What is Wholesale Real Estate?

“What is wholesale real estate?”

That’s a very easy question to answer. But first, I want to talk about why you care about that answer.

There are two universal truths in real estate:

  1. Location location location!
  2. You make your money when you buy.

I’ve never found the first rule to be very helpful besides the obvious of not buying where I’m likely to get shot, and no long-term plays on eroding waterfront (I may write some time about how I dodged that bullet). Even then, I think there’s still such a thing as a “right price” even in a wrong location.

The second rule, however, is one that is taken far too lightly among most investors that I know, and specifically the vast majority of buy-and-hold landlords. I hear stories of people competing to pay more than everyone else at the peak of a market just so they can get a break-even cash flow deal, or worse. These people don’t realize that they are LOSING money when they buy!

How can buying a house mean that I’ve lost money? I just got what I paid for!

Well… no, you didn’t.

If you got what you paid for, you’d be able to sell it the same day you close on it and end up with the same amount of money that you started with. Get it? Let me explain all the ways that you DON’T get what you paid for.

First, you likely found a property on the MLS. This means right away that there’s a seller who wants top dollar, and a Realtor making sure that everyone who will pay that top dollar hears about.

Second, if you’re in the London market right now you’ve probably just outbid fifteen other people. Why does that matter? Well, because YOU are the person who was willing to pay the most! So if you tried to sell it today the best offer that you’re going to get for it is the second highest bidder (if you’re lucky).

Third, you’ve just paid quite a bit of money to acquire this property above the purchase price. Land transfer tax, lawyer fees, home inspection, possibly an appraisal and mortgage instantiation fees. Plus you have utility hook-up fees, and whatever else is necessary to have the property showable after the previous owner moved out. Everyone wants a little piece while you’re acquiring that new “investment”.

Fourth, you are likely going to want to sell with a Realtor so that you, too, can create a feeding frenzy and get back that second-highest bidder. That guy that you just “beat out” by paying more than he would. That realtor is going to cost you 4% off the top.

Fifth, you’re going to have to wait to sell the property if you want top dollar. The highest bids usually have 60-90 day closing so the bidder can sell their own house. So you’ve got a quarter of a year’s worth of property taxes, natural gas (not just in the winter! There’s delivery fee in the summer, too!), electricity (again, they charge you even if you use NONE) and water (yep, they charge you for your vacant house, too). Oh, can’t forget insurance! And the bank needs a piece of that pie, too, so even if you have an open mortgage that you can break without fees you’re still out the interest charges.

So, how much are you going to get back at the end of this? If the market doesn’t do anything crazy, the cost of acquisition and sale is approximately 10% of the price of a house. That is to say that a house that you sell for $200,000 at top market value will net you $180,000 after buying and selling it again at top market value.

So now that you’ve just paid $200,000 for a house that’s really only worth $180,000 in your pocket what are you going to do? You plan to rent it out for $200/month positive cashflow? Great, it’ll only take 100 months to recover your initial loss at purchase! Awesome investment?

Okay, soooo…. what’s wholesale real estate?

So, that’s where a wholesaler comes in. Wholesalers are the people that make sure that you buy right. They scour the streets and their networks (no, not the MLS) to find REAL deals. Deals where there’s lots of opportunity to recover your money the day you buy it or better, put you in a positive equity position.

By definition, a wholesale price is below the net proceeds of retail sales. That applies whether it is a house, a car or a plunger at Home Depot.

That’s it. That’s what a wholesaler does for you. They find houses that are priced far enough below market value that you can sell the day you buy and still make a profit. There’s lots of noise about wholesalers selling dilapidated houses to flippers, or getting portfolios under contract and breaking them up. Yes, that’s all true, but those are just tools that a wholesaler can use to create value for the end-buyer to achieve the goal of not starting behind the 8-ball, 10% down on your profit margin. Always, and especially in a flip house situation, the wholesaler leaves some money on the table for you to make your margin.

