Being a real estate investor (or a real estate agent working with one) is not for everyone, that’s for sure. There is a reason people don’t dive into the real estate investing pool. They don’t understand how the deals are being financed. Let me give you a quick breakdown of how some fix-and-flip deals are being financed.
6 important steps.
- You take the acquisition price – for example, $200,000; you’ll need to put down 10% – in this example: $20,000.
- Determine how much will be needed in repair costs to get the home ready for appraisal and sale – for example, $35,000.
- The acquisition price was $200,000 with $20,000 down. So $180,000 for the home acquisition and $35,000 for the repairs. Added together, that’s $215,000 needed from a lender.
- Determine the home’s After Repair Value (ARV) – example: $375,000. The lender will lend up to 65% of the ARV – example: $375,000 X 65% = $243,750. Because 65% of the ARV is higher than $215,000 (the acquisition and repair costs), all’s well.
- The “flipper” (borrower) needs to put together a precise list. Exactly what improvements required for the home calling out specific materials. An appraiser will determine the current state of the home. Then compare it to the repair schedule to determine what the ARV will be. If it comes back higher than thought, great. If it comes back lower, it may need the buyer to bring more money to the table. Example: the home’s ARV is set at $320,000. 65% of that is $208,000, and $215,000 is a rule. The borrower would have to come up with an extra $7,000 over and above the $10,000 they brought in for the down payment.
- Establish ARV. The lender then moves forward with finalizing the loan and financing the project. The terms will usually be 12 months with interest only charged. Example: on a $215,000 loan at 9.5% interest only, that would be a monthly payment of $1702.08. The lender is going to charge fees upfront that usually add up to about 4-5% of the loan amount. That amount paid at closing along with any closing costs (about 2.5% of the loan amount).
So, let’s put this in real numbers and see how much a flipper would make:
$20,000 for the down payment
$15,050 for fees and closing costs (about 7% of the loan amount)
$20,425 (12 months of interest)
$55,475 TOTAL COSTS
$375,000 house sells for this amount
$215,000 amount financed
$160,000 TOTAL CLEARED FROM SALE
$160,000 total cleared from the sale
-$ 55,475 in total costs
This is one of many different ways to finance a fix-and-flip.
Here is a good article on “How to get a loan to flip a house”.
Additionally, have a look at our “Mortgage Terms”.