This is one of the more common house flipping mistakes for new people who have just finished a seminar on how to make a lot of money on real estate without having any money. Although it is not entirely impossible, the chances for 100% financing to happen are close to zero. Lenders in general like to see some skin in the game regardless of how charming a personality the buyer has and regardless of how much below the market he or she buys the property. Trying to convince brokers to lend 100% is usually a total waste of time. Alternatively, a buyer can try the following strategies:
A. Get some cash from friends or family.
B. Use another property he owns with good equity as additional collateral.
C. Get a partner as a Co-Borrower with some cash and/or additional real estate with equity.
Note: Some lenders may lend 100% or even more of the purchase price if the buyer has the money for the rehab. It must be a fairly extensive rehab and in most cases the lenders will require having the rehab money placed in an escrow fund control. Other factors involved in any loan approval include buyer experience, credit, ARV, location, general market trend, local market trend and the lender's own liquidity at the time of the loan request.
Inexperienced buyers believe they are buying a property below market because of some broker's persuasions or some estimated value on Zillow or similar websites. There can be thousands of reasons why a property appears to be selling below market, but in effect is selling at market or even slightly above market price. Some reasons are pretty obvious such as a property being next to high voltage power lines, just under a freeway, under a major airport landing traffic path, gas stations, major zoning issues, not connected to a sewer system, problems with access roads, major structural or foundation damage, etc. There are thousands of ways to misjudge property value, which is why hard money lenders prefer to lend to experienced flippers, or experienced real estate agents and contractors. Any non-optimum situation/condition of the property should be investigated and disclosed to the hard money broker during the application to avoid lengthy delays or loan decline. Brokers can work and solve problems and will do their best to fund loans as long as all the problems are known, and solutions are in place.
Inexperienced buyers may decide to buy a house, paint it, put a new carpet in, and then sell it. This can be ok, or it can be a mistake if by adding a room or redoing the kitchen the property would sell for a lot more with a much bigger profit to the flipper. It would be an under-improvement resulting in an inability to get a good price when selling, and this is a common house flipping mistake. The opposite can happen to an inexperienced buyer who decides to add a bedroom to a three bedroom house, in a neighborhood where no one needs more than three bedrooms. It would be expensive to build and add time without bringing a higher price to the property.
Many would-be "Real Estate Investors" do not do their own due diligence on the property, but instead rely on advice from the real estate agent who is trying to sell the property. They are not always careful about details that can prove to be very costly. For example, a buyer is buying what looks like a duplex, but it is in fact zoned and permitted only as one single unit. It is important to listen to the real estate agent and get their advice, but the borrower must check for himself as well. Go to city hall, talk to the inspectors, talk to neighbors, bring third-party appraisals and contractors to check the property before buying it. Since it is time consuming and some money needs to be spent on due diligence, it should be all done as soon as the offer is accepted. First and foremost, secure a contract before other people get it, and as soon as the seller signs due diligence should start in earnest.
Many times, the buyer must start looking for lenders before due diligence is finished. It is perfectly ok as long as the lender is made aware of the fact. The lender in many cases helps the buyer locate problems with the property. The lender can prevent a borrower from getting into a bad situation, or he may structure a loan that will overcome the problem found.
This is one of the most common house flipping mistakes new and even experienced rehabbers commit. Even minor rehab can be costly, and unexpected fees can pile up quickly during the rehab process. Many lenders are skeptical at any rehab figure presented by the rehabber even when it is done with the utmost sincerity. For that reason smart investors like to see a healthy financial standing of the buyer and a capacity to pay for any additional unexpected rehab costs, or alternately having a fund control hold 50% or more (over and above the estimated rehab cost) in reserves to ensure completion of the rehab. Hard money lenders base their approval decision mainly on equity, but they are prepared to take the property back in foreclosure in case of default. Foreclosure is always the last resort option, and good lenders will try many ways to avoid it. Almost all hard money investors are interested in getting their return on investment as interest payments. They do not want to own properties, manage them, or sell them, let alone fix them and be involved in any rehab and construction work. Most all hard money lenders are interested in the buyer’s success and will not lend if the borrower’s LoanScore ™ is questionable. To avoid this mistake buyers should prepare a detailed rehab list after getting estimates from subcontractors and materialmen. Have it checked out by a professional third-party contractor if possible? Even after checked out unexpected additional costs can accrue, therefore Fix and Flip buyers should always include contingency reserves in their estimates.
Another misconception is that the Fix ‘n’ Flip process takes a few days or weeks and getting rich is quick and easy without any effort. There are a lot opportunities for buying fixer-uppers and selling them at decent profit, but it is not always a quick activity and it always involve some effort and experience from buyers. Underestimating the time to fix up a place can easily triple the time it takes to finish the rehab work. Selling the property after the rehab is done almost always takes twice as long as the estimated time. It can take even longer if the selling price is listed above what the market bears. Further contributing to the delay are the following factors:
As long as the buyer has the correct estimation of time for selling the property and as long as he considers the holding costs, he will come out alright. Trouble occurs when the buyer erroneously believes it will take only 1-3 month to rehab and sell instead of 6-12 months. For that reason, never accept a 6-month loan from a lender as it may force you to pay expensive extension fees or face foreclosure. If the lender starts foreclosure the buyer will be under pressure to sell quick, often at a discount in order to avoid losing the property in the foreclosure.
This covers not having some or all of the above six house flipping mistakes, as well as a few more:
Not finding the correct lenders is one of the final and sadly most unfortunate house flipping mistakes we see often in our patrons:
Finding a good lender is especially important. Not just from the point of view of good rate and terms but also as a second opinion on the purchase, and availability/flexibility during the rehab phase. Since there is extraordinarily little time to shop for a lender after an offer is accepted, many Fix ‘n’ Flip borrowers end up with an unsuitable lender. The solution is to start shopping for lenders before even finding a fixer to buy. Get a good feel for the lender and get a pre-approval based on financials subject only to the property itself. There are hundreds of hard money lenders - many are old timers, while many are fly-by-night companies that may not be around tomorrow. If you are not sure about a lender’s credentials, ask for references and call a few of his borrowers to get their feedback about the lender.
The information above is only a very brief summary yet effective route for financing a Fix and Flip property. There is a lot more you can learn, but you now have the basics. Feel free to use our Loan Success calculator and database specifically for Fix and Flip networking, and links to all the hard money lenders in California who could compete amongst themselves for your business.
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