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Guide to Funding Your Flip

Getting started in the house-flipping business means addressing your funding options almost immediately. It’s typically the most asked question and can keep people from ever starting.

The good news is: Funding your flip doesn’t have to be an obstacle. Many people get tripped up in this process, and I was one of them. It delayed me from getting started for years. I believed there was only one way to purchase and renovate a house: Having the cash. While that may be the ideal situation, there are plenty of other ways to fund a flip.

There are various sources to gain funding for your fix and flip project(s). Deciding which funding option for you depends on your qualifications, project needs, and business goals.

What is a Fix and Flip Loan?

First of all, a fix and flip loan is a short-term financing you can use to fund your flip projects. For flippers, the loans are used to purchase real estate, fund renovations, and cover any other expenses throughout the flipping process. 

Lenders will determine the amount they will loan by considering the after-repair value of the home. By using the loan to value ratio (LTV), the loan amount is determined by the loan size compared to the value of property. Usually, the highest LTV available for a flip project is 90%. That would mean, if you’re buying a 100,000 property, the loan would be 90,000 at most.

Many types of loans are available, but the right one will depend on your specific situation.  When starting and building your profits, you must know all the options you may have access to. I always have and always will tell you from experience with over 150 flips I learned you should never have one of anything.

Finding a flip is one thing, and funding is another. I rarely saw funding options discussed in flipping shows on tv. The great part about funding your flipping business is more opportunities become available with more favorable rates as you progress in your business. Let’s get into the types of loans.

Hard Money Loans

Pros:

  • Can close faster than a traditional loan
  • Underwriting process is less rigorous
  • Credit score and debt-to-income are less important than other loans

Cons:

  • Higher interest rates
  • Higher down payment than other loans
  • Term is shorter than traditional loans

Hard money loans are non-bank loans from private investors or individuals. Hard money lenders have lower qualification requirements and can fund flipping houses in one to two weeks.

Utilizing hard money lenders changed my business. That being said, I had completed several flips before I started to use hard money lenders. When I started, hard money lenders were not an option since they didn’t exist.

Since hard money lenders work with less qualified borrowers, they charge higher interest rates in the neighborhood of 10% to 20%. They also have fees that can increase the total cost of the purchase, so you need to account for that when you are analyzing your project. Therefore, it’s better to consider other, more affordable options first—before applying for a hard money loan.

Think of hard money loans as a way to “tide you over” until you complete the renovations on your property and sell it. As a result, the average hard money loan has a one-year term, although longer options are available. Hard money loans also require a relatively small down payment (usually just 10 %) because the lender cares more about the potential of the property than the background of the borrower.

Moreover, hard money lenders are pretty “hands-on” once they approve your loan. They generally extend the loan in parts. First, they’ll give you the money for the home purchase and the first set of renovations. Once the contractor completes initial renovations, you’ll get the money for the next renovations, and so on.

A variety of private business loan lenders and online platforms specialize in hard money loans for fix and flips. Start your research online, and don’t be afraid to look outside your immediate location. There are companies who lend all over the country.

Home Equity Loan or Home Equity Line of Credit

Pros:

  • Fixed interest rate
  • Lower interest rates
  • Easier to obtain large sums of money

Cons:

  • Could take out more than you need
  • Risk of foreclosure
  • You might take on more debt payments than you may be able to keep up with in the future

A Home Equity Line of Credit (HELOC) loan is an option for people who want to fix and flip and already own their own home.  For this to work, there would also need to be at least 20% equity in the home owned.

Using the equity in your residence can give you access to funding for flipping. The money can be drawn as needed, and interest paid on only the money you use.

HELOCs typically offer favorable interest rates. There is a lump sum amount, whereas with a line of credit, you can borrow up to the limit as needed.

Equity is the difference between the market value of your home and the amount owed on the mortgage. To qualify for a home equity loan or line of credit, you should have at least 20% equity in your home (ideally more—depending on how much you want to borrow). You should also have good credit and enough monthly income to afford your mortgage payments and pay off the HEL or HELOC.

Most banks will let you borrow 75 to 85% of the value of your primary residence, minus your outstanding loan balance.

For example:

You have 30% equity in a $300,000 house. That means you still owe $210,000 on your mortgage. A bank would extend you a maximum loan or credit line of around $45,000. If this isn’t enough money to complete your fix and flip project, you can combine this funding option with other financing methods. 

401(k) loans

Pros:

  • Paying back with interest is paying yourself
  • Not limited in how much you can take
  • Easy to access

Cons:

  • Employer may not allow it
  • Taxed twice
  • Depending on your age, there could be a 10% early withdrawal penalty

These fix and flip loans are best for house flippers who have retirement savings, either through an employer 401(k) or another 401 (k) plan, and do not need the funds for an upcoming retirement.

Financing your fix and flip by taking out a loan or withdrawing from your 401(k) account isn’t the best choice for someone approaching retirement. On the other hand, it can be a great option if you have a few years before you need the money. 

