\n<\/p>\n
One <\/strong>real estate investing<\/strong><\/a> mistake cost house flipper James Dainard $380,000<\/strong>. This mistake was so bad that, in the long run, it may have cost him up to three-quarters of a million dollars. So what was the grave mistake <\/strong>a multi-decade veteran house flipper made that would bankrupt the average real estate investor? Stick around to find out unless you want your house <\/strong>to literally start falling off a cliff <\/strong>(like James\u2019 did).<\/p>\n James has been doing real estate deals in Seattle for two decades<\/strong>. He\u2019s flipped hundreds of houses<\/strong>, but even the experts get it wrong sometimes. Piggybacking from our last episode, James will walk through one of the worst house flips he\u2019s EVER done<\/strong>, the mistakes he could have easily avoided, and why you never, EVER close on a flip until <\/strong>you have permits in place.<\/p>\n David: Rob: David: Rob: James: David: James: Rob: James: David: James: Rob: James: David: James: Rob: James: Rob: James: Rob: James: Rob: James: Rob: James: Rob: James: Rob: James: Rob: James: David: James: Rob: James: David: James: David: James: David: \u00a0<\/p>\n<\/div>\n Help us reach new listeners on iTunes by leaving us a rating and review! It takes just 30 seconds and instructions can be found here<\/a>. Thanks! We really appreciate it!<\/p>\n Interested in learning more about today\u2019s sponsors or becoming a BiggerPockets partner yourself? Email <\/em>[email\u00a0protected]<\/span><\/em><\/a>.<\/em><\/p>\n Note By BiggerPockets:<\/b> These are opinions written by the author and do not necessarily represent the opinions of BiggerPockets.<\/p>\n
Welcome to the BiggerPockets Real Estate podcast. Today is the second of two episodes about deals gone wrong, shows where you hear from real estate pros about mistakes they made so that you don\u2019t have to, especially important in a challenging market like this one, where it\u2019s very hard to make those numbers work.<\/p>\n
Today, we\u2019re going to be diving right into a deal with our good friend, James Dainard, an expert investor and host of the BiggerPockets On The Market podcast. James calls this deal Humpty Dumpty because the property itself had a great fall, and it\u2019s also a deal where he happened to lose $380,000.<\/p>\n
And I\u2019ll say it again, being a strong real estate investor isn\u2019t about never losing money, because that\u2019s going to happen. It\u2019s about being prepared so that when you do lose money, you bounce back, have strong fundamentals, know how to react, and have a plan to get yourself back in the game. Let\u2019s get into it.<\/p>\n
So James, when did this deal happen and how experienced were you at the time?<\/p>\n
I would say I was very experienced. This deal happened in the last 24 months. I\u2019ve been investing since 2005. One thing I can tell you is if you invest for a long period of time, you\u2019re going to run into these deals more regularly than you want, but lots of practice before I got to this major loss. Mine was a $380,000 on my bank account loss. So it was not on paper. It was a real, real hit. And it was just a deal that we bought in 2019, and we finished it up in the worst time you could ever finish a deal in the last 10 years, in 2022, and it took a clip.<\/p>\n
All right, James, what kind of property was this?<\/p>\n
So it was just a single family, our bread and butter, single family fix-and-flip. It was a 2,000-square-foot house, major fixer, view property, great area, Seattle. But it\u2019s what we do on the regular, buy a house, renovate it, and sell it for some money. It just went the wrong way this time.<\/p>\n
How\u2019d you find it?<\/p>\n
We found it off-market. So this was actually a property that was listed on market for a couple different years, never sold. Sent out a mailing campaign, and the seller engaged with us, and we skirted it off-market, and we thought we got ourselves a home-run deal.<\/p>\n
All right. And how much did you pay for this house?<\/p>\n
So we paid $550,000 for it. And this is in a class A neighborhood of Seattle, and at the time, after the renovation, we felt very comfortable that we\u2019d be able to sell it for 1.1 million, so a huge, huge spread on this deal.<\/p>\n
Okay. And what was the plan for this flip? BRRRR? Live-in flip?<\/p>\n
So it was a very, very heavy value add fix-and-flip property. It was a two bedroom, one bath, 1,500-square-foot house that we were going to add another 700 square feet into the basement. We were taking it all the way down to stud, rebuilding the whole house. Everything was getting done. We had a renovation cost of about $250,000 allocated for it, which is about 125 bucks a foot, and that\u2019s pretty typical for us on that size renovation in Seattle.<\/p>\n
All right. And how far into this deal did you get before things went wrong?<\/p>\n
You know what? It took me about nine months before I realized how bad this deal was going to get, and the reason it took so long to know was in Seattle, part of these deals that can go really bad, it comes down to debt costs and it comes down to timing. Time kills all deals, whether you don\u2019t make a decision or you do. And so we had bought this property, and in Seattle, when you\u2019re doing a substantial renovation like that, you have to apply for permits, and these permits can take a long time before they get issued, which we had planned for, but we didn\u2019t even start working on this property until seven months after we had purchased it.<\/p>\n