But, why would a wholesaler bother to sell at a discount? Why not just sell it retail themselves, or flip it for huge gains?

Well, there’s a few different reasons why wholesale real estate makes sense.

First, finding deeply discounted deals is really tough work (I’m sure you’ve noticed). To do it enough to make steady profit requires running a marketing company. A wholesaler has to put a great deal of time and effort into finding deals. If he or she is unfocused and busy trying to raise capital, renovate houses, manage tenants and unclog toilets, there just won’t be enough time and energy left in the day to consistently find great deals.

Second, closing and reselling at full market value isn’t free, so all that extra effort and chaos is not being well rewarded. If the wholesaler is going to make a $5,000 spread on the $180,000 wholesale price, he’ll still have a $5,000 profit if he goes through the whole purchase and sale process that we discussed to sell it for $200,000!  (But at least he didn’t pay $200,000 in the first place like the retail buyer!)

Third, wholesale is very much about scalability, networking, finding the niche to serve and serving it with extreme focus. Realtors do ONE thing, they transact houses. Property managers do ONE thing, they manage properties. Flippers do one thing, they flip houses. Everyone does their part to help everyone else profit.

Making money is a team sport!

Which brings us to another point. How much does a wholesaler make?

The answer to that, in my opinion, is “As long as I, the end-buyer, make the margin that I want to make, I don’t care what anybody else makes.” I have personally paid a wholesaler $10,000 for a deal that I made $10,000 on. I did all the work of raising capital, managing the flip and disposition, and I risked my money and my reputation because the deal was a first-time joint venture with a money partner. The wholesaler was referred the deal by someone and just negotiated a great price and told me about it.

Was that really worth $10,000!?

I knew that with the price I was given I could make the money that I needed to make, and that’s all that matters.

That’s why it doesn’t matter how much the wholesaler makes. If I can pay $150,000 to make the returns that I want and the wholesaler has it under contract for $60,000 then I’m HAPPY that they just made $90,000 wholesale fee! I am happy because guess who they are calling first when the next deal hits?

This guy.

So, stop competing on the MLS to be the guy who gets to lose the most money on the buy. Start finding deals under market value. You can either do this by copying the tactics of some successful wholesalers, or by getting in touch with as many wholesalers as possible to build a strong relationship as a committed buyer.

Four-Letter Words… RRSP and BRRR

Grey St. London Ontario

This was a fantastic project that helped me to learn a lot about the business of home renovations. The big takeaway from this project was learning how my investor used RRSP funds to lend me a mortgage, just like a bank, and make an excellent return tax-free.

I also used an investment strategy called BRRR(R), which stands for Buy, Renovate, Rent, Refinance (and Repeat!). This is a powerful strategy that is used to preserve your capital while building equity in a rental portfolio, I’ll explain…

I discovered this house from  lead I received after offering cash rewards for any lead on a house that led to me purchasing it. My bird dog was happy to make some money and I was happy to have another deal locked up.

The owner of this house was a hoarder. She was ninety years old, living on her own and had already paid to downsize to an apartment the next week. There was a sixteen inch path to each of the rooms, but the house was otherwise full. The operation of getting this house market-ready was too much for her and the family, so she needed to be rid of the burden. I offered to take the house as-is in 14 days and turn her problem into my problem. She was relieved!

This house needed to be emptied out. Ten thousand pounds of garbage was hauled away in two fourteen-yard bins, a ten yard bin a twenty yard bin, and a couple extra trailer loads. Yes, ten thousand pounds. But when the mess was clear I was very happy with what I had bought! Built in 1882 this house was in need of major updating, but was generally well-built.  The plumbing and hydro were all modern and the attic had blown insulation.  No need to touch the renovated bathroom and the windows were all modern. There was a little slope to the floor, but otherwise this house was in good shape!

The floor was leveled up and the walls were patched and freshly painted “2017 House Flip Grey”. We installed subfloor, flooring, trim and interior doors. The interior was brightened up with LED lighting to show off the renovation. The kitchen was painted and new hardware installed to freshen it up. No more pale yellow flower patterned counter top.

