Flipping Business Growth - Next Steps

[Matt Rogers]

My wife and I branched off on our own a few years ago with house flips on the side.  Over the last few years, we have established our team, remodeling systems, and have good success.  Additionally, we have done a number of live in flips that have allowed us to leverage our home equity into a pool of money to use for investments.  Up to this point, we have only been able to manage one house at a time.  

In the last couple of weeks, maybe its luck or maybe its good timing or just overall networking, but I've had about 3-4 houses fall into our lap as potential flips.  I have done one flip as a 50/50 partnership, where I did feel like I was managing more then 50% however we put exactly 50% in each in terms of money.   I have all of my money tied up in a house that should sell in the next few weeks. 

I now have many family members and friends who have come to me with requests to get in on the action.  My in-laws are currently in on the house we are finishing up and we have provided them an 8% return on their money as silent partners.  Most of the people who want in have done a flip here and there on their own.  I have said that if they come in, they can act as the bank and MUST remain a silent partner (no choices on remodeling, finishes, etc).  I have had that headache in the past and it is not worth it to me. 

My questions for the BP world is what would you do next?  What type of "deals" or returns would you offer investors?  Some have said they will act as the bank and split profits 50/50.  Some have obviously accepted a percent return on their money.  What would some of you more experienced individuals or companies suggest?  I know I can leverage what we've (my wife and I) created, so I don't want to downplay the opportunity we've created for others.  Especially with the ups and downs of the stock market, but obviously there is always inherent risk with taking on other peoples money.   

[Jeff S.]

At some point, your friends and family will run out of money for your deals, @Matt Rogers. Plus, once you do enough flips it’s inevitable that you’ll over-run, fall on your face, mess-up, or otherwise lose money on one. Nothing will change your relationship faster and for the worse than when you do business with friends or family. The first time you lose their money is the last time they might ever speak to you. Be careful. You have several options.

Creating an LLC with silent partners is very easy but will almost always be considered a security. Here, you're subject to SEC or state rules regarding investors and will likely have to register as a Rule 506 offering in some form, or something similar. Plus, do you really want to manage many investors? No. Don't do this. It's way too easy to run afoul of the security laws and completely unnecessary if you're just flipping homes.

Another option is for you to find the property, do all the work, and your partner purchases the property and pays all the bills. Traditionally, you would split the profit 50/50. In this case, you’re obviously giving up half your profit. (In your example above, you each put in 50% and you did all the work? This was totally unfair.)

Another option is to borrow from a hard money lender. Even at the confiscatory rates they charge, which can typically be 10% plus a few points, if you do the math you'll find you'll pay about a quarter to a third of your profit to the HML. Compared to the 50% you'll give a partner, it's almost always in your interest to borrow the money. There are a few other advantages.

One benefit to using an experienced lender is they will evaluate your property and help ensure you have a good deal. This is partly what you pay for when you do business with an HML. It's out of self-interest of course, since your lender doesn't want lose money any more than you do.

A good lender will not only review your numbers but will also provide a backup review of your rehab estimate. They will also make sure you are adequately insured with the appropriate fire, hazard, and title insurance. I find it amazing how many borrowers don’t know what to buy to protect themselves and also us. Strangely, nor do many insurance agents.

Of course, this is not done out of altruism – no lender wants to lose money. But, if an experienced lender explains why you should not to buy a particular property, you might take heed.

This is not a solicitation. We don’t know you and we also don’t loan outside of Southern California.

Best of luck to you, Matt.