Wow. So was it just sitting like vacant that entire time?<\/p>\n
It was sitting vacant. We went through, we did our asbestos removal, our abatement, and our demo, and so we pulled a demo permit and did a couple other little permit items that we could pull over the counter as we were waiting for plan review from the city. So yeah, it\u2019s a waiting game on these massive projects. You just kind of push it through, you can do what you can, and then you have to wait for that permit, which is not the fastest thing in a lot of metro markets.<\/p>\n
Right. And so it took about nine months to get that permit. That\u2019s when your deal started going wrong. And that\u2019s why the deal went wrong?<\/p>\n
Well, no. Then it started getting real wrong. So we got issued full building permits, engineered, we had it designed all by an architect, and we started getting into the framing on this house. So we had demoed it, and when we demoed it, we saw that there was some cracks and kind of sinking in the foundation that was a lot worse than we had thought. But I\u2019ve done countless amounts of projects where we are repairing structural walls, foundations, and so for us, we brought out our foundation contractor, our structural engineer, and as we started demoing and framing the house, the house started shifting dramatically and it literally fell over like the Leaning\u2026 Or maybe another nickname for this is Leaning Tower of Leschi, because that was the neighborhood that that was in. The house, all of a sudden, went sideways on top of the hill, and we had to rush in with our foundation specialists. We jacked the house back up, re-poured a foundation wall, and got it stable.
So it was kind of like we dodged a bullet. But what had happened is we had full building permits, but we did not have a permit to jack the house up and re-pour a foundation wall. Now, we could have added that in if we knew we needed to do that in the original, but that\u2019s a new permit at that point. So the neighbor was really concerned we were going to block the view when we jacked the house up. I met him there. I said, \u201cHey, just relax. It\u2019s going back down. We have full building permits.\u201d We went over the permits. He said, \u201cEverything\u2019s fine.\u201d But then 24 hours kicked in and he freaked out again, called the city, city came out. They said, \u201cThis is outside your scope of work for your permit. You need to go back in for plan review,\u201d which would\u2019ve took another 9 to 10 months to reissue this permit. So then we would\u2019ve been stuck on this house for 18 months, paying 12% interest in points to do the renovation.<\/p>\n
Dude, that\u2019s wild. Genuinely, I\u2019m not even kidding, my forehead hurts right now. Honestly, it\u2019s coincidental, because it\u2019s been hurting the last couple of days, but when you started telling me that, I was like, \u201cOw, it hurts.\u201d<\/p>\n
Yeah. The pain just began to start at that point, Rob.<\/p>\n
Oh, really, there\u2019s more?<\/p>\n
There\u2019s always more.<\/p>\n
Yeah, just get us through this quick. Rip the bandaid off.<\/p>\n
So then we decided, \u201cHey, we got to rip the bandaid for real,\u201d right? And we\u2019re looking at our pro forma, because anytime you\u2019re having a change in your plan, you need to reevaluate what you\u2019re doing. And so at this point, we looked at what we\u2019re doing. We knew we had to wait another nine months, we knew that the house value wasn\u2019t going to shoot up dramatically, and that nine months of cost is going to be right around $100,000 for that house. It\u2019s going to be about 80 grand. That was going to destroy our pro forma at that time, in addition to, we had an additional foundation cost. So we said, \u201cOkay, our plan doesn\u2019t look like it\u2019s going to work well. We want to get through this deal, but we want to go to highest and best use. That\u2019s what we\u2019re always tracking.\u201d
And so re-comp the property. We saw that new construction we\u2019re selling for the high-2 millions to $3 million range, and we were on a prime street with a view, and that\u2019s what sells, novelty sells. And so we decided, \u201cHey, if we got to wait nine months, then let\u2019s just re-permit a new house instead of the house.\u201d But we had already spent a hundred thousand dollars in jacking up this house, reframing it, siding it, windowing it, and roofing it, and so that was just dead cost. So our basis now went up by a hundred grand. We had nine months to sit there to get our first permit, and we had to wait another nine months. So this 550 purchase price just turned into about a 750 purchase price very, very quickly with debt costs and the money that we already spent on this property.
We get our permit, it gets issued, it takes us about 15 months to build this property, which is about three to four months longer than normal because we\u2019re on a nasty slope with bad dirt, and we had to spend a substantial amount of money putting in our foundation, which we had accounted for, and we built one of the most beautiful homes that you can see, this really cool northwest modern, rooftop deck, concrete finishes. It was beautiful. But when you build a beautiful product, sometimes it doesn\u2019t matter. And when we finally got to sell, we hit the worst possible market timing.
