DIY Bankrupt
In the age of reality TV, overnight '.com' entrepreneurs and the Kardashians we have been introduced to this short term concept of 'flipping for profit' or a renovation/sell property investment strategy. Which I, for the most part, am calling BS on!
Unless you are a builder or have an entourage of tradie mates that will work for cartons of beer, It's pretty hard to make any decent quid off such a process. I'm not saying it's impossible, I'm just saying that reality TV is reality TV. It's made to entertain and there is usually more to it, than what they show us.
Of course there are always exceptions to the rule, and the recent ""super cycle"" we have seen in the Sydney and Melbourne property markets over the last 5 years may have helped some mum and dad 'flippers' pull off SOME renovations successfully, but i'd like to layout why people should be cynical of these 'flipping' (pun intended!) reality TV shows and too good to be true stories of online DIY renovators.
Over the last 12 months, the number of failed attempts to 'flip for profit' I have observed in my role is mind boggling, with a large percentage of people actually losing money!
Lets run through an example of an investor I know:
She purchased a property for $500,000, spent $40,000 on a renovation and sold it for $590,000 8 months later. A tidy $50k profit right? WRONG!
Things you need to consider
Lets start with entry costs: When you purchase a property you will pay Stamp Duty. Stamp Duty is a entry tax you pay when purchasing any property in Australia.
You can work out your Stamp Duty costs here (http://stampduty.calculatorsaustralia.com.au)
For a $500,000 property purchase in NSW (assuming it's an investment property and you own your Principal Place Of Residence (PPOR)) you will be looking at approximately $18,000 in Stamp Duty.
You will also pay a conveyancing fee to conduct the paper work for settlement of the property. Lets use a figure of $800 for this example.
So after Stamp Duty and conveyencing, you are already nearly $20K behind the 8 Ball so to speak.
Purchase Price $500,000.
Entry cost $18,800.
Holding Costs:
From the date of settlement you will be paying off the home loan, and since you will be renovating, you won't have a tenant in the property to help with the repayments. For a $500,000 loan at an 80% LVR with an interest rate of 4% pa, on an interest only loan you will be paying $1,667 per month. Let's say your renovation is scheduled to take 3 months, plus another 4 months for marketing/selling and settlement, then that's a cost of $11,669 in repayments!! On top of the monthly repayments there will also be the initial loan set up fees.
Side note - The most preferred loan structure for this type investment deal would be an interest only loan. An interest only loan will minimise your monthly repayments.
Purchase Price $500,000.
plus Entry Cost $18,800.
plus Holding Cost $11,669.
Cost of Renovating:
When renovating you must understand what renovations will create the most value for your property, for smallest outlay (least money out of your pocket). This will depend on the type of property (unit/house/apartment etc), the target market (people who will buy it when you sell) and the demographics in the area of which your property is located. Over capitalising (spending too much on things, relative to the area and what the target market desires) is a trap for young players that I see often. The quality and extent of the renovations should be relative to the specific factors mentioned above.
For examples sake, my investor friend spent $40,000 renovating her property.
Purchase Price $500,000.
plus Entry Cost $18,800.
plus Holding Cost $11,669.
plus Reno Cost $40,000.
Exit Costs:
When you sell your 'flipper' there are also costs associated. Costs such as: agents fees (average of 2% of sale price) and Capital Gains Tax(CGT) which are often over looked. You can find out more about the complexities of applicable CGT here: https://www.ato.gov.au/General/property/property-development,-building-and-renovating/renovating-properties/
Now lets see how all this stacks up..
Purchase Price $500,000.
plus Entry Cost $18,800.
plus Holding Cost $11,669.
plus Reno Cost $40,000.
plus Selling Expenses (sale price of $590,000) $11,800
plus CGT/GST if applicable
Total Cost $582.269
Sale Price $590,000
Profit = $7,731
$7,731 is not enough money for the last 7 month of your time.
As mentioned above, over the past 5 years the Sydney and Melbourne property markets have been increasing at an unprecedented rate and many people have made money just by buying into these markets at the right time, let alone renovating, but this will not always be the case. I urge people to do their home work prior to deciding on 'flipping for profit' as an investment strategy. Other strategies such as buy and hold for growth or yield are worth considering!
Until next time, stay hungry people.
The above is general in nature and should not be taken as professional advice. We recommend that you see the advice of a tax professional prior any decision making.
