How to Legally Flip a House for Profit
June 8, 2018
Kristin E. Rosan
Partner, Madison & Rosan, LLP Attorneys at Law
We’ve all watched the home shows where spouses buy run down homes, fix them up, and then flip them to end buyers for a profit. The shows make it look so easy. What you don’t see on TV is all of the behind-the-scenes (no pun intended) work that goes into a successful and legal flip. This article will outline some basic measures you should consider to protect yourself legally when fixing and flipping real estate.
As an attorney, the first thing I think about is how to protect my clients from liability. Flippers should also be concerned about liability. Creating a business entity allows an individual to avoid personal liability for the debts of a business. Only the business assumes responsibility for debts and liabilities incurred by the business, thus creditors cannot collect from the assets of business owners. A single-purpose entity is created for a narrow purpose (i.e., holding title to real estate). Such entities are useful in shielding the assets of one project (i.e., a flip) from another. For example, you have a single-purpose limited liability company that owned a property you fixed and flipped. Your current project, which will hopefully be your most lucrative yet, is owned by a separate single-purpose limited liability company. The buyers from the initial flip are unhappy (the reason is unimportant) and sue for damages. If their claim is successful, the only assets these buyers can collect are from the first single-purpose limited liability company that sold them the house. These buyers cannot collect from your personal assets or the assets of your other projects (that are owned by separate single-purpose limited liability companies).
If you have investors in your project, you will want to develop an operating agreement for your ownership entity.
If you have investors in your project, you will want to develop an operating agreement for your ownership entity. This agreement identifies the managing member, the duties of the owners, any owner investment, and distribution of proceeds. Your entity will need an Employer Identification Number (EIN), which can be obtained only at www.irs.gov, to open a bank account. Last, you will need insurance for your projects. Dwelling policies are less expensive than homeowner’s policies because they only cover the home’s physical structure, not its contents.
Now that you’ve taken measures to protect yourself from liability, you need to purchase the property. In buying a flip, cash is king. It means you don’t need a lender and it is the quickest way to secure a property at below-market value. If cash is not an option, you can obtain a bank loan or a hard money loan from an investor. Bank loans offer interest-only construction options for limited terms and variable rates. Hard money loans are more expensive but less regulated than bank loans, and they’re more flexible on repayment time (i.e., once the flip sells).
Once you’ve acquired your property, you will need to confirm you are dealing with licensed contractors who have workers’ compensation and liability insurance. Hiring the right contractor is a critical part of estimating your repairs and assuring that the project is done correctly and on time. Any experienced flipper will tell you that sticking to a budget is the most important thing. If something costs more than the value it brings, it is not a good renovation expense. Unnecessary upgrades and over-improvement for a market are the singular mistakes that cause a flip to fail.
Once you’ve completed your renovation, you need to sell your flip for top dollar. Many experienced flippers recommend staging a house so buyers can discern the true size of rooms. Using neutral décor that is neither specific nor dated will appeal to a greater range of buyers. Don’t get greedy. The flip should be priced in accordance with the market area, understanding that the longer a house sits on the market, the less appealing it becomes to buyers.
Flipping houses may sound really easy for some, but it requires hard work and the ability to make good business decisions. If you are thinking about trying to buy, renovate, and sell a flip, consider networking with professionals that have experience flipping houses. These professionals can provide invaluable advice and tips that will go a long way to making your flip a success. Before you know it, we’ll be watching you on TV, too!