Many people are attracted to the idea of rehabbing a home or rental property in the city. They are either taken with the charm of a certain neighborhood or the historic character of a building. At the same time many people are paralyzed by fear of the unknown and the vast majority never take the first step toward buying a property or home to rehab. The first thing to someone needs to realize who is considering a rehab project is that you will need money. This sounds like a fairly obvious statement but in the past it was much easier to borrow money than it is now without having much skin, if any, in the game. With one exception, you will need 25% of the total cost of the project down if you want to borrow funds from a local bank. That one exception is for homebuyers who will be owner occupants. This option is called an FHA 203K loan and it requires only 3.5% of the total project down.
Read more about FHA 203K Loans Here.
The next thing to do if you are considering getting into a rehab project is to assemble a team of professionals you trust. You need a real estate agent and general contractor at the very least. If you know sub contractors that you trust introduce them to the general contractor you have chosen. Otherwise, the general contractor should have a contact for almost any kind of work that needs to be done in a building. His job is to be able to coordinate subcontractors of all different trades, negotiate prices with them, and manage them while they are working on the building. If you are doing a condo building find a good real estate attorney. If you plan on rehabbing lots of apartments talk to a property manager. Ask questions. The point of all this is to find out what these things will cost you. You are trying to come up with a budget and then create that budget for the worst case and most expensive scenario. If the numbers you project don’t make sense in the most expensive scenario it probably isn’t a good idea to take on the project because unforeseen things always arise.
The absolute number 1 rule to follow when undertaking a rehab project is DON’T OVERPAY ON THE PURCHASE. Not many people who get into a rehab project for the first time understand the gravity of this advice. You do not make your money on the quality of the rehab or getting the buyer to pay top dollar. You make a profit by buying the property right in the first place. Preferably you are buying the property for less than market price because it needs rehab or updating.
This is where the importance of finding a knowledgable realtor comes in. You have to know, within a certain range, what the property will sell for or be worth after the rehab is complete. A realtor who is familiar with the neighborhood and the level of finish the competition will have can be the difference between making a healthy profit and losing a good chunk of your savings. You then create your budget based on the after repair value and the profit that you have built in. In essence, you have to work backwards from this step to arrive at the amount you can spend on construction.
When it comes time to list the property for sale YOU CANNOT SELL IT BASED ON THE AMOUNT OF MONEY YOU HAVE INTO THE PROJECT. This is a surefire way to fail at investing. Buyers do not care how much you have into it. They and their realtor have access to the comparables. They are not going to pay more for your project than any other similar property. In fact, in today’s market you should never strive to be highest quality finish or highest dollar sale in your neighborhood. To be frank, you will be setting yourself up for a long wait before your see an offer.
The question everyone wants to know their first time around is how much the rehab is going to cost. Obviously this answer is going to vary widely from project to project but the short answer is this: For a high quality gut rehab where all the systems are replaced and updated it will cost about $70 to $80 per square foot of the building. Add in the acquisition and carrying costs and you’ll have the total project cost. In historic 
districts of the city these numbers can be offset by the use of historic tax credits that allow up to 20% of the project to be credited back to owner in the form of tax credits which can then be sold at a slight discount. These details are for another blog post, however. These numbers will also vary with the quality of work your contractor and his subs do. Also, if the project doesn’t need to be gutted the cost per square foot will go down significantly. If you are proficient enough at construction to do a lot of the work yourself the cost can come down as well. Remember, however, that time is money in this business. You may save yourself money up front doing work yourself, but if the project takes twice as long your carrying costs go up significantly. You could also miss out on another great deal or investment opportunity in this case.
In the coming days I’ll be posting about areas to keep in an eye on in regard to rehabbing. These will be areas that will be poised to make a big move as the real estate market stabilizes and have the potential to see more appreciation than the average neighborhood around St. Louis.
I love working with investors and rehabbers. If you need a referral for a general contractor, architect, subcontractors, real estate attorney, accountant, tax credit consultant, or any other service relating to rehabbing or real estate I’m happy to point you in the right direction.