And the reason we missed the market timing is actually, let me take a step back. When we got the building permit issued after waiting 18 months, it was right in the rain season. You can\u2019t put foundations in a rainy hillside that\u2019s unstable during rain season, so we had to wait another four months before we could start the work. And because we had to wait that four months, it kicked the can down the road, and we listed right as interest rates started doubling rapidly, and our $3.1 million value got compressed by 15% very, very quickly because the market went into this quick free fall in Seattle, and we ended up selling it for 2.5 million. That\u2019s $600,000 less than the comps were nine months prior for when we evaluated it.
Once you racked out all the purchase price, the bill costs, the debt costs, it ended up being a $380,000 hit. And not only that, what makes my skin boil on this deal even more is we had like $350,000 just sitting there for three years, not only not making money, but losing money that time, and the velocity of money and time value of money was just shot at that point. So it\u2019s a $380,000 loss, but typically we make 20 to 30% on our money minimum for fix-and-flip on that point, so it\u2019s really like we lost 6 to $700,000 with the time value of money, the loss of opportunity, and the nasty hit we took in getting in the red out the door.<\/p>\n
Okay, so let me ask a clarifying question here. Were you all in on this deal at 2.9, and so you sold that 2.6, and that\u2019s how you lost your 380?<\/p>\n
Yes, yes. Because our debt costs, we had to hold cost this property for over 30 months. It\u2019s basically 30 months, start to finish, right?<\/p>\n
You said an 8 to 10% interest rate?<\/p>\n
Yeah, it ended up being\u2026 So for the first 15 months or 14 months, we had flip debt, which was 12%, two points. When we went to issue a new building permit, we actually got our debt cost down to 6 1\/2% with a new construction loan because we get really good friendly terms, but that\u2019s a floating rate when you\u2019re getting that kind of rate on a new construction.
So then in our pro forma, we had performed it all the way out at 6 1\/2%, but by the time we were building it, we were up to 10% because the rates had jumped so dramatically. And so it was like an average cost of blend on there, but yeah, we had at least 250 to $300,000 in debt costs. We had a build cost of around, it cost us on average, usually we build a house for about 300 to 300 bucks a foot start to finish in Seattle, but when you\u2019re on hillside, it costs a lot more, so we were about 400 bucks a foot for that build, which cost us about 1.25 on the build. So with all the debt costs, the build costs, and the cost of dirt and the waste of the renovation, we are into it for about, yeah, 2.6, 2.7 because we have about a 10% selling cost in Seattle.<\/p>\n
Wow. Okay. And so what did you learn, man? Because it seems like you learned a lot of things the hard way. Give us a couple of lessons from this deal.<\/p>\n
Well, you know, looking back, I don\u2019t know if we did anything wrong. We were using stats and facts to make our decisions, and sometimes it\u2019s just bad, bad market timing. What I would\u2019ve definitely done wrong, and this is what we\u2019re offering, especially on today\u2019s market, we have a flatter market, it\u2019s a little bit riskier, there\u2019s not as much upside in them, it\u2019s all about structuring your terms upfront right. So we knew going into this house that it was a nine-month permit with this owner. We should have offered to close on permits when our building permits were issued. We could have gave them large earnest money, we could have released it to them. That would\u2019ve saved us about 100 to $110,000 in debt cost during that time, in addition to I wouldn\u2019t have spent $100,000 on the renovation during that time as well.
And so it would\u2019ve saved at least $100,000 right there, in addition to, if we wouldn\u2019t have been in that deal and we got red-tagged and we had to put the foundation in, the $100,000 wouldn\u2019t affect the performance so much. We could have stayed with our original plan and we could have tooken that plan all the way through. It would\u2019ve probably still made us, even with the rates shooting up, $100,000 because that price point didn\u2019t shift as much as the higher end. Around a million to a million-three in Seattle, it only came down 5 to 8% rapidly when the rate started jumping. The higher end dropped a lot quicker. And so if we would\u2019ve stayed with our original plan, the loss of value would\u2019ve been a lot less, we would\u2019ve been in and out a lot quicker, and if we would\u2019ve closed on permits, we could have done that all, but we just couldn\u2019t absorb that debt cost.<\/p>\n
All right. So James, how has this deal helped you on future deals?<\/p>\n
Right now, what that told us was it was kind of the shift of\u2026 You know, every market\u2019s different. Every market shift is going to teach you a different lesson. And what this was was the indicator for us that we need to switch our whole business model up for the next 24 to 36 months because we were officially in a shift of a market, right? We went from a razor-hot, high-appreciating market to an instantly declining flat market really quickly. In a flat market, it\u2019s what it was in 2010 to 2014, you have to nail your construction plans and you have to stay inside that plan for you to make any money. There was no appreciation to save us. 2010 to 2014, it was execute the plan, make some money. If you don\u2019t, you\u2019re not going to make any.