A few other touches and we’re rent ready!

I listed the house for rent and I received quite a few calls as long as I paid to boost my Kijiji ad to a “Top Ad”. Pro tip: The ROI on “Top Ad” is astronomical. Pay for it until the lease is signed! That brings up a VERY critical topic in landlording: Tenant screening.

Tenant screening is, unarguably, the most important factor in profitably landlording in Ontario. I screen prospective tenants very hard. I take my property management role very seriously. The wrong tenant can cost tens of thousands of dollars and their marauding is fully supported by the system established by the Ontario  government. I’ll write about my 5-step screening method some other time.

Before I had the property rented I called my bank to have an appraiser out to refinance the house. This is the critical step in the BRRR(R) process. This is the make-or-break moment. This one’s for all the marbles, and by “all the marbles” I mean all of my invested money.

The goal of a BRRR(R) is to end up with a house with a 80% loan to value mortgage from an ‘A’ lender, having put $0 or less into the deal. Who says you need money to buy real estate?

The appraised value came back: $130,000!

So what does this mean? Why the exclamation point after that number? Well, here’s the math:

Purchase Price $84,000
Acquisition, Holding, Private Money and Refinance fees $18,000
Appraisal $130,000
80% Loan to Value Mortgage $104,000
Total Investment -$2,000

Wait what? Negative two thousand dollars to buy a house? That’s not 20% of anything. You can’t do that!

Watch me.

What’s the ROI on that? You can’t calculate the ROI on a negative investment. I’m getting R, but I didn’t pay any I. This is the most powerful concept that I am aware of in real estate. By buying right and adding value, you can finance all of your investment out, so you can do it all over again.

But that’s not the best part. The best part is that appraisals are generally lower than sales value. However, lets say my disposition cost brought me down to $130,000 in pocket. That still means that I’ve just created $28,000 in equity.

You make your money when you buy!

Read my article here on why you shouldn’t be shopping on the MLS with a Realtor.

What about the rental? After a month of vacancy due to the area not bringing the greatest of prospects (screen hard!) I found the right tenants and I’ve offered them a good product at a good price. I believe they are happy with the house and I’m happy with them!

I’m also happy with my cash-flow.

Rent $1095+utilities
Property Tax $105/mo
Insurance (approx) $55/mo
Water Heater $17/mo
Mortgage $470/mo
Cashflow $448/mo

Of course there’s an eventual furnace, roof, maintenance, vacancy, etc to subtract from that number (Read my article on why buying condos is not as bad as everyone thinks), but I’m still left with a long-run $200+/mo on a house that I paid -$2000 for.

Lessons Learned

What went wrong? I spent entirely too much time trying to find things that in that house that I could sell to salvage some value. Next time I’ll be far more heavy-handed with disposal. Time is money.

What went right? I learned that my laborer Shawn Sackaney is also a very skilled painter. Be sure to check out his website for any London painting needs you may have. It was such a refreshing change to employ someone who has my best interests at heart. When I was given that kind of effort and consideration, I felt guilty when the job was done because I hadn’t found another job for him to work on! I’m sure you’ll hear more about Shawn as we continue to work together.

What did I learn? Private lenders are amazing. You might hear 12% interest, plus 2% in fees up front, plus the legal and lending fees associated with the private loan and you may think that’s extortion. But if you set aside the emotion generated by numbers and realize that the deal still works, and without this lender there is no deal, then it becomes clear. It isn’t important how much someone else makes! What matters is that your deal makes sense to you.

 

Flipping Near Fanshawe College

Huron St. London, Ontario

My first house flip was located in London Ontario on Huron St two blocks north of Fanshawe College. This house was disgusting! But that’s how we like it! There’s a saying in house flipping that goes “Smells like money!” and boy did this place reek of it.

