Why You Should Flip Rentals Instead Of Houses

Over the years I’ve flipped a lot of houses, enough that I lost count. They’ve ranged from carpet & paint flips, to down to the studs remodels. I’ve purchased these ugly houses off market, on the market, from estate sales, and on the courthouse steps.

A few years ago I drew a line in the sand and said no more flipping houses to sell, we would only flip rentals…

Flipping is a speculator’s game. It’s also a lot of work, and the stakes are high. So much can go wrong (and I promise you it will) and even if all goes well and you make a great profit, you will pay in taxes. There is also a lot of liability. On more than one occasion, I received a call after closing that something broke or didn’t work properly, and the buyers and their agent always want to point the finger at the flipper.

Flip several houses a year and the IRS may consider you a real estate dealer, which means the income would be taxed at an ordinary income rate as opposed to a potentially lower capital gain rate. Here’s a great article to explain.

So basically a flipper buys a house, usually with cash or hard money, spends money to remodel it in hopes that it will eventually sell for a profit. All the while spending a lot of money out of pocket in holding costs each month with no guarantee that the home will turn a profit, or even break even. This is a one strategy game, and for that reason I don’t like it.

When I hear of people who intend on flipping to build up funds in order to buy rentals, I get deeply concerned. To me, it’s almost like saying you plan on taking your hard earned paycheck to the casino in hopes of hitting the jackpot so that you can eventually quit your job.

What I would rather see people do is flip rentals.

Let’s break this one down:

• You buy a property (I suggest a small multi-family like a duplex) that needs some work, and likely will have to pay cash or get a hard money loan
• You spend some money fixing it up, though the remodel is on mid-grade finishes since it will be a rental
• After it’s fixed up you rent it out
• After it’s rented and fixed up you refinance and can likely get all or most of your cash back, oh and earn cash flow every month too!
• Now that you have one rental under your belt and most, if not all of your money back, you go and do it again. All the while building cash flow along the way.

Want to sell when the tenants lease is up in a year and make a good profit? Go for it, and might as well use a 1031 tax deferred exchange so that you don’t have to pay taxes on the profits since you are likely to reinvest it anyway.

Seems too good to be true, right?

Well, it definitely is true and is exactly the way that we built our portfolio. If you haven’t read it yet, check out my long post about how we built our portfolio (which doesn’t include the new properties but you’ll get the formula).