And that was the sign that, hey, this is back to this market that we really got to get over, as we\u2019re writing our offers, really think about the plan, structure your offer around the plan, not just the pro forma and what price you\u2019re getting. And so it\u2019s a shift in how we do business. We are not closing any properties on long permits as of right now. Now, we would\u2019ve done it 36 months ago because the market was so red-hot and inventory was hard to find. You could factor in a little appreciation there and you knew it was going to rebound well. When you\u2019re going in a flat, you got to execute well. And so everything that we\u2019re closing on are long permits. Even this duplex I just bought recently, I closed with a long permit. They allowed me access beforehand. It allowed me to get cheaper financing. The cheaper debt and financing is making the deal a home run rather than a loser. So it\u2019s really about structure for the next 12 to 24 months.<\/p>\n
And you\u2019re not doing any long-term permitting stuff, you\u2019re saying, because, yeah, the market, you just can\u2019t really predict how crazy the market\u2019s going to get in the next year, and so it\u2019s just an overall risky play to have such a long timeline for some of these properties?<\/p>\n
We\u2019re still doing it. Right now, we probably have like $6 million in land that we\u2019re contracted on with long permit closes, but we\u2019re contracted and not close, so the risk is, A, we only have to put up a little bit of earnest money, give it to the seller. That\u2019s better than a down payment on a property. We get to keep our cash on hand right now as you\u2019re kind of weathering through storms through your business and growing different departments. In addition to, we don\u2019t have to rack that debt cost. Debt is expensive. There is no more 6, 7% hard money cost or lending costs. It\u2019s 9 to 10%. So we can avoid that interest rate spread. And so we\u2019re still doing them, but we\u2019re not closing until the permits are issued or we can start our work today. We don\u2019t want to start our work in nine months.<\/p>\n
That\u2019s good stuff. So James, to recap yours, it sounds like time was the killer. The period that you don\u2019t have any control over, when you\u2019re waiting on the city to come back or you\u2019re waiting on the weather to change, it was always something outside of your control that forced you to wait, where you just had to keep making those debt payments. And so what you learned about your deals was do as much as possible before the deal closes or structure this in a way that you limit your risk and your exposure to time that\u2019s going to cost you money. James, anything you want to add?<\/p>\n
Yeah. Like a $380,000 loss, that can be detrimental. That\u2019s a huge number on anybody. But the reason we could absorb that loss is because we had such a red-hot two years of flipping, where if we look at our three-year average of flipping properties, we absolutely crushed it. This was just how it ended, right? You can\u2019t time the market perfectly every time. But the reason we could take that $380,000 loss is because we take 10% of our profits and we stick them over in a bucket because we know that there\u2019s something coming at some point. Because even if you\u2019re a really good investor, I always say you\u2019re going to lose 1 out of 10. It\u2019s just going to go wrong. And so you want to have that cash aside. We had just done really well on flipping. We had cash over here. We could absorb it.
And then we also didn\u2019t let the fear of the loss trap us. Sometimes, like we could have refinanced this property and took a nasty loss every month trying to do a midterm rental, short-term rental, try to break even, but we wanted to get our cash back. Not only did we take the loss, we did get $200,000 of our own cash back to us, or 2 to 300,000. We put that money to work since taking that loss, and we have been making 30% returns on that money. We\u2019ve turned that deal now twice, so we\u2019ve already made back half of our loss in the last nine months by reinvesting it.
So don\u2019t get locked up, don\u2019t get afraid. You got to figure out how to rebound back out of it. If we would\u2019ve just been like, \u201cHey, this isn\u2019t for us right now,\u201d it would\u2019ve ended with a loss. Right now, we\u2019ve already made traction on it. I bet you by the end of the 2024 or by the first quarter of 2024, I will have that loss redeemed. And so you\u2019re going to take these as investors, but you\u2019ve got to reposition, you got to reinvest, and you got to regrow. Things go up and down. Make sure you get it back up again.<\/p>\n
All right.
Thank you to all of the bigger losers on the panel today. It takes some guts to get up here and share your Ls, but we all benefit when it happens, so thank you a lot. If you\u2019d like to get in touch with any of today\u2019s panelists, including Rob or I, head over to the show notes and you can get our contact information as well as our social media. You can also find Mindy on the BiggerPockets Money show or James On The Markets BiggerPockets podcast, so check those out as well.
Any last words before we let you guys get out of here?<\/p>\n
Always be buying. Just buy your way out of it if you get yourself in trouble.<\/p>\n
Thanks a lot, everybody. We\u2019ll see you on the next show.<\/p>\n