Flipping houses is a lot of fun and if you know what you are doing you can make a lot of money flipping. To flip a house it takes a lot of money and that is the biggest hurdle for most investors. Although there are ways to finance fix and flips, it is not as easy to get a loan on a flip as it is a rental or personal residence. If you are able to get a loan on a flip you are probably going to pay much higher rates than a regular mortgage. Is it worth it to pay high interest rates and loan costs when flipping?
How do I finance my fix and flips?
I flipped 17 houses in 2016 and I currently have 16 fix and flips in my inventory. There is no way I could handle so many flips at once if I did not finance them. However, I also have a very good deal my local bank and cheap financing for my fix and flips. Here are the terms I get from my local portfolio lender.
- Rate is prime plus two percent which equals 5.25 percent
- One year loan term
- 20 percent down payment on purchase price
- One percent origination fee
- No appraisal if the loan amount is less than $150,000
- 15 to 25 day closing depending on how busy my bank is
When I use bank financing I have to come up with the 25 percent down payment and the cash needed for repairs. If I buy a house for $100,000 I would be able to get a loan for $75,000. I would have to come up with down payment, repairs and carrying costs which may be $50,000 or more. If I have seven flips at one time that means I need at least $350,000 in cash invested in my flips. There are some cases where I have to close on a house in 7 days or I cannot get a loan and I must pay cash. So at some points I will need even more cash available. That is why I also use private money and lines of credit to finance my fix and flips.
I have a line of credit on one of my rental properties that I paid off for $120,000 and I just got a line of credit on my personal residence for $174,000. I also borrow $160,000 from my sister who I pay seven percent interest. I just got the line of credit on my personal residence last week so I have not used it yet, but I plan to use it to reduce the amount of my cash I have to invest. On my lines of credit I also pay prime plus two percent which is 5.25 percent right now.
Although it may seem like I have a ton of cash available from lines of credit and private money, it takes a lot of money to flip. On many of my most recent flips I put more than 25% down to avoid an appraisal (for time reasons). I also have had some major rehabs that had over $50,000 in repair costs.
What are the other options to finance fix and flips?
It is rare to find fix and flip money as cheap as what I use. Most banks have much higher interest rates than what I have, if they even offer flip financing. Even if a bank does offer flip financing, they don’t just give it out to anyone. They want to lend to experienced flippers who have a track record of success and who they know and trust. I had a relationship with my lender for years buying rentals, before I approached them about financing flips. If you don’t have a great local lender, there are more options to finance fix and flips.
- Hard money lenders: Hard money lenders specialize in flips and in some cases will finance an entire deal. However, they also want to lend to experienced flippers and charge 10 to 16 percent interest in most cases.
- Equity Partners: Some investors are willing to pay for a flip if they get a share of the profits. For example: the investor with the money pays for everything and the investor without money finds the deal, gets the work done and gets the house sold. A typical split is 50/50 in this situation.
- Private money: I already discussed how I get private money from my sister. Many flippers use private money to finance their flips. Most investors I have talked to pay a little higher interest rate than I do.
When you try to finance flips you will find the rates are usually higher and the lenders want to see experienced flippers. The reason for the higher rates is the loan terms are much shorter and lenders make their money over long periods of time, not when they make the loan. There are also a lot of beginner flippers who have no idea what they are doing and are apt to lose money when they first begin.
How much does the financing on a flip cost for a typical investor?
I won’t use my numbers for financing flips, because there are very few banks who will offer what mine does and I have built up my relationships for years to get private money. If you can find money as cheap as I do to fund fix and flips, I think it is an easy decision that you would use it. But how much will the funding cost when you have to use hard money or more expensive private money?
I will assume you can get a hard money loan at 14 percent interest with 3 points. Each point equals one percent of the loan amount. With hard money and private money you can finance much more than 75 percent of the purchase price. In some cases experienced flippers can finance the entire purchase amount and repairs on a flip. Here are what the financing costs would be in the following scenario.
Purchase price: $100,000
Other costs(buying and carrying costs): $5,000
Total cash needed: $135,000
Hard money loan (90% of all costs): $121,500
Cash needed after loan: $13,500
Interest on loan (14 % for six months): $8,505
Points paid (3% of $121,500): $3,645
Total financing costs: $12,150
When I finance my flips I will usually pay less than $5,000 even if I finance everything using private money and lines of credit. There are a lot more costs when you use hard money or a more expensive private money lender. My average profit on a flip is around $32,000 after all expenses. If I had to use hard money I would see my average profit drop down to $25,000. Even with that drop in profit I am going to show you why leverage is such an awesome tool when flipping and in most business’s if used correctly.
Do you make more money flipping with cash or financing?
If you were to pay all cash for a flip you would make $12,000 more than if you used a typical hard money loan. If I used all cash my profit would jump from $32,000 to $37,000 on each deal. I would love to see $5,000 more on each flip I do because that would equal $60,000 a year if I did 12 flips. The problem is I could not flip 12 houses in one year using all cash.
I will assume a flipper has $300,000 in cash to play with after flipping for a couple years and saving all of his profits after paying taxes. Who makes the most money? The investor who pays cash, the investor who uses a bank only or the investor who uses hard money? I am using a $100,000 purchase price on a home needing $30,000 in repairs and $5,000 in carrying costs that will sell for $185,000.
——————-Cash Investor Bank Investor Only (75% loan) Hard Money Investor
Cash needed $135,000 $60,000 $13,500
Loan amount 0 $75,000 $121,500
Loan costs 0 $4,000 $12,150
Selling costs $13,000 $13,000 $13,000
Repair cost $30,000 $30,000 $30,000
Carrying cost $5,000 $5,000 $5,000
Profit per deal $37,000 $33,000 $24,850
Deals done 2 5 22
Total profit $74,000 $165,000 $546,700
Even though the cash investor makes more money per deal, he can’t do nearly as many deals as the lenders who use financing. If you can still make money flipping with higher financing costs, you can make a lot more money using leverage than just cash. The cash investor can only buy two houses at a time, which severely limits the profit potential. The bank only investor can buy five houses if they max out their available cash. The hard money investor makes the most money because he can do the most deals. There will be many issues with doing 22 flips at once like finding contractors, managing the time lines and finding that many deals. Some hard money lenders may also be hesitant to loan on that many houses at one time, but I know some who do.
What about investors who don’t have a track record yet and can’t get a loan with hard money or a bank?
If you have never flipped a house it is very hard to get started. No one wants to lend to someone who has no experience, but you need money to get experience. This is where partnerships come into play. Find someone with private money who will fund your deal and you do all the work; finding the deal, managing repairs, selling the house, etc. Most private money lenders won’t want to lend to inexperienced investors either for 8, 10 or eve 12 percent interest. However, they may be interested if they are an equity partner and get 50 percent of the profits. 50 percent may seem steep, but if you have no other choice it is better than making nothing. Once you get a few deals under your belt and save some money you can then pursue the other financing options.
If you have the money to pay cash for a flip and are only interested in doing one flip at a time, maybe the best choice is to avoid financing. However, if you want to make a business out of flipping, the more leverage you can use the more money you will make. You can also use more leverage with flips and use your cash for other things like buying rental properties. With anything you have to be careful not to over leverage yourself and sacrifice your buying criteria to get enough deals.