First Foray into RE Investing: Start-to-Finish Spec Home Process

[Mike Dunn]

TL;DR

My first investment property (single-family spec home), used hard money, father-in-law (FIL) was my mentor (he also did some minor work with me, he’s a general contractor), net profit approximately $27k, total time from breaking ground to closing was 8 months.

Background

I’ve been interested in real estate for a few years, but haven’t had the time or money to get started until recently. I received a bachelor’s degree in chemical engineering in 2013 and have been working full time in that field since then. I had a brief adventure with yellow letters for the purpose of wholesaling with a brother-in-law in early 2014; I learned a lot doing that, but ultimately we weren't fully committed and it fizzled out after sending out two waves of letters and talking to only a handful of people. No deals closed.

I have a FIL who has been a general contractor for a few years now, doing both fix-and-flips and spec homes. He has had ups and downs due to the fact that he taught himself everything about real estate from the ground up (he has previously been an accountant, restaurant owner, among other things). He has funded most of his deals through a hard money contact, that I’m not sure how he found (maybe I’ll ask him some details about this and write a follow-up post with more info).

This home was initially going to be an investment property that my family would live in for two years and then sell. That strategy changed midway through the project (more on that later).

The Lot

I found a lot in the middle of a neighborhood that was developed ca. 2006. The lot had an old wood builder’s sign on it that had been there for many years, according to the neighbors. It turns out that the builder had filed bankruptcy a few years back. The land had been sold at auction a couple of times, and was finally owned by an insurance agency that has a real estate investing arm. They were not actively selling the property, but were willing to entertain offers. I finally got in touch with the office where I could make an offer after a lot of research and many long phone calls trying to find out who owned the property. The key was not giving up or being deterred (the first number I called was a very old lady that thought she owned the property!). I was finally able to make an offer, which was negotiated to $55k for 0.17 acres. This was below, but close to being in line with comparable lots in the area. My brother-in-law (BIL) is a licensed real estate agent (he got licensed to help his dad save money in his business, he doesn’t sell real estate for a living), so I called him up and he drafted the REPC and like that the lot was under contract…but I had no money to pay for it!

Financing

While both my wife and I have good credit, and I have good income, we didn’t have the up-front capital to get a bank-backed construction loan to work. As mentioned previously, my FIL has used hard money for most of his deals, so I decided to see if I could use that as an avenue. Without getting into too much detail on the mechanics of hard money, my FIL and I put together a budget (my FIL was indispensable here) and presented it to the lender. He liked the numbers, and has always had a good experience with my FIL up to this point, so he said he would lend to me, but…I needed to put up $20k (approximately 10%). Now, since graduating college, I have been hitting debt with everything I can, so I had basically no money to put up. I went where everyone recommends you go when you’re starting out in real estate: my family.

My parents are middle class, have a paid off house, substantial savings, and are both employed; however, they are extremely conservative financially, so I wasn’t sure how it would go. They were comfortable lending us $10k and said they didn’t want us to pay them interest on it; just pay back the principal when we closed on the house. Great, except we’re short $10k.

At this point, I did something that many would consider foolish and took out a signature loan from my credit union for the last $10k we needed. In hindsight, this was a really good move, but I don’t know that I would recommend it for everyone!

So with the financing in place, I signed paperwork with the hard money lender and we were off to the races. We closed on the lot and were on our way.

Construction

I won’t go into a lot of details here, as other people have covered the mechanics of home construction more comprehensively and informatively than I can. I will only point out a strategic decision change and challenges we had throughout. The construction itself was pretty normal, between money draws sometimes taking too long and some subcontractors disappointing me occasionally, it was not too bad.

Roughly a month into construction (I think we had just started framing), my wife asked why we don’t just sell the house now and take the profits to the next house. My FIL and I were a bit perplexed, but in the end it made financial sense for us (even paying the capital gains taxes we projected to make about $20k, plus we have 3 kids which helps to offset taxes), so we pivoted our strategy to align with this new direction. This really didn’t change a lot on the build itself, but now we had to start thinking about selling as an exit strategy. At this point, selling the home became my exit strategy A, and getting long term financing and moving in would be my exit strategy B (if the home didn’t sell for some reason).

A note about stress: it will happen, and you have to learn to deal with it. Whether you use meditation, screaming into a pillow, hitting the gym (my personal favorite), reading, or whatever, you should definitely have methods of dealing with it. Toward the end of construction, the industry in which I work (petrochemical/chemical/mining) really started to take a dive, as most people are aware. I didn’t lose my job, and my income didn’t change, but people at my firm were laid off, which made me uneasy as I felt that the firm as a whole was not ready or able to deal with further decline. I decided to start job searching, which is stressful by itself, but having the house looming was almost unbearable. It all worked out, but I thought I would note this often-overlooked aspect of real estate investing. Before the house sold, I found a new job that was in all ways an improvement over my previous position, for which I’m very grateful. (Frankly, I plan to make RE investing my full-time work, but until then I have a family of 5 to support!)

Listing/Sale

As we were nearing completion of the house, we had my BIL list it on the MLS. Unfortunately, we were wrapping up construction just as the Thanksgiving holiday was approaching, which seemed to have a temporary cooling effect on the local market. Interestingly, we had a couple put in an offer on the home on Christmas Eve, which we were happy with and accepted. So the home was under contract…Yay? Not quite. These buyers wanted a pretty significant amount of concessions that would require some demolition and an unacceptable amount of money from us. We tried to make it work for a few weeks, but in the end they withdrew their offer because we couldn't come to an agreement that we felt was fair (and we had other people calling about the house quite often so, we thought we could do better with another buyer). I don't think there were any hard feelings, but we just couldn't make this particular deal work.

The house went under contract with another family at the beginning of February 2016 for $4,100 under the original asking price. At this point I had a very good idea of the final numbers as the construction was complete, and this was an acceptable offer for me as I wanted to be done with the deal (remember I was paying hard money interest, where time is very expensive!). The deal closed in about 30 days and the sale was very smooth. In the table below are the final numbers. (I have all of the costs broken out individually, but for the sake of brevity I made this more concise table to show the overall deal.)

Final Thoughts & Things Learned

• Keep track of your numbers in real-time. I was not very diligent for a lot of the time, which caused me a lot of extra work at the end when I wanted to do a post-mortem.
• Manage stress in a productive way (described previously).
• HAVE A MENTOR THAT YOU TRUST. Luckily, I had my FIL for this deal, who provided me with a lot of guidance, as well as connections to money, subcontractors, etc. 
• Real estate investing has its ups and downs, but overall can be very rewarding, both personally and financially. 
• Bigger Pockets is awesome and indispensable. This is my first post, but I’ve been lurking in the forums and listening to the podcasts for a long time! Get the knowledge here, but there's not a forum/book/podcast in the world that can pull the trigger for you! (If you need a bump in the right direction, listen to episode 76 of the BP podcast with Brian Burke)

My Next Step

I am going to build a house for my family; I’m currently on the prowl for a lot that I can buy below market value. My wife and I have decided to house-hack and build an apartment in the basement to rent out. This will free up money that we’ll use for more real estate investing! I’ll keep everyone posted on how this goes! 

P.S. Sorry this was so long, I mostly wrote this for myself to reflect on the deal, but thought it would be a good way to introduce myself to BP and add another experience to the forums from which others might be able to learn. If you read this whole thing, I laud your dedication!