New investor, bought my first investment property: flip or hold?

Question

Hi all!

I've been a long time watching videos on Youtube and reading here. I just decided to get started and last May I bought my first two properties, I would like to share a bit more about the first one to get some advice.

The property is in the suburbs of Chicago, near Oak Park:

- Purchase price: $165k as-is

- Rehab budget: $75k

- Closing and loan cost: ~$8k

- Down payment: $46k

The appraisal as-is came back at $165k, and after renovation, the appraisal is $293k.

To finance the deal I used the Finance of America acquisition & rehab line of credit at 9.24% with a loan of $118k initial and then rehab holdback of $77k to fund the renovation.

Now the questions I have is what to do with the property:

Option 1: Flip and sell it right away after the rehab is completed in a few weeks

Then at this point, I would have spent:

Total cost = $165k (cost of property) + $77k (cost of rehab) + $15k (closing cost buy & selling fees) + $6k (holding costs 4 months) = $263k

Selling price = $290k

Profit = $27k

*Holding cost for 4 months = $4,192 + $1,900 (includes mortgage 4 months, utilities and taxes)

What concerns me a little bit is that I am in a high tax bracket so I will have to pay quite a lot of taxes + short-term capital gain.

Option 2: Rent and hold

Loan monthly payment at 9.24%  = $1,640/month

I would then cash-out refinance. I would be able to get $46k+$27k * 80% = $58k in cash for another deal

The new mortgage at 3.6% rate would be $890/month and I would rent the property for $1,700/month. I would cash-flow $810/month, but I would have still to pay on top taxes and property management since I am out of state, so the cash flow would be around $500/month.

What is interesting about this option are the tax deductions that I can get, as I mentioned above, I am in a high tax bracket and this could help lower my taxable income.

First of all, if you read till here... thanks! Would be great if you could confirm that assumptions and options are good and what would be your recommendation for my situation? what would you do better next time? I am new and willing to learn from all of you!

John Warren · Answer

@Alex Mitt the decision on whether to hold a property or sell is personally, but I also think you can be very objective about the CapEx situation of the property. So many investors here on BP think that CapEx is some sort of 5% line item in a spread sheet. Think through your property and give it an honest assessment. Is there still some galvanized plumbing in there that you think may be a ticking time bomb? Is there an older roof you have been milking? What about the electrical system? Windows? Siding/Brick? If you see some big CapEx events coming up, then it often times makes sense to lock in your gains by selling now and letting the retail buyer take on those CapEx projects as part of the joys of home ownership.

I also like to think through the location of each of my properties. Is this a location I enjoy owning at? Do I believe in this location long term? Will the area allow for great appreciation, or is this C or D class area where cash flow is your only option for making any money? These questions all play into my personal decision on whether to hold or sell a profitable investment property.

Joel Miller · Answer

@Alex Mitt

Great job on your first 2 properties! For that much work 27k definitely does not sound like too much specially when you may pay up at 50% tax if your in a high tax bracket. I would definitely brrrr the deal If it still cash flows.

Good luck!

Ronald Allen Barney · Answer

Cash flow is after taxes and expenses.  What would insurance, property management, and repairs cost?  If your true cash flow after expenses is higher than inflation for this year I would hold.  If not I would sell the flips and try to find a market with higher cash flow for buy and hold, or alternatively stick to flips for now.  One consideration for markets is where you think Oak Park is going, is it on the rise economically or have the "mostly peaceful protests" put it into a tailspin?  That should also influence the decision.

Jonathan Klemm · Answer

@Alex Mitt - Sounds like a great deal, great job! I'd suggest going with whatever option fits better into your term investing plan. Do you want the cash to invest in bigger buildings? Or are you looking to build a portfolio of single-family rentals?

I personally would not worry too much about the taxes, it is what it is, so just do what makes sense for you. If you were really concerned you could

I personally would not worry too much about the taxes, it is what it is, so just do what makes sense for you.  If you were really concerned you could

Rodney T. · Answer

I like the way you think. It's a little deeper and apparently needed based on the math being done that initally failed to take into account taxes and insurance (and their ability to change), and Cap Ex which, as mentioned, may just be that roof you decided not to replace etc. I like your way of looking at the property as something that isn't static. You mentioned "locking in your gains" as a way of describing their potential fragility; that's a helpful way to think about them. The posting investor mentioned the part of town for the second property as undesirable and your comments on appreciation speculation based on the reality of the area is important to consider.

Crystal Smith · Answer

Got to admit my partner and I love these type of problems/analysis.  The answer to the test- HOLD the property.  Using your numbers in option 1 we'd probably ended up paying close to $8K in taxes bringing the profit down to $19K. In option 2 you're getting your $46K downpayment back from the $58K cash out refi. What's more interesting than the tax deductions you will get is you will have zero $ of your own money left in the deal and a $500/month cash flow.  Hold the property.

Steven Foster Wilson · Answer

Personally the BRRRR method has worked well for me, it gives the option of getting your invested cash back, and you get the benefit of owning real estate which will pay you back in the end!

Alex Mitt · Answer

More information about Property 2, it is also in the suburbs of Chicago but not in my favorite area, and not growing too fast.

- Purchase price: $105 as-is

- Rehab budget: $27k

- Closing and loan cost: ~$8k

- Down payment: $28k

The appraisal as-is came back at $113k, and after renovation, the appraisal is $150k.

To finance the deal I used the Finance of America acquisition & rehab line of credit at 8.5% with a loan of $77k initial and then rehab holdback of $27k to fund the renovation.

Similar situation:

Option 1: Flip and sell it right away after the rehab is completed in a few weeks

Then at this point, I would have spent:

Total cost = $105k (cost of property) + $27k (cost of rehab) + $13k (closing cost buy & selling fees) + $2k (holding costs 4 months) = $147k

Selling price = $170k (per the realtor

Profit = $23kOption 2: Rent and hold

Loan monthly payment at 8.5%  = $874/month

I would then cash-out refinance. I would be able to get $28k+$27k * 80% = $44k in cash for another deal

The new mortgage at 3.6% rate would be $480/month and I would rent the property for $1,500/month. I would cash-flow ~$1,000/month, but I would have still to pay on top taxes and property management since I am out of state, so the cash flow would be around $700/month.

For this the cashflow looks a tiny bit better.

Alex Mitt · Answer

Thanks for the replies! For those telling me "if you need the cash, sell now".... isn't doing a cash-out refinance giving the cash anyways, tax-free, and keeping the property?

@Michael

@Michael K. I'll give later today the scenario for property number two!

Michael K. · Answer

@Alex Mitt

Congrats! I think your numbers are pretty accurate. I would agree don't worry about paying taxes if selling is the right decision for you. Reporting more income will also help you qualify for larger loans in the future. The rental income isn't stellar but with a $500 margin you can cash flow. What you do from here depends on whether or not you are feeling fatigued from this last fix and flip!

Oh, and what is the story with your other property?

New investor, bought my first investment property: flip or hold?

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