In a fix-and-flip project, the work scope has more purpose than being the basis for the contractor’s bid. Experienced investors know how to use the scope to support the lender’s underwriting and process the draw requests. The work progress can be tracked in real time, and the contractor will be kept on task.
As a hard-money lender in Los Angeles, I want the readers of this article to know the resources available to prepare a comprehensive work scope and to understand the lender’s expectations when qualifying a project for financing.
The Scope of Work
A comprehensive work scope is organized with separate line items for each task. Every line item should have columns for cost, materials, and the responsible party. The parties responsible for the tasks should be outsourced professionals and the investor.
The work scope must tie back to the proforma showing the projected monthly draws. As the project proceeds, there will certainly be delays and the proforma will not be exact. However, for underwriting purposes, a work scope that ties back to proforma gives the lender the comfort of an experienced investor and the confidence to predict the monthly draw amounts.
The Reasons for a Comprehensive Scope
A work scope that is well thought out and complete will enable the contractor to remain aligned with the investor’s expectations. The scope becomes an active guideline for the lender and the contractor to:
- provide support for the lender’s estimation of the after-repair value for its underwriting,
- illustrate the investor’s vision to the contractor, lender, and any co-investors,
- keep the project on track and on budget,
- manage and document the process, and
- serve as the basis for preparing and submitting the draw packages to the lender.
The quality of the contractor’s work and the lender’s competitive terms are the byproducts of the confidence shown in the investor.
The Resources for a Comprehensive Scope
No investor can prepare a complete scope of work without outside resources. These resources are the home inspector, and the Realtor experienced in the market area.
The best money spent on a fix-and-flip project is the fee for a professional home inspector. The budget and the proposed schedule prepared by the inspector are the basis of the scope when patent and latent defects become known. The repairs are necessary to meet code, repair damage, and create the most value.
A savvy investor will encourage the interactions between the inspector and the Realtor. The contractor will provide the actual costs of the scope, and the Realtor will determine the market value of the repairs.
The input of the inspector and the Realtor goes beyond the closing. To create the most value through the renovations, the investor must measure the created value against the cost.
The proposed work scope, budget, and market analysis of the after-repair value will determine whether the fix-and-flip project is feasible. All of this can be done during the due diligence period.
The Scope and the Private Lender
There are two considerations during a lender’s underwriting. The feasibility of the property achieving value after the renovations, and the likelihood that the investor can bring the project to fruition. The detail within the work scope is the first indication of an investor’s ability. The second indication is the support of the after-repair value by the market analysis and the appraisal.
When a lender processes draw requests, the work scope and the proforma will be the guiding documents. The lender’s projection for the draws was based on the proforma. Of course, there will be deviations. However, any delay or cost overrun should be easily and reasonably explained and not be in the extreme relative to the budget.
Any overruns must be covered by a line item for contingencies. Contingencies should be built into the construction contract, proforma, and budget. Any unused contingency funds can be rolled over for use in future draws.
An investor’s due diligence upon a property and its condition is only the first half of the fix-and-flip equation. The other half is the preparation of a complete scope of work, the pricing of the work, and the realistic value the market will support for the renovations. This second half is the process that creates the value and drives the profits.
Remember, the profits of the contractor, lender, and Realtor are fixed in their respective contracts. It is the investor’s profit that remains unknown until the property sells. Every investor’s goal in any fix-and-flip project is to create value greater than the cost.
The way to achieve this is to prepare a complete and comprehensive scope of work.
If you are a real estate investor looking for advice and guidance from a private lender regarding the expectations in a renovation scope, it is in your best interest to work with a reputable and experienced hard money lender in Los Angeles. PB Financial Group is a premier, direct hard-money and bridge lender that has provided quick funding since 2007 and closed over 2,700 loans. We aim to satisfy your financing needs efficiently.
For further information or to schedule a consultation please contact PB Financial Group at 877-770-3707 or visit www.CalHardMoney.com to learn more.
