How a Fix-and-Flip Transaction Is Financed Step by Step
The fix-and-flip financing process follows a specific sequence that differs from a standard home purchase. The investor first identifies a target property, typically through MLS listings of distressed homes, wholesaler networks, direct mail campaigns, auction listings, or foreclosure databases. Once a property is identified, the investor performs a preliminary deal analysis: estimating the ARV based on comparable renovated sales, estimating the renovation cost based on the scope of needed work, and projecting the profit margin after all costs including financing.
With a viable deal identified, the investor submits the opportunity to one or more hard money or bridge lenders. The submission includes the property address, purchase price, estimated renovation budget with scope of work, projected ARV with comparable sales data, the borrower’s experience resume, and the planned exit strategy. The lender evaluates the submission and issues a preliminary approval or term sheet, typically within 1 to 3 business days.
The lender orders an appraisal or valuation that includes both the as-is value and the ARV. Once the valuation is complete and the lender is satisfied with the deal structure, a commitment letter is issued. The investor places the property under contract (if not already) and proceeds to closing. At closing, the lender funds the acquisition portion of the loan. The renovation portion is placed in escrow and released through the draw schedule as work progresses.
During the renovation phase, the investor manages the construction process: coordinating contractors, pulling permits, managing the budget, and requesting draws as phases are completed. Each draw requires lender inspection and approval. Once the renovation is complete, the investor either lists the property for sale or initiates the refinance process, depending on the planned exit strategy.
How After-Repair Value Is Determined
The ARV is the linchpin of fix-and-flip financing because it determines the maximum loan amount and, ultimately, the projected profit. The ARV is established through an appraisal or valuation that considers what the property will be worth after the planned renovations are complete. The appraiser identifies comparable sales (typically 3 to 6 properties) that are similar in size, location, age, and condition to the subject property in its post-renovation state.
Comparable sales should be recently renovated properties that sold within the past 3 to 6 months and are located within a reasonable proximity to the subject (typically within 1 mile in urban areas, wider in rural areas). The appraiser adjusts for differences in square footage, lot size, bedroom/bathroom count, garage, and finish quality. The resulting ARV represents the most probable selling price for the property after renovation, based on current market conditions.
Investors should independently verify the ARV before committing to a project. Running comparable sales analysis using MLS data, consulting with a local real estate agent experienced in the target neighborhood, and visiting recently sold comparable properties to assess finish quality are all prudent steps. Relying solely on the lender’s appraisal without independent verification introduces risk: if the ARV is inflated, the investor may overpay for the property or under-budget the renovation and end up with insufficient profit margin or a loss.
How Draw Schedules Are Structured and Managed
The draw schedule is established at loan closing and outlines the renovation phases, the dollar amount allocated to each phase, and the milestones that trigger each draw release. The borrower and lender agree on the schedule based on the scope of work document submitted during underwriting. Changes to the scope after closing may require lender approval and could affect the draw amounts.
When a renovation phase is complete, the borrower submits a draw request to the lender. This request typically includes photographs documenting the completed work, copies of contractor invoices, lien waivers from contractors and subcontractors confirming they have been paid for the work completed, and a brief description of the work performed. The lender sends a third-party inspector to the property to verify that the work described in the draw request has actually been completed and is consistent with the scope of work.
Upon satisfactory inspection, the lender releases the draw funds, typically within 3 to 7 business days. Some lenders are faster; others require additional review steps. The borrower should plan cash flow around the draw timing: contractors typically expect payment upon completion of each phase, and the draw reimbursement arrives several days later. Maintaining a cash reserve sufficient to bridge this gap for each phase is a practical necessity that first-time flippers sometimes overlook.
How Profit Margins Are Calculated
A complete profit analysis for a fix-and-flip project accounts for the following cost categories:
Acquisition costs: Purchase price, buyer’s closing costs (title search, title insurance, recording fees, attorney fees), appraisal fee, inspection fee (if performed).
Renovation costs: Materials, labor, permits, dumpster rental, staging (if included in renovation budget), and a contingency of 10-20% above the base estimate to cover scope changes and unforeseen conditions.
Financing costs: Origination fees (points), interest payments during the hold period (calculated as the annual rate divided by 12, multiplied by the loan balance, multiplied by the number of months held), draw inspection fees, extension fees (if the project runs long), and any lender processing or administration fees.
Holding costs: Property taxes (prorated for the hold period), property insurance (typically a builder’s risk or vacant property policy), utilities (water, electric, gas during renovation), HOA fees (if applicable), and lawn care or property maintenance.
Selling costs: Real estate agent commissions (typically 5-6% of the sale price), seller’s closing costs, title insurance (seller’s policy), transfer taxes or documentary stamps (varies by state), and any buyer concessions or credits negotiated during the sale.
The net profit equals the sale price minus all of the above cost categories. A project that appears profitable based on a simple purchase-price-to-ARV spread can become a loss once all costs are fully accounted for. Experienced investors maintain detailed spreadsheets that track every cost category from the initial deal analysis through project completion, updating projections as actual costs are incurred.
Related topics include hard money loans for real estate investors, cash-out refinance on investment property, and portfolio loans for real estate investors.