Is flipping real estate illegal? This is an extremely misunderstood topic among beginners and experts alike. The legality of flipping real estate is swirling with myths and half truths and although I am not an attorney, I will lay out the facts that my experiences have taught me on the subject. (Disclaimer: I am not providing legal advice in this article and for such advice on any legal related issues, always consult a qualified attorney.). If you are (or are considering becoming) a creative real estate investor, read this article start to finish. You are probably going to hear things you have never heard before and this may go against the grain of what you may have read or heard in the past. Flipping real estate can be extremely profitable but the real estate industry is highly regulated and the participants involved can be quite litigious as well, so you need to understand what you are getting yourself into, (or what you are already actively participating in).
Some would argue that "arbitrage", or the process of buying at one price and then reselling at a higher price is Capitalism 101. Some would even goes so far as to say, not only is it legal, but it forms the basis of our economy! So surely it can't be illegal?
Legal pundits will hail the Constitutional right to the free alienation of property as the basis for why flipping real estate is legal. Whether you own the property or simply have a contract to purchase the property, in either case, you have an equitable interest in that real estate and therefore, you have supposedly have the constitutional right to resell that interest for a profit. But does this apply in all situations involving real estate?
Where Flipping Real Estate May Be Illegal
Despite your Constitutional rights, each individual state has laws pertaining to flipping real estate and some are not as favorable as others. Here are a few examples, although by no means an exhaustive and complete list:
- Washington State Law SBH 1843 / RCW 18.27 states that if a person or entity purchases a property and intends to rehab it and sell it for a profit and intends to resell that particular property within 12 months and, further, plans to spend more than $500 on rehabbing the property you, or your entity will need to be a licensed and bonded general contractor. Notice it didn't say you had to hire one, it says you have to BE one. Thankfully for Washingtonian investors, becoming a GC is quite easy and straight forward.
- Washington State Law RCW 61.34 stipulates that flipping a property purchased from someone who is behind on mortgage payments and facing foreclosure s considered equity skimming and therefore illegal. Although this particular law has more than one interpretation, the consensus among Washingtonian investors is to not engage in purchasing homes from people in foreclosure.
- Maryland State Law SB 761 prohibits those who are not licensed real estate agents, attorneys or mortgage brokers from engaging in transactions with people in foreclosure with a term they define as a foreclosure consultant. The consensus among non-licensed investors in Maryland is that flipping foreclosures is dicey at best, and many steer clear lest they be tarred with "foreclosure consultant" in a court of law.
These are but a few examples of when flipping real estate may be illegal. What others are out there? Please comment at the bottom on any examples from your state so we can all learn and benefit.
Flipping Real Estate Myths
The new level of freedom of speech proliferated by the internet these days has ushered in a whole lot of incorrect information. Here are some myths that have been distributed among real estate circles across this country that need to be cleared up.
- 90 Day Anti-Flipping Rule: This is NOT a law. This is an underwriting stipulation put in place by some mortgage companies and/or certain mortgage loans that require the seller of a property to have been the owner of record for a minimum of 90 days. FHA loans are notorious for this requirement. Even though the ban has been lifted, most mortgage companies that originate FHA purchase loans demand the seller be on title for at least 90 days. Thankfully for wise investors, this 90 day rule is not a big challenge because certain mortgage originators are not required to meet this stipulation. Despite what a mortgage broker may tell you, they are not all created equal and just because one mortgage person must meet the 90 day stipulation, doesn't mean they all must. Many, many investors have fallen victim to having their mortgage broker convince them that they MUST hold onto the property for 90 days before they can resell it. My heart goes out to any investor who was talked into such nonsense.
- Only Licensed Real Estate Agents Can Flip Properties: Every state has laws that describe what activities in real estate require a license to perform legally. Most are very encompassing and can be quite scary to read, especially if you are a brand new non-licensed investor looking into flipping real estate. Thankfully, most states have an exception to their licensing requirements that sound something like Alaska Sec. 08.88.900: Exceptions. A person who is not licensed under this chapter who manages or makes a real estate transaction with respect to real estate the person owns or is seeking to own so long as the compensation the person receives does not include any portion of the commission or other compensation paid to a real estate licensee in the transaction. This is an example of state law upholding your Constitutional right to the free alienation of property. However, as you learned in the previous section above, there may be situations, such as when a homeowner is in foreclosure, where you may need some sort of license to flip property.
In addition to the legal aspects, another hot topic is you may want to explore is, Is Wholesaling Real Estate Ethical?
Hopefully this article gave you some clarification and food for thought. But if you plan to flip property, it would be wise to consult a qualified, local, real estate attorney and ask him/her, "In what situations or scenarios is flipping real estate illegal?"