More people are flipping homes, but the profits are falling.
Investors hoping to profit from soaring home prices by buying homes, fixing them up and quickly putting them back on the market are finding it harder to make the profits they once did.
Record low housing inventory and high foreclosures are making it difficult to find a home to buy in the first place. Competition for homes is also high, meaning even homes in poor condition are selling for high prices. And a shortage of materials and labor is driving up the cost of repairs.
According to real estate data provider Atom, 94,766 single-family homes and condominiums were resold in the United States in the third quarter of last year, the most resales in a quarter since 2006.
But profits remained below levels seen a year ago.
Atom said gross profit on a typical home resale transaction was $68,847 in the third quarter, down from $70,000 in the same period a year ago. That represented a return on investment of 32.3%, down from 43.8% a year ago and the lowest since 2011.
The decline in profit margins is mainly because many investors bought when home prices were soaring and then sold when price appreciation slowed, according to the report.
Still, a 32% profit before expenses shouldn't scare off investors, and we'll explain how they make that profit below.
Know your market
Danielle Green has been flipping homes in Baltimore since 2018. She's bought homes at auction across the city and has seen a big difference in availability and pricing.
“Before the pandemic, you could buy a house at auction for $5,000 or $10,000,” Green said. “Now they're selling for $20,000 or $40,000.”
Green said auctions have slowed during the pandemic, resulting in fewer homes for sale. And as auctions that were once held in person have moved online, more buyers have been able to place bids. That has also had a knock-on effect, with investors in nearby cities looking for cheaper homes to resell, he said.
Standing outside the Baltimore home he resold last year, Daniel Green said attractive resale properties are harder to find than they were before the pandemic, and prices are rising.
“Some investors have been pushed out of their own areas by rising prices, so they're coming to Baltimore from Washington, D.C., Philadelphia and then they're price-gouging us,” Green said.
With single-family homes scarce, Green began buying small apartment complexes of three or four units, selling some of his properties while keeping some for rent to generate income.
“Before the pandemic, we were doing three or four deals a year,” she says. “Now we're down to one or two big deals a year. It's doable. You just need to know your profit margins and work to maintain them.”
Green said he hasn't been immune to labor shortages and rising supply costs, but he feels he has an advantage over investors in other areas because he's lived in Baltimore and knows what prices are in certain neighborhoods.
“Investors will think that the houses are cheap and therefore affordable and will consider buying the shell. [of a house] “For $40,000 it's a bargain,” she says, “but I know it's not the best neighborhood. You have to know the market and understand what you're buying.”
Stick to a strict budget
Leah Wensink, who has been flipping properties since 2014 and now works in Harrogate, Tennessee, said this year was the most she's ever paid to flip a property.
Wensink said he paid cash for his home, which he bought last June for $170,000, which is why he's making a profit. With no monthly payments, he has the luxury of doing some of the work himself and finding more affordable ways to avoid rising labor and material costs. He expected the project to take nine months to complete, but COVID-19-related delays have pushed it to nearly a year.
Leah Wensink, who has been flipping homes since 2014, said she paid the most money ever to flip a home this year.
Wensink said her approach to profitability is very simple: She draws strict lines about how much she can spend.
“I know if I can stay below that amount, I'll make a profit,” she says. “I don't spend a lot of time meticulously planning my profit margins. That's not what I want to do in life, but I do a lot of research to find out what's going on in the market. And I give myself a lot of wiggle room so that if it doesn't sell for this high amount, I can always lower it.”
But Wensink worries about whether she'll be able to recoup her investment on her current home, her biggest resale to date.
“When I bought this house it was not in a condition to live in,” she said. “There was water damage, so I had to come in right away and deal with those issues and remove everything. I'm worried that people won't see half the work that's been done on this house. It would be a shame to buy a house that needs so much work.”
Find a trusted partner
Lucas Vanagaitas lost all his money the first time he flipped a property in 2017. So he turned to his lending partner, Kiabi, to help him finance property flips, which helped his real estate business, Horus Homes, grow from four or five transactions a year to 100.
“In my first year of investing, a lot of things went wrong and I ended up losing $100,000,” Vanagaitas says. “I made a lot of mistakes and had to start over. It took me a while to recover and I had to continue living in the property I was renovating while I was renovating it.”
He moved from Houston to St. Petersburg, Florida, where he now works for Kiavi, a lender that provides bridge loans, rental financing and a project tracking platform to real estate investors.
“They answer all of our questions, from 'What do you think about this?' to 'How will this help us?'” he says. “We've never missed a deal and usually close it within 10 days.”
But this red-hot market is making every decision a little tougher. “It's a very hot market with multiple bids on every home on any given day.”
He said continued demand for housing, especially in Florida, has led to more investors coming in. But he doesn't think a crash is on the horizon because many people have assets, and a hot market can mean plans to buy real estate change suddenly.
“I have a two-storey house that I'd like to keep as a rental,” he says, “but if I sold it, I'd get $150,000 more than it was worth after fixing it up. I could use that money to buy two rental houses.”
CNN's Zachary Wasser and Sean Clark contributed to this report.
