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Renovations
Irrespective of whether you're planning a minor repaint, or something more ambitious like a new second story, the intended outcome of a renovating investment is the same: buy, improve the value through upgrades or renovating improvements and then sell/refinance to access the additional equity.
An example...
Bill & Sally buy a property in Brisbane on the 5th November 2001 (on a 30 day settlement) for $172,800 from Mrs. Smith - a retired widow.
The property is a classic old-style Queenslander weatherboard, in a good location but quite dated and generally looking tired.
Mrs. Smith's property needs some immediate repairs: repainting (inside and out), the shocking 1970s orange style carpet (that's wearing badly) ripped up and also a few rotten floorboards replaced.
Bill and Sally have visions of polished floorboards, a new kitchen installed and a lovely picket fence erected at the front.
They secured 95% finance at a variable interest rate of 6.5% per annum with no early payment penalties.
With the exception of the external painting, Sally and Bill will do all the work part-time on weekends and after work. They estimate that it will take about six months to complete and no more than $20,000.
Well, the actual cost of the renovation was:
| Outside repaint | $7,000 | |
| Internal repaint (materials) | $1,200 | |
| Floorboards (hire equipment etc) | $2,000 | |
| New Kitchen (with appliances) | $9,000 | |
| Front fence | $800 | |
| Tip fees | $1,300 | |
| Landscaping | $1,000 | |
| General materials etc. | $850 | |
| Total | $23,150 |
Although Bill and Sally negotiated early access to the property to begin renovating, the project took longer to complete than was planned. It was on the 1st June 2002 that the property went up for auction.
While a lot of people looked through the renovated property and there was strong interest, on the day of the auction the bidding was dominated by two young families. When the auctioneer's hammer fell, one family was overjoyed having secured their family home for $229,550 with a 30 day settlement.
So how did the project work out for Bill and Sally?
| Purchase price | $172,800 | |
| Closing costs | $8,500 | |
| Renovation costs | $23,150 | |
| Loan Payments from 5th December 2001 to 1st July 2002 | $7,913 | |
| Auctioneers Fees & sale costs | $7,000 |
The profit (ignoring tax) that Bill and Sally would have made is (sales price - sale costs - loan payout) - (deposit + closing costs + renovation costs + loan repayments)
= ($59,971) - (48,203)
= $11,768
(Please note that an alternative option to selling the property would have been to retain it, have it revalued and then looked to redraw or refinance so to get access to the equity).
What are the critical success factors?
When buying a property to renovate, the critical success factors are:
Finding a renovation 'diamond in the rough'
The key is to find a property that is undervalued because it is cosmetically rather than structurally challenged.
So unless you're a builder, it's essential to get some specific advice to make sure that your target property isn't about to fall down around you when someone starts banging nails into walls.
Generally speaking, the more costly areas to fix are:
- Roof (leaks, rotting areas)
- Stumps (sloping floors and walls)
- Rewiring and replumbing (old circuitry and copper pipes)
- Shower recesses
- Pest (particularly white ant) damage
When buying a property that you plan to use under a renovation strategy it's a good idea to seek a long settlement period and then negotiate early access. This will allow you to begin renovating without having to pay the interest costs. You will need to provide some undertakings to the vendor though - such as taking responsibility for insurance.
Be very careful not to get caught up in the greed about the money you might make. Be sure to complete market research on what similar renovated properties in the same area would sell for at the time you buy.
The more you leave to chance the more uncertain your outcome will be.
Having a renovation system that keeps control of time and cost
The profit on many a renovation project has been sunk by project delays and cost overruns.
A great way to ensure this doesn't happen to you is to create a system for controlling the amount of time and money that you are going to invest.
This means having a cost budget, which has been preferably reviewed by someone who knows what they're doing, that outlines all the components that will comprise your renovation supported by written quotes.
Controlling your time can be done by mapping out all the phases of the renovation and then making sure that you have minimal rework or down time while you're waiting for tradespeople or sub contractors.
Leveraging your time and money
Ideally you'll avoid using your own time and money wherever possible. At first glance this might appear to bring down the returns, but having other people doing the work will allow you to complete multiple projects at once and will to make profits on many projects running at the same time.
This is how you can make and build an investing business.
Where to next?
-
Buyer Beware is an excellent resource that will help you to avoid
buying a property lemon. Find out how you can protect yourself with the
five templates that make the due diligence process easy!
-
Have you considered other positive cashflow strategies? These include Buy & Hold, Lease-Options, Wraps and Flips...
- Return to Property Investment Strategies introduction.
