Trulia.com recently released a report questioning if flipping houses is a declining activity because home prices aren’t appreciating fast enough to provide enough profit in flips. A quote or two early in the article give us a better picture of what I think they really are measuring, which is more amateur flipping than professional activity.
Selling houses at a premium generally requires price growth. The more prices are rising, the more profitable it is to flip. Thus, when prices are rising faster, flippers have greater opportunity to come out ahead.
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To tease out how price increases affect flipping activity, we focus exclusively on non-distressed sales–transactions not involving foreclosures or short sales–of homes that had last sold within the previous 12 months.
Sure, professional repeat flippers buy homes with the goal of fast price appreciation for a quick profitable resale. But, the article is right in that the strategy doesn’t yield enough reward for the risk unless prices are rising at a double-digit annual pace. When they are, a lot of first time flippers enter the markets as well.
They focus on two sales of the same property within the previous twelve months. They also rule out foreclosures or short sales, areas in which the more experienced flippers concentrate their efforts. Without significant rehab, significant profits are not possible without rising prices.
With these factors in mind, it’s no problem to accept their basic premise. They grouped some average flips between 2000 and 2014 by level of year-over-year price changes when the same home sold. They found that the “flipping point,” when flipping activity picks up, was when prices were rising by 10% or more year-over-year. Areas with this double-digit price increase activity tended to have flipping activity between 4% and 7% of market activity. Areas with single-digit price increases had rates of between 1% and 2% of the market.
I think that it’s a valuable study, and it should be a caution to investors or would-be investors who want to make money flipping homes almost totally from rising prices. Every day you wait for the price to rise to a profitable level is another day of risk. There is also added holding cost, which is working against you, especially if you have short term financing involved.
The Pros are Still Very Active and Profitable
The most active flippers are those who do rehab, and they normally buy distressed properties, not included in this Trulia study. They shop for short sales, foreclosures, and even estate sales to locate discounts below current value. The less rehab that’s needed, the greater the necessary discount. They don’t want to sit around holding the home hoping for price increases to bail them out.
The more rehab needed, particularly with foreclosures needing a lot of work, the greater the potential for short term profit. The goal is normally to have a buyer locked in even before the project rehab is completed. And, they’re normally not requiring a rise in prices for their desire margin, though it certainly helps.
The successful rehab flipper has these major profit contributors on their radar for every deal:
• A purchase well below market value, even lower than it’s current value in current rough condition. Lock in a profit even with a short flip without the necessary work. This is a negotiation skill factor.
• A project system that’s well-refined and the right material sources and contractors who consistently perform on time and on budget.
• If funding is necessary, its cost is factored into the project and profit markup applied.
• Rehab work that can be performed at wholesale level with a markup that adds profit to the project.
• A buyer ready to buy at a price the flipper has factored for the desired profit margin.
This whole process is not at all considered in the Trulia study, as it is focused on flipping for price appreciation. Good information, but those who are experienced at fix & flip, or those who want to be, should move right past it. There isn’t a correlation. There is still plenty of opportunity out there for the fix & flip investor. Of course, it doesn’t hurt if a project takes a planned six months and the home’s ARV (After Repair Value), is a couple of percent higher than when the project began.