When I talk to people about flipping a house they tell me about their favorite TV stars who buy houses with a real estate agent in a suit and heels and pick out the latest in chic decor and tile. The reality of flipping houses is very different.

When I opened the dented and bent back door to walk in for the first time, the smell was thick in the hot June air. The carpet made squishing noises as I walked on it and flies buzzed around. This house was lived in by a tenant with obvious hoarding and drug problems. The walls were destroyed, the living room ceiling was open to the joists and the bathroom… I won’t even talk about the bathroom. THIS is how house flipping is supposed to look.

Demolition and Remediation

The first step was to trash-out the house. I sent in a crew to pull out everything that wasn’t salvageable. The appliances went to scrap, the trash was removed and the carpets were pulled up (one worker vomited in the yard when doing this). As we took all of this out I had to carefully package and safely dispose of filthy needles at the Middlesex London Health Unit Safe Disposal site.

Every inch of exposed subfloor was scrubbed with bleach, then three coats of Kilz primer to seal in any smell that might remain. The walls, baseboards and ceilings were scrubbed with TSP. Then the whole house was closed up and dosed with high concentration ozone for a couple days to kill hidden bacteria and smells. The kitchen looked salvageable, and it was, but after 16 hours of scrubbing I regretted even starting that job.

Renovation

Drywallers installed a new ceiling in the living room, patched nearly every wall in the house and mudded and taped to perfection. The living room ceiling was texturized and the house was ready for paint. My contractor sprayed and back-rolled the whole house with primer, a luxury of doing a major renovation like this. Then my favorite “2017 House Flip Grey” paint went up and the house was starting to look right again.

Between crews I ran the ozone machine to keep working that smell out of the house, but at this point things were looking (and smelling) pretty good!

New grey laminate and vinyl plank flooring, LED lighting and electrical face plates were installed. New doors where the old had been ripped off. New trim to replace pieces that were missing or not salvageable during cleanup.

At this point our hoarder needle junkie house was looking fresh and modern. Perfect for a starter home or Fanshawe rental!

My friend and Realtor Rick Buncick listed the house and it was firmed up shortly thereafter. Replacing a door as a condition of sale was our last task and the property closed!

Financial

This property was purchased in a simple joint venture and was a smooth success. The financial results were solid and this project proved a business model; a model that I’d like to repeat over and over! This was my first partnership outside of my first circle (friends and family), and my first equity-share deal.

In this joint venture I sourced a deal from a wholesaler (read about wholesale real estate) performed the operations and administration from beginning to end. In exchange, my cash investor partner provided funding for the project.

Contract Price:

($92,000)

Wholesale Fee:

($10,000) = ($102,000)

Renovation, Legal Fees, Taxes, Holding Costs:

($20,000) = ($122,000)

Sale Price:

$148,500

Profit after Dispositions

$21,600

Duration

127 days (4 months)

Investor’s Annualized Return on Investment

25% = ($21,600 / 2) / $122,000 x (365/127)

Lessons Learned

What’s the point of doing anything in life if you can’t learn from it?

To be honest this job went spectacularly considering it was my first flip. A 25% annualized return for my investor is nothing to sneeze at.

What went wrong? I spent too much time scrubbing that kitchen. I’m an investor, not a cleaner. I should have either replaced it with new, or hired out the job of scrubbing it.

What went right? I learned from previous mistakes and made sure this house flip project was quoted top to bottom with a payment plan based on stages of completion. No time and materials! I’m sure this saved me thousands of dollars and allowed me to call the contractor back three times to fix things that he surely would have left me high and dry with if I wasn’t holding his money.

What did I learn? It was a rewarding and humbling experience to put someone else’ profit ahead of my own. A person who I had never met face-to-face entrusted me with $122,000 of her money and I took that responsibility very seriously. I am proud to have used my knowledge and effort to reward that trust with a solid return.

Also, paying wholesalers is worth it! It was liberating to ignore the amount of money that my wholesaler made and focus instead on the potential profit of a deal that was being handed to me.

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