Real Estate Rehabbing: Top 10 List- By Jonathan Mednick
So you wanna be a flipper? Before I give you my Top 10 List, I want you to know that I have been an active real estate investor for only two years. I’ve done mostly wholesaling, short sales, pre-construction sales, and pre-foreclosures. My partners and I are in the middle of six rehabs simultaneously, so you can imagine how busy we are.
We will do approximately twenty this year. At least, that is our target. It is important to remember that when I started, I knew absolutely nothing, just like many of you. If I can do it, so can you. That being said, here’s my Top 10 List for Rehabbing:
1. Estimating rehab costs
The biggest question I got was how to estimate the cost of repairs so you can figure out what to sell the property for. When I do a walk through, I look at four things: roof, structure, plumbing and electrical. These are the biggest expenses AND all require permits.
Roof: Look at the fascia and sofit for signs of wood root or termite damage. Look at the top of the roof for loose shingles. Look at the ceilings for water stains or discolorations or holes.
Structure: I walk around the property looking for cracks in the foundation. If you’ve got a structural problem, it’s expensive ($7,500 – $30,000) to repair and could kill your deal.
Plumbing: Look under the sinks in the kitchen and bathrooms. Look at the floor to see if there are any uneven spots and shower stalls for leaks. Most of all–look outside the property for any large trees with roots that are growing under the house. That could cause major plumbing headaches.
Electrical: Fuse box or breakers? How long since the electrical was updated? Check the air conditioning unit. I always get an electrician to check out the house if I am not sure.
Also, tile or carpet? Depending on the area and demographics, folks prefer one or the other. Best to know which one. Assume you will have to paint inside and out and do some minor landscaping. Don’t forget to take the pulse of the neighborhood. Pride of ownership or run down properties? Close to public transportation, shopping, and schools?
If you break it down like this, after a while, you will know what things costs, and you can estimate repairs before rehabbing or wholesaling it to another investor.
2. To Handyman or no handyman?
There are two ways to rehab: Do it yourself or hire someone. There are pros and cons to both. If you can do it, you save money on labor. The downside is that if you don’t fix according to code, you will have major problems. If you have a day job that only leaves you nights and weekends. It might drag on for months.
With rehabbers, you have the cost of labor; and you have to make sure they do a good job; but they can do it in a lot less time than it would take you. That means you sell it faster and move on to your next deal. Now, I only work with rehabbers who are referred to me by other investors.
If I have to use a new one I don’t know, I always give them a small project to see how they do. If satisfied, they get more work. Otherwise, I show them the door. We currently have three crews, and we pay them well. Getting doughnuts and coffee for them is a nice gesture when you stop by in the morning. You must manage the project yourself. I inspect the properties daily.
You can them in milestones or weekly payments. With milestones, when they finish the kitchen, they get X amount; the bathroom, X amount, and so on. Weekly payments are fine as long as they don’t get behind. If you’ve paid the rehabber 75%, but he’s only completed 50% of the work, how are you going to handle this? This is why you need to stay on top of them each day.
3.. Logistics, supplies, and expenses
Unless you’re with Home Depot or Lowe’s, pay your rehabber a bit extra to help you get the supplies. Of course, it is not uncommon to make four or five trips daily to get supplies. Most rehabbers expect all the supplies to be there for them, but you make sure they bring their own tools for the job.
With the six projects going right now, we have given each one of our project managers a $500 gift card from Home Depot. They give us all the receipts. When they run out, we get them another gift card. We pay them a bit extra to get the supplies they need. They have been working for us for a while now, so we trust them.
Otherwise, we would make the trips ourselves, and we need to focus on acquiring more properties. If you’ve got properties that are fifteen miles apart, you have the travel time to consider. I am fortunate that five of my rehabs are within three miles of each other–easier for me and easier for my crews.
Make sure you keep separate invoices and receipts for each property. When I get supplies for two or three properties, I have to get separate receipts. Your accountant will thank you. Finally, don’t ever get windows, tile, or carpet from Home Depot. Remember, you pay for the convenience and that is about double what I pay for the "mom and pop" stores.
For example, I just put in twenty-three windows on one property and nine on another this past week. At Home Depot, the cost per window was $105 (I get the double-hung, white colonial ones). A smaller store: $56 per window.
I made the mistake once by buying a bunch of cleaning supplies at a "mom and pop." At Home Depot, it was half the cost. So, big ticket items find a "mom and pop," but for everything else, use Home Depot or Lowe’s.
4. Keep a low profile
When you are rehabbing, cover all the windows. Keep the doors closed. Take your signs off the car when you are there. Don’t let your rehabbers show up in commercial vehicles. Keep the music to a minimum. Don’t have more than two cars in the driveway. Why? Code enforcement.