Most employer 401(k) accounts let you take a loan of up to 50% of the account balance, or $50,000, whichever is the lower amount. Solo 401(k) plans for self-employed individuals also allow loans of up to $50,000. You do pay interest on the loan, but the money is yours, so you’re paying back the principal and interest to yourself.

Taking a loan from your 401(k) might be a worthwhile option, and one I used myself when I was working full-time and flipping 3-4 houses a year.  

Personal loans

Pros:

  • Borrow the exact amount immediately
  • Offered by various lenders
  • Fixed monthly repayments

Cons:

  • Limit on the amount you can borrow
  • Aren’t tax-deductible
  • Some lenders won’t allow business use

When you take out a personal loan for your business, it can typically be used for a wide range of purposes, including a house-flipping project. Personal loans have competitive interest rates and terms that generally range from one to seven years.

Compared with other types of business loans, however, personal loans tend to have smaller amounts, maxing out at around $50,000. You’ll also need good personal credit to qualify for this type of fix or flip loan. And, if you default on the loan, you could put your personal assets and credit history at risk.

Seller Financing

This fix and flip financing option is best for transactions where the seller doesn’t mind structuring the sale unconventionally. Seller financing, also called owner financing, is when the seller of the home acts as the lender.

Instead of taking a mortgage from the bank or a lending company, you ask the seller to finance the fix and flip deal. Most homeowners want the money from the sale of their house right away. But it doesn’t hurt to see if the current owner is interested in seller financing, especially if they’re eager to sell the home quickly.

Seller financing offers advantages to both the owner and the flipper.

For example:

  1. Consider Sarah Seller and Bob Buyer. Sarah is retiring and selling her fixer-upper for $100,000, and she agrees to extend a loan to Bob. They agree on a down payment of 5%, a 4% interest rate, and a maximum term of six months.
  2. Bob gives her the $5,000 down payment now, and a promissory note for the remaining balance. He pays interest monthly.
  3. Bob spends $25,000 renovating the house and sells it for $150,000. After selling the home, Bob pays Sarah the $95,000 balance and remaining interest. He also pays his contractors for the renovation.
  4. Accounting for interest and the cost of the renovations, Bob made nearly $24,000 in profit. And Sarah is happy, too, because she got a nice return on the proceeds of her sale.

Usually, the flipper makes interest-only payments until they sell the property, at which point they pay off the seller in one lump sum. The seller can set a “balloon date,” a specific date by which the borrower has to pay back the loan. By that day, the borrower either has to sell the property or get a new loan to pay off the seller.

As with partner financing, you should have the terms of an owner financing deal in writing. Since the seller here is a third party (not someone you know, as is typical with partner financing), it’s wise to have a lawyer draft up the loan papers. As we see interest rates increase this type of financing may be a great option considering many mortgages have a 3% or less interest rate.

Pros:

  • Helpful if you can’t secure a mortgage
  • Closing process is generally faster and cheaper
  • You and the seller agree on a downpayment

Cons:

  • You may pay higher interest
  • You can still get turned down
  • Seller financing is less common than traditional methods

Business Line of Credit 

Once you’ve been flipping properties for a while, the possibility of bank financing sometimes opens up. This fix and flip financing option is best for experienced flippers with a history of successful deals and regular income.

As we mentioned, traditional bank loans don’t work well for fix and flip funding, however, business lines of credit can offer investors funding for house flipping. With a business, or commercial, line of credit, you get access to a specific amount of money, but only pay for what you use.

A business line of credit is ideal when you’re unsure of how much renovations might cost on a property or how long a renovation might take. Business lines of credit work like a HELOC, but the difference is the amount of money at your disposal. Commercial lines of credit can go up to as much as seven figures, based on your business’s income and your portfolio of fixes and flips.

You can apply for a commercial line of credit at your local bank. Bank of America, Chase, Wells Fargo, and smaller community banks all offer small business lines of credit. The interest rates on these are very low but remember—to qualify for a commercial line of credit, you’ll need to have an excellent credit score (above 700), a decent amount of money in the bank, and a stable history of revenues.

Pros:

  • Helps you pay your bills on time and get automatic payment discounts
  • They allow you to pay for only what you need (your max balance is your highest estimated costs you need to cover, and use only what you need/pay interest on only what you need)
  • Helps you build a relationship with the lender

Cons:

  • High-interest rates
  • Requires extra due diligence to ensure it is legitimate
  • Application process is very time-consuming

Choose the Loan that Works for You

NOw that you’ve familiarized yourself with the various funding options, reflect on what will work best for you, your business, and goals. There is going to be risk with fix and flips, so considering that into your decision in funding options is a good idea! First, determine your financing needs, evaluate your qualifications, and find the right lender. Don’t be afraid to shop around or speak with others in the industry for feedback.

Ready to get started in flipping (or refine your existing flip business)?

Buy, Renovate and Sell successfully with my Find Your Flip program. From the comfort of your home, tour three properties with me and discover what I’m looking for when deciding on a flip project. A great option that has helped people kick off their businesses successfully with proven tips and a wealth of information.

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