How To Flip An REO Property For Profit

House flipping is a real estate investing strategy involving purchasing properties, investing some capital in renovations, and putting them back on the market. The difference between the cost of the REO property plus repairs and the final price when it’s eventually sold off is the profit.

According to data from Attom, the average return on investment of home flips in the fourth quarter of 2022 was $50,000, or 20% of the property’s price. More than 80,000 house flips were recorded in the same period, with an average time of 5 months, starting from purchasing the REO property, renovation, and eventual sale.

Why Should You Flip REO Properties?

REOs are properties that have been foreclosed on and failed to be sold at public auctions. REO properties make for some of the most cost-effective properties to buy if you’re looking to flip, especially if they’re located in affluent neighborhoods.

REOs are also known for having no problems with tenants – properties are usually vacant after they’re foreclosed –and no liens on the property of any kind. Couple that with very competitive prices; it’s clear why there’s so much demand for REO properties.

Can You Finance An REO Purchase?

Financing is the most popular way to buy a home – whether you’re looking for a primary residence or flip a house.

It’s important to note that government-sponsored financing options like Fannie Mae and Freddie Mac offer financing for first-time homebuyers only – or buyers looking for a primary residence – not house flippers or private real estate investors.

With that being said, banks and private lenders often offer financing for REO properties. However, terms may vary drastically depending on the conditions of the property. If the property is in very poor condition, potential lenders may see it as a risky proposition.

A good place to start looking for lenders is:

• Private lenders (local banks, credit unions, or other financial institutions)
• Loans from friends and family
• Online crowdfunding sites 

You can also finance an REO purchase with a mortgage. We don’t recommend this because mortgages typically have long terms; if you’re looking to flip a house, you’ll need to refinance the loan to pay it off early – and some lenders charge an additional fee.

Location, Location, Location

Sometimes, the most challenging part of flipping a property is finding the right one. After you’ve set aside a budget, it’s time to start looking for candidates. Some of the most popular ways to find properties include:

• Online real estate listing sites
• Local real estate agents
• Bank websites or brokerage firms
• Public Records
• Live auctions

Since all documents relating to foreclosure are part of the public domain, you can usually find soon-to-be foreclosed properties and REOs at your town’s County Recorder’s Office.

Estimate Repair Costs

Estimating repair and renovating costs can be tricky, especially if you don’t have much experience in the market. That’s why, instead of estimating the bulk cost of repairs, experienced investors try to calculate costs per square foot of property based on the type of renovation needed.

The three main categories of repairs are cosmetic, partial, and gut renovations. If you want to flip a house, we strongly recommend avoiding anything beyond cosmetic repairs.

Avoid houses that have issues with the roof, HVAC, plumbing, or electrical systems; these types of issues can – and will – drive up the costs dramatically and make it harder to sell at a profit, not to mention the longer repair timeframe. Timeframes for successful house flipping are usually between 140-180 days.

Based on factors like the condition of the property, cost of materials, and location, cosmetic repairs range from $5-$20 per square foot. That means that for a 2,000-square-foot home with no significant issues, you can expect to spend between $10,000-$40,000.

But now comes the question: how much should you spend – even before renovations – on an REO property?

How Much Should You Spend On An REO Property

You have an idea of how much the repair will cost you. A good rule of thumb to decide how much you should bid for a property is the 70% rule: never bid more than 70% (minus repair costs) of the projected REO property’s after-repair value (ARV). That may sound complex, but it’s, in fact, very easy.

Imagine that after inspecting a property, you estimate you can sell it for $100,000 after investing $10,000 in repairs. Then, following the 70% rule, you shouldn’t bid more than $60,000 for that property.

You can calculate this number easily by computing 70% of $100,000 – which amounts to $70,000 – and subtracting your estimated repair cost of $10,000.

The 70% rule will help you cover your bases in case the market cools down, or you find an underlying issue that might increase repair costs. That’s why conducting an inspection early on is so important.

Bidding

After estimating how much you can realistically spend on a property, it’s time to bid; this is where your expertise and experience in the market can play a role.

Seasoned house flippers usually have more connections and can find the materials at better prices and cheaper labor – or even do repairs themselves if they’re contractors and have experience.

For beginners, we recommend sticking to the 70% rule. As you gain experience and build connections, you’ll have more room to play and widen your bid range while maintaining considerable profits.

Another important factor to consider is the offer. If you come to the table with an all-cash offer, you’ll have a headstart over the competition. According to 2022 data from Attom, all-cash offers for a real estate property – with intent to flip – are on the rise, accounting for almost 65% of all purchases in 2022, compared to 57.2% in 2019.

That means that you’re more likely to snag a deal or secure a property if you make a timely all-cash offer instead of looking for external financing.

Selling The Property

You’ve successfully renovated the property and are ready to sell. How can you go about listing your property and selling it as quickly as possible?

The first step is to research the market. You should already have an idea from your initial assessment – before you purchased the REO –but keeping in touch with the market is always a good idea. Renovating a property can take 140 to 180 days, and market conditions can change.

Make sure you list the property competitively – remember that when you’re flipping a house, selling it quickly is more important than waiting for a huge payout. A vacant property will still accrue property tax, HOA fees, and maintenance costs.

Working with an experienced local real estate agent who can help you streamline the sale is a good idea.

The 3 Most Common Mistakes To Avoid When House Flipping

Be Prepared To Walk Away From A Deal

Before you start any negotiation, make sure you have a clearly defined budget. Stick to it, and don’t go overboard – even if the offer sounds very appealing. More opportunities will come; at this point, gaining experience, building your network, and meeting people in the industry should be your priority.

Not Securing Financing Before Looking For Options

Approximately two-thirds of all REO property sales in 2022 were paid for in cash. If you decide to make an all-cash offer, you’re twice as likely to secure it if you pay in cash. If you can’t make an all-cash offer, at least ensure you get a pre-approval from your lender to speed up the process and increase your odds of securing the property.

Over-Investing In Repairs

When it comes to flipping, more is not always better. If you’re aiming for a cosmetic renovation, don’t overspend on new cabinets, floors, plumbing, or electrical systems. It may sound good on paper, but you may end up pricing yourself out of that market when you inevitably try to mark up the property to recoup your investment.

FAQs

What Is The 70% Rule In House Flipping?

The 70% rule establishes a guideline for house flippers to estimate how much they can realistically spend on a property and still return a profit after repairs. To apply the 70% rule:

• Find the after-repair value (ARV) of a property (compare it with similar houses in the area to get an idea)
• Compute 70% of that ARV (if your research shows a house can sell for $100k, 70% of that is $70k)
• Deduct from that 70% any necessary repairs (let’s say the house requires $10k in repairs. That means your highest bid for that property should be $60k)

As you build connections and get more familiar with the market, you can drive repair costs down – we recommend creating a team of contractors or handymen you trust to increase profits.

How Much Money Do I Need To Flip A House?

It depends – if you focus on cosmetic repairs, a good starting point is $5-$20 per square foot. That’s between $10k-$40k for a 2,000-square-foot property. Remember, prices depend highly on location, price of materials, and labor costs in your area.

What Is The Average Profit On A House Flip?

According to 2022 data from Attom, the average ROI for house flippers is around 26.9%, with a gross profit of $68,000.