What Are the Steps to Rehabbing a House?
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Originally Posted On: https://www.dohardmoney.com/what-are-the-steps-to-rehabbing-a-house/
Unfortunately, HGTV fix & flip shows make rehabbing a house seem easy. But, rehabs can pose major challenges to investors. As a result, new investors often ask me: Ryan, what are the steps to rehabbing a house?
The rehab begins before you buy a property. Complete a property walkthrough with your contractor and develop an item-by-item scope of work with associated costs. Then, sign a services contract covering that entire scope of work. Once work begins, you supervise the completion of each line item.
I’ll cover the steps to rehabbing a house in more detail throughout this article. Specifically, I’ll dive into the below topics:
- An Overview of the House Rehab Process
- Rehab Step 0: Rehab Estimate and Place Property Under Contract
- Rehab Step 1: Develop Detailed Scope of Work
- Rehab Step 2: Sign a Services Contract
- Rehab Step 3: Renegotiate, Close, or Exit the Deal
- Rehab Step 4: Supervise Rehab Work
- Final Thoughts
An Overview of the House Rehab Process
As stated above, HGTV shows about flipping houses do a disservice to new real estate investors. According to these shows, you walk right into the perfect deal, spend a few days fixing it up, and sell it for a massive profit. Nothing could be further from the truth.
In the real world, the house rehab process begins well before you actually acquire a property. To complete a successful deal, you need to put in a ton of work on the front end. This up-front research and analysis ensures that, before you purchase a home, the numbers support a profitable deal.
As I’ll outline below, investors make or break a deal during this initial review period. Then, once they close on a property, the rehab process itself just becomes a matter of supervising your contractor and managing the project.
Rehab Step 0: Rehab Estimate and Place Property Under Contract
I list this as Step 0, because you’ll complete this work before you know whether or not you’ll pursue the deal. As you research potential deals, you’ll eventually find one that looks like a winner. At this point, you’ll estimate a rehab budget using rough numbers. It’s not critical here that the numbers be precise. Instead, your back-of-the-napkin rehab budget will let you know whether you should put the property under contract.
Of note, placing a property under contract doesn’t mean you need to purchase it. As long as you have a due diligence clause in the contract, you can exit the deal with your earnest money deposit, so long as it’s before this deadline. This is why the numbers don’t need to be precise—just a ballpark estimate to let you know whether the deal looks good.
Rehab Step 1: Develop Detailed Scope of Work
Once you’ve signed a contract, you’ll develop the detailed rehab budget numbers. I recommend doing this by walking the property with your general contractor (GC). As you walk the property together, you’ll talk about everything that needs to be completed during the rehab process. And, you need to document each one of these items (NOTE: I like to record these conversations on my phone, as I can use this as a reference when I’m building the below scope of work).
Once you’ve completed the walkthrough, you’ll document every single item in what’s known as a scope of work form. This form will include a line-by-line description of every task to be completed, the quality of the associated materials, and – eventually – the cost per item.
After you’ve added the tasks and materials to the scope of work form, you’ll meet with two contractors to have a pricing meeting. During these meetings, you’ll assign costs to each of the line items in the scope of work. The total cost for all of these items becomes your rehab budget. And, I recommend meeting with two contractors for pricing bids to solidify a primary and back-up contractor. This will give you flexibility during the rehab process in case one of the contractors A) doesn’t perform, or B) needs to back out for unforeseen circumstances.
Additionally, meeting with two contractors confirms you’re fair market pricing the project. You don’t want one contractor to significantly underbid and then nickel and dime you throughout the rehab. By getting two bids, you’ll have a clear sense of market pricing.
Once you confirm pricing, both you and the primary contractor will sign the scope of work form. That way, if you have any discrepancies in the future, this form will serve as the final arbiter.
Rehab Step 2: Sign a Services Contract
With a scope of work form signed, you now need to sign a services contract with your GC. This contract outlines exactly how the GC will complete all of the items on the scope of work form. As a rule of thumb, I assume that, for every $1,000 of rehab budget, a contractor will need one day of work. So, a $50,000 rehab should take 50 days to complete, and then I add a 10-day buffer for standard friction (e.g. permitting delays, weather issues, etc.).
Additionally, I recommend dividing the scope of work items into key milestones. Typically, I’ll look at the project and create 25%, 50%, 75% and 100% milestones. This helps ensure the project progresses on schedule. And, in terms of payments, I will only pay a contractor for a scope of work item when that item is 100% finished. This keeps GCs on task, as they know they’ll only get paid when they’ve completed an item to standard.
Of note, all of this occurs before you purchase the home.
Rehab Step 3: Renegotiate, Close, or Exit the Deal
With a services contract and scope of work signed, you now have a detailed and accurate rehab budget. Armed with this information, you can decide whether your original contract price makes sense. If it does, close on the purchase.
Sometimes, though, your detailed final budget comes in higher than your initial estimate. When this happens, the contract price may no longer make sense. In these situations, you can bring the final contractor bids to the seller, using them as leverage to negotiate a reduction in purchase price. Most motivated sellers will work with you and adjust the selling price. If not, you can still walk away from the deal with your earnest money, so long as you meet the due diligence period deadline.
Rehab Step 4: Supervise Rehab Work
Once you close on the purchase, the rehab work begins. I recommend that you go to the property at least once a week, as you’ll want to make sure that the work is progressing as scheduled. At these weekly meetings, I’ll walk the property with the GC and always ask two questions:
- What did you do last week, by scope of work line item?
- What are you doing this week, by scope of work line item?
These questions A) let you track the progress and make sure you hit milestones, and B) let you submit loan draw requests to pay your GC accordingly.
Occasionally, a contractor falls significantly behind schedule. When this happens, I’ll hold a status of rehab work meeting. In this meeting, we’ll discuss a plan for the contractor to catch back up on the work. If not possible, I will bring in the back-up contractor to finish the work. However, I will definitely provide some time liberties if a delay is documented by third parties (e.g. a city delaying permit issuance).
Even after outlining the above, I know that rehabbing a house can overwhelm new investors. To help, Do Hard Money provides project management (PM) mentors to our investors. These PMs will guide you through the entire rehab process – from initial estimates to scope of work to completed rehab.
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