| HeraldNet - Snohomish County's online news source |
 TUESDAY, MARCH 16, 2010 12:13 am |
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Novice real estate investors can lose their shirts Question: I have always done most of my own remodeling work. With so many foreclosures and bank-owned homes for sale, I’m considering buying and refurbishing old homes and selling them for a profit. I know a lot about building and plumbing, but nothing about tax laws and financing. What do you suggest?Answer: First of all, be cautious. Many amateur real estate investors lose a lot of money trying to make a quick buck by fixing and flipping houses. There are great opportunities in fixer-uppers, but there are also great risks. The fact that you know a lot about construction will come in handy. However, I would still encourage you to hire a professional building inspector before you buy. A competent inspector will spot defects that you might miss in the excitement of making a deal. Another prerequisite for success with fixers is a very thorough knowledge of the local real estate market. Visit dozens of open houses and ask a friendly real estate agent to give you a computer printout of homes in your price range that have sold within the past year. Drive by these homes and compare them with what’s on the market. After a while, you should be able to drive up and quickly estimate a probable selling price within 5 percent. If you can’t do that yet, you’re not ready to start investing. Once you have a good feel for market value, you will probably start to realize that the most difficult challenge is finding a good deal. You must buy well below market value if you hope to make a profit when you sell, and that is not easy to do even in a buyer’s market. Concentrate on lower-priced homes because that’s where most of the buyers are. I have seen novice investors buy $500,000 fixers, spend more than $100,000 in repairs and upgrades, and try to resell the homes for a profit. That might work in a hot market, but it is very risky. The market for starter homes is always relatively strong. Homes in the middle price range, the so-called move-up homes, are much more subject to market whims. The market is relatively slow, although it is beginning to show signs of life. But I recommend sticking to the cheaper homes because you will always have a ready market of first-time buyers, and you have less money at risk. Another mistake is to over-improve the property. You’re looking for homes that are primarily in need of cosmetic repairs such as new paint and carpeting. Since you have experience in remodeling, you should have a good idea of how much it will cost to bring a house up to move-in condition. Your goal should be to increase the market value by at least $2 for every $1 you spend on improvements. Don’t spend time and money on a fancy kitchen remodel, or on intricate detailing and expensive fixtures. Just make the house neat, clean and presentable. As for financing, that is very difficult for real estate investors these days. Unless you have a lot of cash to play with, you won’t have any luck getting bank financing, even on a bank-owned home. And if you are buying a fixer-upper, the house would probably not pass the bank’s appraisal inspection, even if you had a 25 to 30 percent down payment. So your best bet is to find a seller to carry a private contract. Ideally, you would make a small down payment and small monthly payments with a balloon payment for the balance due in two or three years. Try to get as long of a balloon period as possible in case the house doesn’t sell quickly. As I said above, it won’t be easy to find a fixer deal that makes sense, even in a weak housing market. As for the tax laws, this is a business investment and you will be subject to short-term or long-term capital gains tax, depending on how long you hold the property. Consult an accountant for more tax advice. Finally, always go into any real estate investment using worst-case scenario estimates. Too many people make overly optimistic projections, a sure road map to disaster. You can hope for the best, but always plan for the worst. Mail your real estate questions to Steve Tytler, The Herald, P.O. Box, Everett, WA 98206, or e-mail him at economy@heraldnet.com. |
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