How I Screwed up a $65k Gross Margin Deal

[Tony Castronovo]

Some of you have asked me to articulate how in fact I screwed up a seemingly profitable deal.  This was my second property, which was my first attempt at a flip.  My first property was a buy & hold, which I view as a small success...but not without a good story (I will share this one later). 

Some specifics on my second property:

• Purchased from a wholesaler using hard money
• Purchase Price:  $181k
• ARV: $245k
• Estimated Repair Costs (from wholesaler):  $20k

So how did I screw up:

1. Waited until I owned the property to start looking for contractors:  I have a background in construction and love DIY.  I did the full renovation on my first property by myself.  So I did not have relationships with contractors.  After I closed on the property I starting making calls to contractors (at least I got referrals) looking for estimates.  This was so painful.  Could write an entire blog on this.  Bottom line:  Took SIX WEEKS to start the project.
2. Higher Rehab Costs than Expected:  This is a common one, right?  Wholesaler estimated $20k.  I estimated $27k.  Found a contractor who did the job for $25k...BUT...I had to provide appliances and fixtures.  We also decided to convert part of a utility room into a half bath.  This added $6k.  Long story here, but it was really needed.  Only bath on the main floor was the master.  Logic was that it might add some value to the house.  But we really did it to not disqualify the house from prospective buyers (who wants your guests to use your master bathroom?).  Final rehab costs:  $40k.
3. House backs up to apartment complex and power line:  Huge drawback to buyers! Great neighborhood, great schools, but this added DOM big time.
4. Bad Timing:  Listed the house in mid-February, at the trough of the market and with folks losing their jobs in O&G.
5. Priced Too High Above Market:  This is a big one!  I originally listed the house at $264,900.  My agent (and wife) strongly urged me to lower it, which I was blind to.  I had to recover my losses, right?  We got very few showings.  DOM were increasing.  Dropped to $255k after 30 days, dropped to $250k another 6 weeks later, and finally $248k.  The reality is that market price for the home is $250k.  We had two contracts for this price (more on that later).  But extra DOM means more holding costs.  And worse, it weakens your negotiating power.
6. Didn't Negotiate Repairs Well:  One of my two offers was for full price (well, after it was $250k).  Very eager and strong buyer.  Cashiers checks for option fee and EM within hours.  Conventional loan with 20% down.  They were a bit unrealistic though following the inspection.  You've seen inspection reports.  You'd think the house was going to fall over, right?  Well, they wanted about 30 items fixed (in hindsight, none of the issues were very major).  I responded with a $2500 seller contribution.  They were insulted and walked away.  I thought I was being fair, since I priced out the items and this was in line.  But the reality is that many buyers are not educated on the cost of home repairs.  To them, it may have been $10k...which I now can see why they would be insulted.  I should have just fixed the items and got to the closing table quicker.
7. Hard Money Flop:  I financed 80% of the purchase price using a 6-month interest only loan.  Cost me 2.75 points and 9.9% interest rate.  Because it took me so long to rehab the property, high DOM due to the above, I had to extend my loan.  It cost me another 2 points for 90 days at a rate of 14.9%.  Ouch!  I considered a conventional refi, but it was a wash when compared to the closing costs.  I haven't tallied it all up yet, but I estimate I will have spent around $25k just on the financing.  I do believe there is a place for hard money and may very well go that route again.  But time is of the essence.

I could probably come up with a Top 10 list....but I'll stop there.  Oh, in case you are wondering, we are under contract with a cash buyer and expecting to close next week.  Keeping fingers crossed!

[Tony Castronovo]

Thank you all for your comments and encouragement.  To answer some questions...@Scott W. I will not be making any money on this one.  But I fully expect to recover in the long run.  There is an old trucker saying out there..."There are those that have wrecked and those that will wreck".  Hopefully, I got this one out of the way.

@Lizina Green As I mentioned, my first property was a buy & hold.  Did the entire renovation on my own for a little over $10k, including complete kitchen gut/remodel, new bathrooms, all new flooring (tile + laminate), fixtures, paint, etc.  Did it all on weekends in a period of two months.  Some very LONG days/nights.  Got a tenant screened in signed in under a week at a higher than expected rate.  Was just patting myself on the back when I got a call the first few days of the tenant moving in..."the toilet is overflowing!!!"  Ran a camera and found tree roots in the sewer line.  Took a crew of guys 2 days to trench under the house and replace several feet of sewer line.  Cost me almost $5000!  (That's a lot of cash flow to make up).  Check out the pic below.  Notice the grey stuff...it's duct tape.  When the house was built 35 years ago, the plumber was a little short on pipe, so he taped the joint together.  Over time the roots became pervasive.  After talking to the neighbor, it appeared that this problem was around for awhile.  My seller did not disclose it.  I talked to a lawyer, but in the end it was not in my best interest to fight this one.  While this situation sucked, it was not something within my control.  I have a good tenant who has been there for over a year...paying the rent on time and taking good care of the place.