FLIP OR HOLD? When does a rental turn into a flip; when does a flip turn into a rental?

Question

I'm working on a SFH rehab that was intended to be a long term rental. Without going into details about why, I ended up making the house nicer than expected of course spending more than expected (about 100k total [50k purchase, 50k rehab] rather than typical deal of 70k total [40k purchase, 30k rehab]), and a a result, have decided sell the property instead of holding. I am looking for feedback on when a project changes intentions for you.

Typically, this type house typically nets 10k of annual rent as a buy and hold, and it can net 25k of profit as a flip. My typical analysis is that 2.5 years of renting gets me the flip profit so I may as well keep the property. Even more, I believe the area is due for appreciation so a typical hold to flip in 2.5 years from now could net 50k. But remember that I spend more on this house than typical.

As a hold, on this project, even though I can hit 15k annual net renting a nicer place to supposedly nicer tenants than typical, I'll be collecting about 1.6% rent to value compared to a more typical 2.5%. Also, I am concerned with the upkeep of such a nice place in between tenants. The flip profit should be 35k. According to my above analysis, only 2.3 years of renting gets the flip profit so I should hold.

But as a flip, I should be able to buy (1031?) 2 houses to replace this house at an income of about 2% rent to value. Translated back to dollars, I can get close to 20k net annual rent without additional capital, but by renting two SFHs instead of one. Another consideration is that the current project is closer to max value than the two replacements would be, so there is more appreciation potential times two. Therefore, cash flow analysis indicates that I should flip.

Flip or hold? I am really up in the air about this and about 2 weeks away from completion. I'd love to hear about how this translates in the other direction --- ie, flippers that ended up renting and the thresholds that were crossed to make the change.

- Here are before pics

- Here are current pics (kitchen cabinets will be 42" with granite; bathroom will have body shower; basement will be partially finished)

John Powell · Answer

You said that your typical hold yields flip like profits in 2.5 years. This property will outperform your baseline and it falls within your current business model. I would say not get distracted by the shiny potential for profit mid project. Stick with your proven model. If you want to get into flipping start with that intent.

Dooreuhn Cee · Answer

That make sense. Even though the project now qualifies for a flip, it also still qualifies for my initial intent.

J Scott · Answer

For me, it's a question of my longer-term plan and goals. While I'll sometimes change direction mid-project, it's typically only if there is something that has changed. For example:- The market has changed- The project has changed (surprises came up)- My financial situation has changed- My long-term goals have changed- Etc...If something changes, it's always good to be flexible and be able to change with it. But, going into any project, you should have a clear exit strategy that's based on achieving something bigger than just that particular project exit.What that something bigger is for you is likely going to be different than that something bigger is for me (or for anyone else). We all have different goals/priorities...

Crystal Smith · Answer

@Dooreuhn Cee Before going in to a flip project we look @ multiple exit strategies & timelines for executing the strategies. We won't purchase a flip w/o having the alternative exit strategies mapped out. We put alternative exist strategy triggers in our project schedules : The triggers:Short term balloon note date- If we've borrowed $ then 6 weeks before a balloon note is due we'll start the process of paying off the balloon & move the project from a flip to a hold.Sales comparable average Days On Market (DOM) - We'll qualify a project for a flip if the sales comparable average DOM is < than 90 days. Once a project starts we'll monitor the market DOM. If the average DOM changes to > 90 days it triggers a discussion on executing one of the alternative hold strategies. We have 2 hold strategies for projects that we're originally intended as flips:Short term- On the high end project in "A/B" locations we contract w/ corporate/executive housing companies. These companies are looking for properties w/ short term month to month leases for moving executives. The companies pay a premium for the lease & we can still market the property while occupied. Long term- In the in the C/D locations we'll hold the property as a rental; rent w/ option to own or owner finance. For the straight rental the rent to value is between 1 and 2%.

Crystal Smith · Answer

Dooreuhn Cee · Answer

What numbers do you use for rent to own? If the baseline rent is 1k then do you raise the rent (eg, 1,250), or do you require a downpayment that exceeds the 1k security deposit? How do you characterize the downpayment, as a non-refundable option fee?

Dooreuhn Cee · Answer

@Dave Foster yes net accounts for taxes. id likely use a 1031 to transfer equity from the current house to the two houses.

Dave Foster · Answer

Are you factoring in taxes on your net rents? One of the big factors in your analysis is the difference between renting this property for a premium but enduring taxes vs the tax free nature of the 1031 allowing you to leverage into two homes with a combined higher rent thus compensating for the taxes.From a 1031 perspective it is perfectly fine to sell a house immediately after you fix it - if you're intent when you bought it was to hold it for productive use. There is no statutory holding period. Things situations and people change. Things you use to demonstrate that intent are your normal business model and practice, your stated intent in various settings (like BP), sometimes the length of time your usually hold property. Your situation is intriguing because it sounds like your normal course is to buy and hold. Which would add weight to your intent argument. However you will not be holding it long at all which tells another story.