This past week, they showed up at one of my properties and cited us for the roof. The roofer had started work before getting the permits, and my crew had just arrived to begin work on the property as the city official showed up. What a case of lousy timing. Don’t ever let them in your house! We will get this rectified but it is a pain in the butt.
5. Permit issues
Speaking of permits, you really need them for structure, roof, electrical, and plumbing, and in many areas, windows. Some you can do on your own on the weekends and avoid permits, but you are playing a cat and mouse game with the city. I am not advocating one or the other. You have to weigh your risks and decide what to do.
6. Sign in the yard
Don’t start advertising until you are 95% done with the house. Some people will say advertise the moment you bought the property. The problem for me is having potential buyers come into a property I just gutted–wires hanging everywhere, broken drywall on the floor, and holes in the ceiling.
Most won’t make an offer until the work is finished. And, they are a distraction to me and my crews. I need to focus on completing the rehab, not trying to sell it. Of course, I know the house will sell, so I am in no hurry to do it wrong.
If you put a sign out in the yard before the house isn’t ready to show, tell them you will call them back when it is ready. So, when you are indeed ready, you will have a list of 20 or so potential buyers. I also put an info tube on the SO sign to cut down on useless calls. By doing this, we rarely pay for advertising when we have a house on the market.
Our houses sell fast. One idea Phil (my apprentice) had was to drop flyers to the neighbors to let them know the house was available and to pay a $250 referral fee. Who wouldn’t want to make some money and have their friends live around the corner? See, even I can learn a thing or two from a newbie!
7. Negotiating with homeowners
If there is enough room in the deal, I have no problem working with Realtors, but I only pay 3%. Most will say they have a buyer for you. Now, if they have a problem with 3% and want to list it, I give them one of two responses. First, would you rather make 6% of nothing or 3% of something? Second, I tell them I will pay a listing service a couple of hundred to throw it on the MS.
When you do have a qualified buyer, it means nothing to me unless the underwriter has approved them. If they use their own mortgage broker, I speak to him personally. I usually tell them they have 30-45 days to close.
The contract says that if they can’t provide a letter of intent from the underwriter stating the buyer is approved within x amount of days, I have the right to replace the mortgage broker with one of mine. It motivates the heck out of them. I put that in the special clauses section along with any other terms negotiated between me and my buyer. Remember, you need to control the deal.
8. Seasoning, corporate sale, and taxes
Many ask how to avoid the seasoning issue? The answer is simple: I tell buyers’ mortgage brokers up front that there is a seasoning issue, and they better use a bank that doesn’t care about seasoning. The big banks won’t do the deal, but there are plenty of small community banks and mortgage companies that will.
Second, when I have a contract on the property, I quit claim the property into my LLC. Why? When I sell it, the capital gains taxes hit my LLC, not me personally. That means if I profited $50K on a deal for the year, but all my combined expenses for everything under the LLC came to $45K, I only pay taxes on $5K.
Neat little trick. That’s why I have a good CPA. Find one who specializes in creative real estate investing. Don’t forget to tell your buyer’s mortgage broker that it is a corporate sale. He/she needs to know this.
9. Buying from wholesalers
I really don’t care what the wholesaler earns, as long as I earn the money I want. The higher the price, the higher the profit should be. Many say that a good rule of thumb is 65% of the ARV (After Repair Value) of the property. I will tell you why this doesn’t work for me.
Let’s say you brought me a house worth $100K retail, you have a contract with the owner for $58K, and you want to flip it to me for $65K ($7K assignment fee). I look at the property and see $20K worth of repairs required. So, $65K price + $20K + closing costs + holding costs for six months + marketing costs = ??.
That’s a lot less then $15K of profit. After closing costs, holding and marketing, there is really no deal there. Now, if the property needed less then $5K work, 65% ARV makes sense. I can tell you that I’ve never spent less then 12K on any rehab. One properties, we are into for $40K.
I spend a bit more, which is why our houses sell fast. So, I base my price completely on the estimated repairs regardless of ARV. So far, it works well for me and the wholesalers we buy from do the same.
10. Using hard money and financing
I hate paying someone points on top of closing points, but if you don’t have cash, hard money is the way to go. I usually get 85%-90% LTV with 12%-14% and 2 points. When starting out, use other people’s money (OPM) until you don’t need it anymore. I am intentionally vague because it depends on how many rehabs you do each month.
You have to plan, project, and budget your purchase costs, supplies, labor, holding, and marketing for worst case scenario six months. By the end of the year, my partners and I should have enough to avoid hard money altogether and still rehab two or three per month.
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