As a recent home buyer in the Sioux City area, I may be bias on the risks. Finding a house under current market value that doesn’t require a significant amount of renovation seems as far fetched as my three year old’s imagination. Given every dollar of expenses to flip is crucial with today’s house prices, if you are flipping houses or considering below are a few key legal and business risks to consider.
First on my list is reviewing your contract rights when making an offer. I always advise at least a general inspection if not additional specific inspections. Mold and other damages may be outside the scope of a general inspection. Homeowners may honestly no know about water issues even if a new buyer uncovers what appears to have been an issue for years. The last thing you want in a tough price market is to uncover more expenses than you expected in your flipping that eats up any hope of a profit. In additional always review homeowners’ association documents prior to completing the sale. Covenants may include restrictions on purchasing for investment and/or leasing the property. While I appreciate the fast pace of the market today, take your time to review your contractual rights and inspect the property.
Second, know mortgage rules and regulations not only if you are borrowing for a house to flip but also for the next buyer of your property. The Federal Housing Administration’s (FHA) HUD-Anti-flipping Rule waiver on restricting FHA insured loans covering flipped houses owned less than 90 days expired at the end of 2014. If FHA borrowers are a large portion of your buyer market, this can pose a problem if you do not intend to carry the house for longer than 90 days. Also only owners of the house may sell and if the sale is between 91-180 days after you purchased to flip and the new sale price exceeds a threshold, you will be required to provide additional documentation to support the price increase. Other lenders may require a second appraisal if sold within six (6) months prior to approving a loan for your buyer. In addition, in regards to town home or condo homeowner’s associations, too many investment properties may jeopardize the association’s FHA approval eliminating the option for an FHA buyer too. These buyer safety rules and regulations add steps and time (aka risk) to the selling process.
A third area of legal risk is a little agency called the Internal Revenue Service (IRS). Seek Certified Public Accountant (CPA) advice to mitigate tax consequences of house flipping. There are numerous classifications impacting tax consequences such as, but not limited to, personal property vs investment; short term vs long term gains; and investment vs business or trade. Keep clear and accurate records especially when dealing with cash given limited account records through your financing institutions to recreate a transaction history.
Due diligence is key in any business transaction. House flipping is no exception. Take the time to review the property, legal, and business details thoroughly up front to save expensive consequences on the back end.