Rehabbers in real estate investing buy similarities that need repairs. By making the necessary repair investors create equity in the similarities when they are sold to end-buyers who live in them. Buy right, sell right and the money flows in – or does it? Besides the usual issues of paying too much for a character and over-rehabbing it, there are other “problems” an investor faces that can kill his business.
Following is one example of a continuous buyer of real estate, or so called “whale” buyer, investing with seemingly endless supplies of money. Generally, they buy similarities to rehab and sell to retail buyers, rehab and rent them or just wholesale them to other investors. I categorize a whale buyer as anyone who consistently purchases 2 to 10 similarities a month.
This whale was a businessman who cashed out of his unrelated business and was looking for new business to start. He saw what happened to real estate prices and got interested in the business. He did a single rehab, made $50,000 and was hooked. He was a “student of business”, meaning that he believed he could make any business work and systemize it into a cash machine. After all, he did it once before, why not again?
In his former business it was easy to sell his service but it was labor intensive and had small profits. Rehabbing seemed to fulfill his dream business plan – use others for the labor, take great profits per deal, have a hungry audience for his product, get government loans for his buyers, be able to rehab quickly, and take profits like crazy.
A associate of houses into the plan, he decided to start filling a warehouse with the necessary rehab materials. He bought materials in bulk and next found himself on the way to a housing recession – not caused by housing prices but by traditional lenders who wouldn’t loan money.
What he forgot to understand is that the lenders are in control of the retail housing market: – no mortgages – no sales. There are exceptions like seller financing or unprotected to mortgage takeovers, both of which are being reduced by regulation. However, his greatest Achilles’ heel was that his bank appraisals were coming in low so his profits dissolved in minutes.
The lenders control the sales prices by choosing what percentage of the appraisal they will accept. His buyers had OK credit for buying a character a associate of years ago, but new stricter lender requirements have deleted 60% of those people from buying homes.
His business plan called for a specific number of sales per month at specific profit margins to cover his labor and material purchases – not to mention he had to have cash to buy the similarities since lenders wouldn’t consider loaning him money as a real estate investor.
So this whale is now sitting on a bunch of homes that he can’t sell because he will lose money on them. He completely died in six months as a whale buyer. His only hope is to rent the homes until the market comes back in 3 – 5 years or that he finds private lenders who will finance end-buyers who have good jobs, but poor credit because they are coming out of a foreclosure. He could take a loss on what he already rehabbed and restart on a scaled-down basis. This is very doubtful because of human character of not wanting to let in being wrong.
You shouldn’t assume that because you have money, or are using someone else’s money, that you will be successful in real estate investing. You can buy and manage rentals, rehab and retail or simply wholesale deals to make money in real estate. I had suggested wholesaling to him when I first met him so that he could establish a monthly cash flow, but he felt he wouldn’t need it. Wholesaling similarities offers advantages that rehabbing doesn’t so it should be considered in any business plan for real estate investing.
Don’t let the experience of this whale investor happen to you. already if your goal is to make tons of money rehabbing and retailing to the public, consider wholesaling to bring in a cash flow every month. The side assistance is you can pick and choose the better deals to keep and rehab. The beauty of wholesaling is it requires little or no money, no credit and has no market risk – unlike rehabbing that is cash intensive.