Transaction costs

Rehabbing, Fix and Flip, Rental Properties
1

Hello all - this is my first post in this forum.

I owned a couple of four-family buildings back in the 90s, but nothing since then except for my own house. I’ve been debating getting back into real estate, either to buy, fix, and flip, or to buy, fix and hold (as rental).

The fix and flip model is appealing to me in some ways, but I’ve always wondered a bit about the economics of it.

Specifically, there are a lot of transaction costs involved in buying, and later selling, a piece of property. There are agent commissions (~6%), title research/insurance, professional inspections, and finally, a level of due diligence by the buyer to make sure they don’t mess up in some way - the last is not a hard cost, but a time cost. Still, time costs money, effectively.

I’m omitting financing costs. I’m fortunate enough to have my own money and not to have to spend the time and money to procure bank financing, but I know that this is an additional cost for many investors.

All told, I’d ballpark the round-trip costs at about 10% of the property’s price. Now, of course, any property buyer (even the ultimate owner-occupant) will have transaction costs, but by being a middleman, I’m turning it from a single sale (foreclosing bank to owner-occupant) to a double sale (foreclosing bank to me to owner-occupant), thereby adding two times the transaction costs.

Given ~10% in transaction costs, it becomes much more difficult to find attractive deals - you have to recoup the transaction costs, PLUS the fixup costs, PLUS any profit you want.

How does this analysis strike you?

Is 10% a reasonable ballpark for this?

Do you pay a full 6% to agents?

Do you typically get professional inspectors, or do that yourself?

Do you buy title insurance, or do the title research yourself and ‘self-insure’?

Anything else I’m missing that could increase/decrease transaction costs?

2

Some of your questions depend on where you are. Local customs dictate who pays what is some areas.

As a buyer you are usually responsible for paying for:

  1. Inspection costs unless stated otherwise in the purchase agreement. For example, in California the seller usually has to pay for pest inspection. A home inspection usually costs about $250. The inspector should be a professional - in case of legal problems let the buyer sue the inspection company, not you.
  2. Title insurance for the lender - but if you have cash this is not a concern.
  3. One-half of the cost of the escrow company - in California it usually costs about $700 plus $1.00 per thousand of the sale price. About $1000 on a $300K purchase.
  4. A prorated amount of taxes paid - depends on the time of the year.
  5. A prorated amount of Home Owners Association fees - if the seller had paid in advance.
  6. A notary fee - if required - usually about $125
  7. A recording fee of about $150.
  8. A fee to the escrow company to prepare the deed, about $200.

There may be other fees but these are the main ones.

The seller has more fees than the buyer:

  1. Pest inspection - $85.
  2. Title insurance to the buyer’s lender. Depends on the purchase price but about $1500.
  3. Escrow company fees - same as the buyer.
  4. Recording fees - about $250.
  5. Notary fees - about $125.
  6. Home warrant insurance plan - if agreed to in the purchase contract - about $350.
  7. Commissions earned. This is the big one for most sellers. The average commission in the U.S. used to be 6% of the selling price. Many brokers will accept 5%. It is illegal in most areas to say that a commission must be a certain percentage. Commissions are worked out between the seller and the broker or agent. I would work with a figure of 5%.

It would not be a good idea to self-insure. You could never cover yourself in case of legal problems later on. In addition, lenders will demand title insurance.

We estimate that it costs about 7% - 8% to sell a property.

Hope this helps