The Best Financing Options for House Flipping
The idea of flipping houses is increasingly popular for those who seek to turn a profit off of residential real estate. Flipping is the term used when someone buys a property in poor condition or that is incredibly dated, fixes it up and then resells it for a substantial profit. In fact, there are several cable television shows that follow people through the process of flipping homes for profit in major real estate markets.
The truth is rarely as flattering as it seems in a well-edited television program. You have to find properties that need work and are being offered at a low or competitive price. There are fewer homes on the market these days, so the best fixer-uppers will likely get snatched up very quickly. In order to move quickly on a home you believe you can flip for a profit, you need to have cash in hand or financing already lined up. Otherwise, you can count on someone else making a better offer on the property.
Traditional Bank Financing Is an Option
If you have a successful history of flipping homes, verifiable income and a solid credit score, you may be able to secure bank financing in the form of a mortgage. It’s important to realize, however, that banks typically charge more for financing on second properties and investment homes than they do for primary residences. You will need substantial money up front for a down payment, and, in some cases, you could get stuck with a prepayment penalty for paying off the mortgage early. With the expense and paperwork involved, very few short-term owners and flippers find traditional financing a good option.
Lenders generally frown on opening and closing out a mortgage in a matter of months. The good news is that if you intend to buy a property and then hold it for a few years, this could be an ideal solution. If you’re hoping to space out the expenses required to a severely damaged property or wait until other improvements in a neighborhood get finished and begin impacting pricing, traditional mortgages make a lot of sense if you can qualify for one. Be aware, though, that homes in poor repair may not even qualify for traditional financing.
Source a Hard Money Loan
If you haven’t heard the term ““hard money loan” before, you aren’t alone. These financial products are typically used by real estate developers and house flippers, so if this is your first time flipping a home, you may not know this process. Hard money loans are a great option for people without great credit scores who need to fix up a property to sell. These loans can help you purchase a home without any of your own money up front, but that convenience comes at a cost.
Typically, a hard money loan lasts for a year or less. That means you will only have a year or so to fix the home up and get it sold. At the end of the loan term, you’ll face a massive balloon payment. Another downside to hard money loans is that generally the interest rate is much higher, often 12 percent or more.
Lenders will determine the amount you can borrow based on an estimate of what the home could sell for after it gets renovated. If the local market experiences a sudden downturn, you may not be able to sell it for as much as you borrowed. To offset this risk, lenders generally limit financed amounts to 70 percent of the potential price after renovations.
Seek Out Personal Investors or Private Lenders
In some cases, you could secure short-term loans from friends and family members that amount to the price of the home when pooled together. In order to do this the right way, every loan should be in writing, with payment amounts, repayment periods and interest rates set in stone before you accept any money. For first time flippers, this could be a great option. The downside is that if you fail, you could damage the finances of people close to you and also lose their respect and trust.
There are also private lenders who sometimes finance flippers wanting to purchase a home. The downside here is both cost in fees and the fact that these lenders often require a history of successful flips.
Using Your Home Equity to Buy a Fixer-Upper
If you have established a substantial amount of equity in your primary residence, you may want to consider taking out a home equity loan or line of credit. Typically, these loans offer competitive interest rates and fewer fees than other kinds of loans. You can pull out only what money you need for the purchase and repairs, and repay it as soon as possible.
The obvious downside here is that if there’s an issue, your home is the collateral on the home equity loan. If you can’t sell the home for what you invested in it, you could spend years trying to repay the amount of equity you removed from your own home to make the purchase.