First, I don’t want you to get the wrong impression. I do not disagree with the general premise of the author whose writings I am about to discuss. Over the long term, it is far better to buy and hold real estate than it is to flip for a quick profit.

My problem with this guy and his writings is it is just wrong and if anyone followed the pattern he advises they would find themselves in a very difficult situation. But, I am jumping ahead of myself.

A little background, recently on a forum site I frequent, an article written by someone claiming some interesting and diverse experience. Never mind the fact someone looked into some of the claims and can’t verify them, that is not the point of this discussion. I want to talk specifically about what he wrote in his article, not what he claims on his resume because that is an exercise best left to the student.

Anyway, in an article on flipping verses holding he writes…

THE flippers methods are easy to understand. He/she usually; finds a property From one of many sources, that is available at 10-50% below FMV, or, fair market value. This flipper gets that property UNDER control by writing a contract on it. WHLE it might make no sense to those not familiar with real estate, anyone can write a real estate Contract and give it to a seller. Perhaps it takes 100 contracts to get one seller to accept But that is the method. Twenty five years ago, I did that to get control but I kept the properties and lived in them or managed them and sold them later. A seller can accept anything they wish to accept. Some sellers care who the buyer or contract writer is And some sellers DO NOT CARE.

AFTER the flipper finds house that is thought to be for sale below market [10-50%] And gets it under contract [some UNLICENSED flippers instead, only know of such properties and make separate contracts with future buyers that obligate the buyer to pay them for the info if the buyer buys. This is illegal!]

The finder of the house, the contract holder, must now do two things
A; find the best price to re-sell at and
B; find a buyer for the property.

Since the wholesaler sells the property below fair market value, the difference is what is going to the buyer. Thus, the buyer of a flipped property gets instant equity.

Presuming in my math that the finder wants 10% for himself and is offering a house At 25% below market [that is available to the flipper at 35% below], the flipper Sells the house at no cost to himself and grosses 10% of the price he sells it at.

The $200k house fmv is available for a 35% discount, or 200-70k=130k and sold to the new buyer for 10%, usually of the purchase price so 130 + 13k = 146k

The buyer nets 54k in equity while the flipper nets 13k The flipper flips 2 houses a year, thus netting 26k, not counting his mini expenses of Phone, faxes, and gas. We will ignore those.

In 1 yrs, he has 26kB
In 2 yrs, he has 52
In 3 yrs, he has 78k
In 4 yrs, he has 104
In 5 yrs, he has 130k

Now, let’s see what the other guy can net if he keeps his properties he finds.

He has escrow and perhaps transportation expenses and points to pay, so he has a true cost of perhaps 3k costs to add to his 130k purchase price, so he pays 133k.

HE immediately re-fi’s the property, getting a 90% ltv of value loan, or 180k loan [180k is 90% of 200k]

he has cash out of [180-133k=] 47k IF he puts tenants into the property, that is gravy

1st yr, 47k
2 yr, 47k
3 yr 47k
4th yr 47k
5th yr 47k
and he re-fi’s the first two props again and pulls out another 47k
he has 47×6= 282k
282k vs 130k and #2 buyer can re-fi every 3 yrs indefinitely for another 47k, tax free.

If he is smart, the 2nd buyer will buy biz’s or notes and NOT use his cash for more RE purchases. Why? Cause he can earn 25% on his cash from the RE while his RE loans only cost him 7% max!

Looks pretty good, doesn’t it? It looks like the one holding the property makes out like a bandit! But, let’s dig a little deeper into some of this advice and claims.

Now, let’s see what the other guy can net if he keeps his properties he finds.

He has escrow and perhaps transportation expenses and points to pay, so he has a true cost of perhaps 3k costs to add to his 130k purchase price, so he pays 133k.

HE immediately re-fi’s the property, getting a 90% ltv of value loan, or 180k loan [180k is 90% of 200k]

he has cash out of [180-133k=] 47k IF he puts tenants into the property, that is gravy

First, he “forgets” to mention that most properties sold at a discount need some repairs. Sometimes major renovations! So, some of that $47K is eaten up by that.

Next, he “forgets” to mention the carrying costs while you get the house cleaned up, ready to rent and find a tenant.

Then he “forgets” to mention the rent is probably not going to cover the mortgage payment and interest and PMI. Yes, you will pay PMI on a 90% loan, if you go the private lender route it will be at a higher interest rate.

Then he “forgets” to mention the reserves you should be accruing for repairs, maintenance and vacancies.

But, it gets better.

1st yr, 47k
2 yr, 47k
3 yr 47k
4th yr 47k
5th yr 47k
and he re-fi’s the first two props again and pulls out another 47k

So, you buy and refi a house a year for five years. Then you go back and refi the first in the sixth year.

So, the house has to appreciate between $45K and $50K in less than five years.

Then the payments are higher and rents still won’t cover the costs.

And, after five years you are going to have some repair and maintenance costs.

he has 47×6= 282k
282k vs 130k and #2 buyer can re-fi every 3 yrs indefinitely for another 47k, tax free.

He obviously doesn’t understand the time value of money or he wouldn’t make those kinds of statements.

But, the most troubling aspect of it all is his “tax free” part. It is just a lie, at best it is tax deferred but the strategy he proposes isn’t even that.

If he converts ANY of that money from refinancing an income producing property to personal use he triggers a taxable event in one of two ways.

If the houses are owned by one or more entities, the only way to take money out is as a repayment of a loan he made to the entity, as income or as profits. If he is taking a repayment, he is just getting his own money back and sooner or later the debt from the entity to him will be paid in full. If it is income as an employee or profit, taxes must be paid.

If he owns them in his own name, then he will be hit with limitations on deductibility of the interest and other passive losses on Schedule E and self employment taxes on the converted income.

It would be great if it worked the way he wishes because then everyone who owns rentals could refinance them to the hilt and let the tenants pay for their Hummers and other fun toys.

Before you attempt what this guy recommends, get some competent advice from a professional.

I seriously doubt he has followed his own suggestions.