What Makes A Good Fix and Flip Investment?
Evaluating a Property’s Potential as a Fix and Flip
Probably the most crucial question for any real estate investor is how to evaluate a property’s fix and flip potential. This is where the rubber meets the road and what separates those who make money from those who don’t.
There are a few key points to consider before you put ink on any real estate deal. Those points include knowing how to spot true comps, seeing where you’ll add value, and building a good sense of what makes a property attractive to a buyer.
First Things First: Know the Worst Case
When estimating the value of a fix and flip, put the brakes on the “it’s the deal of a lifetime” rush. Slow down and find the reason why this deal isn’t as good as it seems. It’s almost always there, and it almost always hides in a bad news comp story.
Sure this property might list for $500,000, with several comps that sold for $700,000 recently. That doesn’t mean you’ll instantly make $200,000 on the deal. Find a nearby comp that sold for $300,000. Can’t? Find the cheapest comp you can. Maybe the property you’re looking at has a bigger lot size, or you’re planning to fix up the kitchen a lot nicer, but what if your plans don’t pan out? The cheapest comp is your worst-case scenario. If you’re comfortable with it, great.
Build the cost for repairs, closing costs, and other expenses into your worst case scenario also.
Learn to Spot a Real Comp
So you found a property for $500,000, and the lowest priced comp sold for $600,000. That’s great! But are you looking at real comps?
How do you know when you’ve got a true comp? Do a little due diligence. Look at details on Zillow like lot size, number of bathrooms, year built, and so on. Look at the interior, the need for updates, location (of course) and proximity to services and activities. Be honest about whether this property is a real comp. If not, adjust the price accordingly.
Also, did the comps sell for their asking price or something much higher? A high-priced comp that sold for 20% above asking may be a case of someone with a lot of money who fell in love with it. Disqualify non-repeating windfalls like this from your “true comp” search.
Compare the Property’s Price to the Area’s Median
Once you’ve established that you’ve got a good handle on the value of a property’s true comps, you’ve still got a way to go before you know its potential as a fix and flip.
Yes, your property may list for $300,000 in a field of comps at $500,000. That doesn’t mean you’ll make $200,000. Why not?
Maybe there are lots of homes selling nearby for $100,000. True, they’re not as nice as the one you’re looking at, but that may not mean much to the local buyers. Look at how long it took your local comps to sell. The smart money avoids the “sweet” profit that takes 10 years to collect, racking up holding costs in the meantime.
Ask if You Can Add a Lot of Value
If you’ve done the steps above and you’re convinced this home is a fantastic money maker, find out why before you sign. Evaluating a property’s fix and flip potential means knowing the true profit source.
What value will you add? Maybe the owners inherited the house from their parents and it’s been sitting vacant for a year and now they need the money fast. In that case, you’re making money for turning that frozen asset into fast liquidity. Maybe the property has a water-damaged upstairs and the owner doesn’t want to deal with renovations. In that case, you’ll provide value by fixing up the home. In any case, find out why it’s selling so cheap. This step avoids leaping without knowing the real cost.
Do Due Diligence on Other Fix and Flip Property Value Factors
One important but often overlooked step in knowing a property’s fix and flip value is understanding what’s attractive to the average buyer. Does the house have a normal layout, or does it have one of those bedrooms that everybody has to walk through on a daily basis? Are the surrounding houses nice, or is the neighborhood run down?
This idea dovetails with the process of finding true comps, but it goes beyond that into figuring your hold time. A property that has “ugly” features like an abnormal layout or a poor neighborhood may mean a long time between paying and getting paid.