of thousands of dollars to a standard home purchase and might be even more if you’re buying an investment property.

If the home isn’t your principal place of residence while you’re renovating, you will be stung with capital gains tax when you sell. If you sell within a year of buying, any profit you make will be taxed at your full marginal tax rate. If you hang onto it for longer than 12 months, you’ll pay tax on 50% of what you make.

Both stamp duty and capital gains tax can take a huge chunk out of your profit. You need to be confident you’ll be making enough out of the sale of the property to cover them, as well as all the usual interest and home ownership costs in the interim.

If you’re crunching the numbers as we speak, you might find Your Mortgage’s stamp duty and capital gains tax calculators of use.

Don’t: Assume property prices will rise when making calculations

While it’s true that the property market has risen over time, in the short term it can be downright stagnant. It might've even fallen when it comes time to sell your flipped property.

Just as much as house flipping relies on buying low, you also need to be able to sell high, and timing the market can be a difficult (if not impossible) task.

If the market falls, you may need to assess whether you’re better off taking any gains you can and sell, or hold on and wait for the market to climb. Despite what many pundits might tell you, no one can really foresee what the market it going to do. It’s an unavoidable factor in house flipping.

If you sell for a bit lower than anticipated, the best advice is often to buy again in the same depressed market. Although you can never really be certain how low the cycle might go.

Image by Karl Solano on Unsplash