New Construction "flips"

[Anna Strausbaugh]

Hi! I've recently been considering a new avenue of "flips" in our market here in Boise and wondering if anyone else is doing it or if it's worth it to do (particularly if it's worth the tax hit)? I'm a real estate agent, but also an investor and in this market that is tight trying to find good cash flow in long term rentals or margins on flips often being pretty tight as well if you aren't doing a lot of the work yourself. I've been seeing an interesting opportunity in buying new construction at the pre-construction phase and locking in your price early, then by the time it is finished you've gained $100k in value (sometimes more, sometimes less). Then you sell once it's completed and get great returns because there's so little inventory of completed new construction homes. Anyone else doing this? I'm trying to get my husband on board with the idea as he's much more conservative than I am when it comes to new investment ideas. I feel like it's fairly safe as long as we buy in neighborhoods that allow rentals, that way we can always rent it out if things go sideways and we can't get what we want for the place. I do feel like it would be a big tax hit on that gain if we don't hold it for long. Thoughts on this?

[Joel Wilson]

Hi Anna, nice thinking outside of the box! I've got mixed thoughts and feelings on this.

In the current market it sounds like a dream come true. (I'm in OKC, but inventory seems tight everywhere at the moment) 

If the houses can be locked in (with a 4-12 month period before competition?) you do have to trust that you'll see appreciation (really almost a finders fee) in that short amount of time. (Also thinking about interest rates rising in a years time, the difference may be eaten up for buyers in that price point because of payment size)

Of course price point comes to mind, how many hundreds of thousands to make 100 thousand or less? Are there any other ways to make a similar return with our having to hold that large of an asset in a high price market? Capital gains you mentioned and on short term investment they could be substantial. Can they be rented and be cash flow positive at the initial purchase price? 

It really is interesting, and with a few more details it may be reasonable. 

I think if these properties are in your wheelhouse and you are comfortable holding them (if needed) at the initial purchase price and they cash flow adequately that it could be a win. I'm struggling to find new construction in my market that I can justify the numbers to hold. 

Best of luck and please let us know if you decide to go through with it!

[Eric Winkler]

Hi Anna!  I can't speak to the Boise market per se - but I can speak to the model of build to flip - as I have worked with many investors successfully in this arena. There are a couple of factors to consider from my perspective.  First - the market itself - many markets have low inventory, high demand and rising appreciation - as I am sure you do in Boise right now as well.  Here in Florida - same thing - high demand, low inventory, high appreciation.  Next - the builder - what kind of build timelines are we looking at?  12 mos?  18 mos?  More?  The construction itself - are you starting with a property that is near completion or are you starting from the ground up?  Various pros and cons on either side of course.  For example - property is near completion (60-90 days) - Pro:  less likely to be delayed and closer to the finish line  Con:  Probably paying at or very close to market value.  Starting from the ground up:  Pro:  Many builders can/will offer better pricing especially if you can bring volume and/or have investors funding builds - wholesale pricing = immediate equity + appreciation = higher profitability.  Cons:  it's ground up construction  - know your builder, their strengths, their timeframes, and their weak links.  Finally - exit strategy - we know what to do if everything goes the way we want it to, but what if it does not - meaning we decide to hold - I agree with @Joel Wilson above -this is where it would be a good idea to run a cash flow analysis on the property before diving in.  As far as the taxes - it would be a good idea to work with a tax expert - there are many different ways to deal with the taxes, depending on how you have structured yourself and your investment.  Again - I am no CPA - but I would take a look at deferred sales trusts as well.  Wishing you success in your endeavors!

[Anna Strausbaugh]

Thanks @Joel Wilson and @Eric Winkler! You both make really good points. It is definitely a risk if the market turns during a long build timeline, but if you buy it too close to completion there's just not enough equity in it to make it worth it (in my opinion). I was thinking of stuff that hasn't broken ground yet or is just barely getting started. This market is nearly impossible right now to make new construction cash flow unless you run it as a STR and a lot of the new neighborhoods have rules against them. One advantage that I have is as a realtor I know a lot of the builders well and know which ones are really delayed and which ones aren't as well as other strengths and weaknesses of each. Lots to think about and I really appreciate your input, super helpful!

[Will Barnard]

This is not a new strategy, it has been done many times for many years and was very popular in the mid 2000's when RE was skyrocketing. It is certainly an avenue if your market supports it and if you can lock in early in a phase. There are often times some lots that are much better than others so if you can also lock in the better lot, that is a huge upside as well. As with any short term flip, you will be paying taxes based on your ordinary income tax brackets but having a tax bill, while never easy to swallow, is not the worst thing in the world. That said, what you keep is just as important if not more than what you make.

What you really need to worry about now is what is going on not just in your market, but the entire country. With interest rates scheduled to climb to fight the self inflicted inflation, locking in a new construction at a price today, with no guaranteed set interest rate, then hoping for market inflation to provide your profit could be highly risky at this stage in the game so take caution there.

[Josh Edelson]

I’d say it depends on what the builder requires to hold the property for you. Do you have to pay a deposit to hold the property? What happens if rates go up 1% and you no longer want the property? Do you lose your deposit? Are you willing to to take this risk? 

If you can get your deposit back and or it’s an inconsequential amount, I say go for it. If they require like $10k down and you can’t get it back, I’d prob skip. Really depends on the builders’ stipulations. 

[Anna Strausbaugh]

@Josh Edelson, the deposit is definitely a consideration and it varies considerably depending on the builder. I'm not opposed to even the $10k down if it's a nice property and I'm getting good enough pricing on it I feel comfortable that I'd get that $10k back and more if I just complete construction. But there are other builders who want 10% deposits which is insane and I wouldn't do for something like this.

[Jim Paulson]

Many of the builders have realized how much money they were leaving on the table during the quickly raising prices, which is why they are not doing pre-solds and more.  They are waiting till the house is sheetrocked and maybe cabinets set before they price the home and put it on the market. As a fellow Realtor, I think it can work out really well to do this when you know both the strength of the local market for sales in addition to the rental market.  Best of luck! 

[Daniel Vineyard]