Property flipping may carry a higher risk now

Renovating property for a quick flip might be a risky strategy in the changing market.

Flipping risks are now more elevated

Property flipping has often been an effective strategy for experienced property investors, who have successfully timed the purchase, renovation, and sale of their property assets. However, property flipping in softer market conditions can be very challenging.

On top of the cost of renovating, there are always going to be transaction costs involved in the quick purchase, renovation, and resale of a property, including stamp duties, legal fees, and capital gains taxes.

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Now there are two more factors which make life tougher for property flippers. Firstly, as interest rates rise there is less certainty about the market outlook, and a renovator could find themselves selling into softer market conditions. The generic market capital gains may not be there to carry a project through to profitability.

The second factor is that construction costs are presently very high, so there’s also a tangible risk for over-capitalisation if property market participants don’t budget carefully.

Figures form the ABS showed that the prices of timber and steel have rocketed about 50 per cent higher, while a range of other materials and services have seen the average cost of construction of a new home up by 20 per cent from last year.

Obviously, projects need to be assessed on a case-by-case basis but overlapping supply shocks have made access to construction materials at a reasonable cost less dependable, while in many areas of the country there is a shortage of available tradies, which needs to be factored in as a contingency to any proposed renovation budget.

Cooling market adds risk

A stylised example underscores the challenges facing flippers in the current market conditions.

In 2021, purchasing a property price for $600,000, adding $120,000 of value with a $60,000 renovation, and factoring in a property market increase by 20 per cent, could lead to a profitable sales price of $840,000.

Even after accounting conservatively for 7-8 per cent transaction costs, there’s a still generous profit to made is such a deal in a brief period of time.

However, you can also easily see how a reduction in market values of, say, 10 per cent, could leave an investor undertaking a flipping project in a precarious or loss-making position, particularly if there were unforeseen cost overruns due to materials or trades shortages.

Sticky prices and the ‘missing middle’

Construction and materials costs can be ‘sticky’, so renovators and developers should assume that elevated construction and trades costs could persist for some time, even if global supply chain issues are resolved this year.

Renovators and developers should assume that elevated construction and trades costs could persist for some tim

Geopolitical events are unpredictable, and supply chains may right themselves in time, but demand for materials and construction services remains relatively high for the time being, so there’s every reason to expect costs to remain high for some time.

Property market conditions are quite varied around the country.

Sydney and Melbourne are the most expensive markets, where households may have larger mortgages, and rising fixed mortgage rates have already dampened sentiment in some parts of the market. Some other markets such as Adelaide and a range of regional markets still have solid momentum.

Renovator and flippers need to factor in the outlook for the local market they are operating in, to effectively manage project risks. If you aren’t confident about your ability to flip property, think longer term.

There’s a looming undersupply of family-appropriate dwellings in the middle-ring suburbs of many of the capital cities, and there are plenty of prospects for growth in rents and property prices in these landlocked areas over the coming decade.

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