The goal of many investors is to find a “fixer-upper” property because they’re usually cheaper and you can start to add value the moment you begin to remodel.
Investors and buyers alike are increasingly seeking fixer-upper properties because our market is in a somewhat stubborn phase – prices are at record highs and the Federal Reserve is not helping with the easing of mortgage costs.
Recent data from the aggregator realtor.com shows fixer-uppers receive 52% more views than listings of comparable homes in good condition.
The search term, “fixer-upper”, has tripled in use since 2021. Realtor.com says it’s “easy to see why” buyers and investors have this focus. The average fixer-upper is priced at around $200,000, whereas the median value of a good home is $436,000.
If you’re an investor, what should you be thinking when considering the purchase of a fixer-upper?
Is it a smart play to send in the contractors, smarten the place up and sell quickly – a strategy known as flipping? Or, should you hold the property, rent it and look for capital gain down the track when mortgage costs fall and values rise?
Flipping: The Pros
Quick ROI: You can realize a significant profit in a matter of months, freeing your capital faster for the next project. A successful flip can yield a substantial one-time profit that often exceeds a single year’s rental income.
No landlord responsibilities: Once the property is sold, your involvement ends. You avoid the long-term headaches of tenant screening, rent collection and ongoing maintenance.
The Cons
High tax – Profits are generally taxed as ordinary income, which is usually subject to a much higher federal tax rate (up to 37%) than long-term capital gains tax.
Capital risk – The strategy requires significant upfront capital for the purchase and renovations. You could lose money on the deal, especially if you get your cost estimates wrong, or the property has bigger problems than you realized.
Carrying costs – Every day that the property sits unsold will cost you money in mortgage payments, utilities, taxes and insurance.
Renting: The Pros
Cash flow – You generate consistent monthly income from rent payments, which can increase over time in line with market demand or inflation.
Wealth building – Your equity grows through two main drivers: capital appreciation of the property (in other words, the value increases) and through paying down the mortgage with the rental income.
Tax benefits – Rental properties offer major tax benefits, including depreciation and immediate deduction of expenses, such as mortgage interest costs, property taxes and maintenance.
The Cons
Slow ROI – It takes years to recoup your initial investment and build substantial wealth.
Landlord responsibilities – Even if you hire a property manager, you still bear the ultimate responsibility.
Vacancy cost – An empty unit generates no income, and unexpected repairs can quickly erase months of profit.
Tied-up capital – Your initial investment (down payment and renovation costs) is tied up for the long term and cannot be accessed until you sell or refinance.
Legal issues – Dealing with difficult tenants, evictions and changing local landlord-tenant laws can be stressful and time-consuming even if you use a property manager.
The content provided here is strictly for informational and educational purposes and does not constitute personalized financial, investment, legal or tax advice.