Real Estate Investing – Buy and Hold vs Flip

May 23rd, 2012 by keithandkinsey

There are a million different ways to invest in real estate; buy and hold rentals, flipping,
development, wholesaling, note buying, tax liens, just to name a few. The buy and hold rentals and fix and flip type investing seems to be the most common for beginning investors though. So, I’m going to focus on the comparison of those two types of investing. We’ll talk more about other types of investing in future blog posts.

Buy and Hold: The simplest form of buy and hold real estate investing is the purchase and rental of single family homes, duplexes or small apartments. The same concept applies to larger commercial properties as well. For more information on this type of real estate investment, see our previous blog; Build Wealth and Passive Income with Rental Properties.

The benefits to this type of investing are:

Cashflow – The difference between income and expenses is known as cashflow. You always want to make sure that cashflow is positive in order to sustain a long term investment. This will provide a little bit of income every month. Ask us for some guidance and our cashflow calculator spreadsheet if you need help analyzing a property.
Tax Savings – the tax code allows you to depreciate income properties. This can actually turn a property that makes a profit appear as a negative on your taxes, so you pay fewer taxes.
Equity Gain – You will gain equity over time simply from paying down your mortgage (which your tenants are paying). Real estate also tends to appreciate over time, and this will be another source of equity gain. I know we’ve seen dropping real estate prices lately, but I challenge you to find a market that hasn’t increased in value over a 15 year period of time.
Passive Income – A rental property provides a check in your mailbox every month with minimal labor. In my mind, this is the biggest advantage to the buy and hold strategy.

The negatives of buy and hold investing are:

Management – whether or not you manage the property yourself, you do have to make sure the property is being managed properly to keep that passive income stream coming. Poor management can send a rental on a downhill slide in a hurry.
Maintenance – No property is maintenance free. You’ll have to make sure everything stays in working order to provide a quality life for your tenants.
Tenants – Whether we like it or not, not all tenants are perfect. You’ve definitely got to have a good screening process and do your best to pick the good ones. Bad tenants can create some significant headaches.
Liability – You can be liable for injuries or damage on your properties. Just make sure you carry proper insurance and I highly recommend an umbrella insurance policy for added protection.

Flip: The goal of flipping is to buy a property at a bargain price and turn it around for a quick sale and profit. Most of the time this involves buying a property that may not be so appealing for a great deal, and doing improvements to that property to make it much more desirable to the average buyer.

The benefits to this type of investing are:

Quick Returns – If you do it right, you can get in and out in just a few months and make a quick profit. In order to do this, you’ll need to manage your budget and schedule properly (we have a flip calculator spreadsheet too if you need one), get improvements done fast, and price the property aggressively for a quick sale.
Large Chunks of Money – This method gives you the potential of earning a significant profit. Do your math to begin with to properly estimate your improvement expenses and holding costs. Also, make sure you buy the property for a steal of a deal in order to come out with a big profit.
Short Term Ownership – There’s no property management, tenants, or long term maintenance to deal with. Just get in, get out, and you’re done.

The negatives of buy and hold investing are:

Risk – This is a big negative. You have far more risk with this type of an investment. You never know what you’ll find that ends up being an added expense when fixing up a property. You put out a lot of money for the purchase and improvements up front, with no return until it sells (and that’s not even guaranteed). You’ve got to make sure you can pay your bills until the property sells. Many people find investors for the upfront money, and that can minimize their risk (minimizes profits too).
High transaction costs – With a rental, you just need a down payment. With a flip, you need a down payment, improvement costs, and money to cover your sale expenses (realtor fees, closing costs, etc).
Taxable gains – This type of investing does not have the tax breaks that rental properties do. You’ll have a significant tax bill for your profits.
It’s a Job – If you do the improvements yourself, you’ve essentially bought yourself a job. If you hire out the improvements, you need more profit margin and still need to hire and manage the contractors. A lot of people don’t factor in the time it takes to do a flip. So, make sure you’re making a decent hourly rate for your efforts. If you spend the better part of 3 months fixing up a property and end up with a $10,000 profit after all your bills and taxes are paid, you just made $20/hr. For many people you’re better off keeping your day job and not taking the risk.

In Summary, both types of investing can make great returns, and both types of investing have pros and cons. Flipping makes a quicker profit (or loss) with more work involved. Long term rentals are more of a slow, steady, passive and safe profit.

In my opinion, I like buy and hold rentals better. That’s probably because it fits my personality type better. I actually took a DiSC assessment recently, and it proved I’m not a big risk taker (especially with money). I’m of the belief slow and steady wins the race. Also, as busy as we are, I don’t really have the additional time that a flipping property requires. So, I lean towards the passive income that rental property brings. This is not to say flipping is bad, or I won’t ever flip a property. I’ve actually offered on several properties in attempts to flip in the past, and I just wasn’t able to get them for a good enough deal to work with my risk meter. Down the road when we are in a position to flip properties without borrowing to do so (eliminate the risk), I’ll probably give it another try.

Posted in Blog, Income Property, Real Estate