In America today, there are few easier ways to make a quick buck than flipping a home. The real estate market is booming, profits from flipping are at an all-time high (average about $66,000 per home), and hordes of HGTV-inspired wannabes have been jumping into the business for months.
And now, American lenders are joining the trend: More than 60 banks and other companies are now lending to property flippers, according to AlphaFlow, an investment firm that buys real estate loans from lenders, a nearly 50% increase in just over two months.
It was only a matter of time before lenders put their fears aside and started writing checks for renovated and flipped homes again. Memories of the 2007 recession are slowly fading, and more importantly, with interest rates on most fixed-income investments still so low even during the pandemic, lenders are desperate to get their hands on anything that could bring them a big profit, especially if it's tied to a booming business.
The average annual interest rate of 7.9% on loans to fix up and flip properties is more than double the 3.09% rate banks earn on 30-year mortgages and the 3.75% they might pay on loans to large borrowers with junk-bond ratings. Loans to flippers tend to be shorter-term, often measured in months rather than years, making them attractive to many lenders at a time when interest rates are rising.
To be clear, at least for now, the players in this business are not the big Wall Street firms. For now, it's mostly second-tier regional banks and shadow lenders with names most Americans have never heard of, like Cutterhill Capital, Builders Capital and Temple View Capital.
Still, together they are pumping a lot of money into the market, surprising even veteran home-flipping professionals. John Piazza, a contractor who specializes in renovating homes around Wilmington, Delaware, said in his 40 years in the business he has never seen competitors with deeper pockets than he has today.
“Banks are just throwing money around,” Piazza said.
None of this is cause for panic that another housing bubble burst is on the way — experts say that seems remote at this point — but they worry that this new influx of money will only add fuel to a booming market, pushing home prices even further out of reach for many struggling Americans, just as ultra-low interest rates have boosted financial assets.
“The problem is the element of speculation. Prices go up because people have expectations,” said Benjamin Keyes, an associate professor of real estate at the Wharton School of the University of Pennsylvania. “When a lot of money is invested, some of it becomes a self-fulfilling prophecy.”
Real estate flippers are cashing in on city dwellers fleeing pandemic-induced city life and looking to buy homes in the suburbs, even as there aren't as many homes available to buy and the inventory of existing homes for sale is at its lowest since at least 1999.
With inventory low, investors are buying up old or abandoned properties and renovating them, essentially increasing the supply of homes for sale: Such buyers accounted for about 5.9% of home sales in 2020, the second-highest share since 2012, according to research firm Atom Data Solutions.
A booming real estate market has seen flippers rake in big profits: The average gross profit from such home sales hit a record high of $66,300 in 2020, the highest since at least 2005, according to Atom. But flippers are finding themselves paying more for the homes they purchase, with their return on investment (ROI) falling to an average of 40.5% in 2020, down from 41.5% in 2019.
High loan amounts make flippers more attractive to lenders, inviting parties and cutting into potential profits for investors.Current lending rates are 2 percentage points lower than this time last year, says John Beacham, a former commercial real estate executive at Deutsche Bank who is now head of Toorak Capital Partners, an investment firm that specializes in this type of lending.
Many investors expect the surge in resales to continue this year as families continue to look to leave cities and move to bigger homes in the suburbs. Alphaflow estimates that resale agents could sell $75 billion worth of homes each year over the next two years, up from an average of about $56 billion annually over the past three years.
And if unemployment remains high and mortgage forbearance programs end, lenders may be forced to foreclose on more homes. Speculators who rushed to buy homes after the last real estate bubble burst may once again be eager to buy the foreclosed homes that banks are eager to sell.
People who lend to home remodelers and flippers say the housing industry has changed since the housing bubble. For starters, after several years of relatively sluggish construction, housing supply is much tighter and prices are less likely to fall sharply, says Ray Sturm, co-founder and CEO of AlphaFlow.
Existing-home sales fell to a 10-year low of just over 4 million annualized units in May last year, according to the National Association of Realtors, but quickly recovered to reach 6.65 million by the end of the year. Toorak's Beecham said this was likely due to the difficulty of searching for a home during the pandemic.
“There is pent-up demand for housing, and we expect 2021 to be a strong year for this market,” Beauchamp said of resellers.
According to Atom data, the most popular states for home flipping are Tennessee, Arizona, Alabama, Georgia and Nevada.
Tuhlak isn't the only one who sees an upturn ahead: Civic Financial Services, a Redondo Beach, Calif.-based company that lends to investors who buy and renovate apartment complexes and single-family rental homes, plans to increase lending by more than 50 percent this year to $1.7 billion, said President William Tesser.
His optimism is due in part to the company's recent acquisition by Pacific Western Bank, which could make it easier to raise capital.
Before the acquisition, Civic's funding costs were about 5%, Mr. Tesser said, but being part of a bank means it can rely on cheap deposits to fund new loans. U.S. banks paid an average of 0.24% interest on funds last quarter, the lowest on record, according to the Federal Deposit Insurance Corp. That gives Civic the opportunity to significantly boost profit margins, Mr. Tesser said.
The city of Wilmington, Delaware, is aggressively trying to attract builders and contractors to renovate homes to spur redevelopment in the area, said John Lago, deputy chief of staff in the mayor's office.
Lago said the city has been transferring ownership of vacant homes to a land bank and working with developers to renovate and sell them. In the past two years, the land bank has sold more than 100 properties.
But not everyone is excited about the future of flipping. With housing inventory so low, there aren't necessarily many opportunities to find a bargain home that can be fixed up, said Kurt Altig, CEO of Seattle-based lending firm Builders Capital. Now, he said, there are more flippers chasing smaller deals.
Flippers often focus on the lower end of the housing market: About 68% of home flips last year sold for less than $300,000, according to data from Atom. The median existing home sales price at the end of December was $309,200.
These homes tend to be smaller, averaging about 1,450 square feet over the past five years. The average size of a single-family home in the U.S. is about 2,300 square feet.
About 60% of home-renovation businesses are self-funded, according to Atom, which gives lenders more wiggle room to protect themselves because borrowers are typically only allowed to borrow between 60% and about 75% of a home's appraised value.
“The reality is that people want to move into a home that's move-in ready,” says Toorak's Beauchamp. “Most people aren't very good at fixing things.”