Curve

House flipping hits new low; why that’s good for today’s buyers

Peter Miller
The Mortgage Reports contributor

House flipping has slowed, and that’s good for you

Recent research shows that house flipping activity slowed to a 6.5 year low. That’s good news for today’s buyers, who have been shut out by low inventories and competition from investors.

  • The decrease in flipping activity could indicate a slowdown in housing price increases
  • Mortgage rates have also retreated as the economy slows down
  • There are more homes to choose from, allowing buyers to take more time and get what they want

Today’s conditions, which more houses, lower prices and better interest rates, could be what buyers need to achieve homeownership now.

See current rates for home flipping (Mar 22nd, 2019)

What house flipping tells us about housing markets

House flipping is in decline. Depending on your point of view that can mean either lost investment opportunities or generally improving affordability.

House flipping usually means the quick purchase and resale of an individual property. To have a successful flip, you need to buy low. You also need to quickly re-sell for enough money to at least cover financing, improvements, taxes, and marketing costs.

ATTOM Data Solutions says flipped homes represented 5 percent of all sales in the third quarter. That’s down 12 percent from a year ago and the lowest portion of sales since 2016.

However, less flipping may also be a positive sign for home buyers.

“Home flipping acts as a canary in the coal mine for a cooling housing market because the high velocity of transactions provides home flippers with some of the best and most real-time data on how the market is trending,” said Daren Blomquist, senior vice president at ATTOM Data Solutions.

“We’ve now seen three consecutive quarters with year-over-year decreases in home flips.”

Translation: Slowing appreciation – and even declines in some markets – gives buyers more leverage and improves affordability.

House flipping profits

The National Association of Realtors says existing home sales were down 5.1 percent as of October 2018. That’s a problem for flippers. Flipping tends to work best in rapidly rising markets. With the slow-down in many markets flipping has become more difficult and less profitable.

ATTOM says flipping profits are at their lowest point in more than six years but that doesn’t mean they’re unattractive. In the third quarter, says ATTOM, flipped homes sold for “an average of $63,000 more than what the home flipper purchased them for, down from an all-time high average gross flipping profit of $68,000 in the first quarter.”

House flipping finances

You can’t go into the house flipping business with a counted penny. Many flippers self-finance. Either they have money to put up or they get financing from friends, family, or investors. No less important, buyers may face financing restrictions when they go to purchase a flipped home.

Traditional lenders are elated to finance prime residences and second homes, but flipping is generally not on their menu. Flippers often stay away from traditional lenders because the lending process takes too long. Flippers need to act quickly, or competitors will snap up the hottest properties.

See current rates for investment property financing (Mar 22nd, 2019)

Private lenders

Flippers have traditionally been financed by “hard-money” lenders, what is now often called “private” lenders. Private financing is based primarily on asset values. Such financing is regarded as a commercial loan. That means the consumer protections associated with residential mortgages don’t apply.

In a typical private lender transaction, a flipper is likely to need 30 percent down. Even though big money is required up-front from investment borrowers, interest costs are steep when compared with residential financing. For instance, the interest rate can range from 8 to 13 percent.

Also, a flipper might pay 3 or 4 points at closing. Private loans have short terms, say one or two years. The effective cost of each point is far-greater than points paid with traditional 30-year residential mortgages.

The lender’s expectation is that flippers know what they’re doing and will quickly buy and re-sell investment property. If a flipper holds onto a property too long it may mean that the loan will need to be extended or refinanced. If that’s not possible, the property can be lost.

Leading private lenders have seen significant growth in the past few years as the real estate market recovered from the 2007 crash. They are also using big data and artificial intelligence to better underwrite investment financing and reduce risk. Some are also beginning to offer residential financing, such as FHA mortgages.

Related: Home flippers (states with the highest return on investment)

Flipping perceptions

Lenders and mortgage insurers often may worry that a flipped home is an inherently bad deal for borrowers. As HUD once explained, “A major example of predatory lending is property ‘flipping,’ the practice whereby a recently acquired property is resold for a considerable profit with an artificially inflated value, often abetted by a lender’s collusion with the appraiser. Most property flipping occurs within a matter of days after acquisition, and usually with only minor cosmetic improvements if any.”

The problem described by HUD is not actually flipping. No one objects to an investor who buys stocks today and sells tomorrow. No one complains if a buyer of stocks and bonds quickly makes a “considerable profit,” however that is defined. Collusion with an appraiser to establish a fake value is plainly a problem. That’s a matter which should be addressed by HUD.

But, still, the attitude toward flipping reflected by HUD persists, the assumption that flipped homes are automatically a bad deal. Done right, the result is a better home, a nicer neighborhood, and more property taxes for the local government. HUD should be in favor of such community improvements. Do it wrong, like anything else, and there are issues.

Flipped home financing

HUD today bans FHA financing to acquire investment property in which the buyer will not reside. It also limits the use of FHA-backed mortgages to purchase flipped homes. The basic rules look like this.

First, there’s no FHA financing if the property was purchased by the seller within the last 90 days.

Second, a second appraisal is required if the property is sold between 91 and 180 days following acquisition by the seller. A second appraisal is also required if the resale price is 100 percent or more above the price paid by the seller to acquire the property.

HUD rules state that if the second appraisal “is more than 5 percent lower than the value of the first appraisal, the lower value must be used” to establish the property’s value.

Lastly, the cost of the second appraisal may not be charged to the borrower.

The restrictions do not apply to non-profits or government agencies selling residential real estate. The time restrictions also do not apply in situations where a newly-inherited property is being sold by the heirs.

For additional information, speak first with local attorneys who specialize in real estate matters. Local brokers who specialize in investment real estate can also be a good information source.

Verify your new rate (Mar 22nd, 2019)