Tactics in place to deter buyers from flipping

Attempts to prevent investors from flipping have spread to this market as builders here have watched the deflating of the real-estate bubble hit new construction hard in areas such as Arizona, California and Florida.

Homebuilders in the Puget Sound area, including Polygon Northwest, Burnstead, Quadrant and RC Hedreen, are placing new emphasis on the "occupancy clause" common in many purchase-and-sales agreements, or other measures to deter investors from snapping up properties they don't plan to occupy then trying to sell them for marked-up prices.

Investors who attempt to slip into a newly built community with plans for a flip may face tougher screening by sales agents and lending partners and strict addendums drafted into sales contracts.

Depending upon different builders' policies, buyers who break the occupancy rules could face accusations of mortgage fraud, owe a builder all their profits from the quick resale of a property or face penalties of up to $25,000 for selling in the short-term.

"Builders are worrying in advance," says Paul Galasso, chairman of the Real Estate Association of Puget Sound (REAPS), a 1,175-member real-estate investors organization.

Builders dislike flippers for several reasons, says Kerry Bucklin, a real-estate attorney with Bucklin Evens on Mercer Island who has drafted contract language for condo builders concerned about flipping.

Flipping can hurt builders' bottom lines because flippers' homes, often bought during the "pre-sale" phase of a new-construction project can hit the market at the same time as builders' remaining unsold homes. It creates competition for the builders and comes from properties where sales were considered "done."

Builders dislike that flippers, in a volatile market, may walk away after locking up a property in pre-sale, losing their earnest money, but also leaving the builder with extra, unanticipated inventory.

Flipping also can create the appearance of demand for homes when, in reality, the houses are being sold to investors who have no intention of living in them.

"What if a developer finds out that 10 to 20 percent of his sales have gone to flippers?" Bucklin says. "He might lose a large percentage of buyers."

Lastly, builders say a community full of "For sale by owner" and "For rent" signs can be far harder to market than one in which the majority of homes are owner-occupied.

"Investors are an important part of the marketplace, but they shouldn't be the only part of the marketplace," says Dean Jones, principal at Realogics, a Seattle research firm that tracks multifamily housing.

Occupancy clauses

Eric Wells, president of Polygon Northwest, says his company trains its sales team to identify probable flippers. Polygon asks potential buyers to sign an occupancy clause, which confirms that buyers plan to occupy their property for at least 12 months after closing.

Buyers who signed the clause but later showed hints of an imminent flip — something that lenders or sales staff can often detect based on a buyer's loan structure — would face tough questions. Polygon, Wells says, can cancel a contract if a buyer claims owner-occupancy but appears to plan a flip.

"Generally speaking, as a seller, we're selling to owner-occupants," Wells says. "We have their initials by the box saying they're planning to live here. At that point [if the buyer tries to complete a purchase], we'd remind them they'd be committing fraud."

Wells said his staffers have never had to enforce cancellation of a contract, because most buyers who intend to flip, when questioned, voluntarily back out of their purchase.

Investor caps

Many condo builders in downtown Seattle are capping the percentage of investor-owned properties within their buildings at between 5 and 10 percent, or at the very most 15 percent, says Jones, the Realogics principal.

David Thyer, president of R.C. Hedreen Co., developer of the Olive 8 condominium complex, says he gave sales representatives he's hired from Williams Marketing a goal: Cap the number of units sold to investors within the 231-unit building at 5 percent.

"We've talked about this at length," Thyer said. "We did not explicitly write anything into our contracts to prevent these buyers [from purchasing]."

Thyer acknowledges that separating investor offers from those by owner-occupants can be difficult. While buyers who plan to become primary owners generally don't raise any flags, buyers who claim they are acquiring a second or third home could either be high-net-worth individuals with the resources to own a downtown pied-à-terre — or they could be investors in disguise.

Contract addendum

Leslie Williams, president of condo marketer Williams Marketing, says she's aware of at least five flips at Madison Tower. She says that at 2200 Westlake, as many as five of the 27 available units are for sale because flippers decided not to close on their purchases.

She also says that at Cristalla, a Belltown condo building where her firm has handled sales, many buyers who bought during the pre-sale phase sold shortly after the project was completed in 2006, realizing tremendous gains.

"There were people who made $50,000 to $100,000 after [paying sales-related] costs on their flips," she said of Cristalla.

Williams says she may recommend affixing an addendum to sales contracts stipulating that investors must return their entire profit on a home's sale if it takes place within a short-term time window, determined by the builder.

"What we're hoping is that with this addendum we'll weed them out," Williams says. Attorney Bucklin recommends that builders frame addendum language around the time frame when builders have completed sales, penalizing flippers whose sales are marketed or executed around the same time as the builder's.

He recommends asking flippers who fall into this category to return profits from their sale to builders. Lastly, he suggests that the addendum language include exceptions for people with legitimate reasons to sell, such as relocation or hardships such as medical or family emergencies.

"We're trying to keep as many flippers out as possible without hurting the good guys," he said.

Who do clauses protect?

Some argue that the discrepancy between who makes money — the builder or the investor — is hardly sympathy-inducing, as both parties are motivated by profiting from a marketplace where housing can be hard to find.

Some agents say buyers are aware of flipping and frequently inquire about it.

"A lot of my clients are shopping for a primary residence, and they feel better when they know there's a cap on investors," said Wendy Leung, an agent at John L. Scott Seattle-Lakeside who specializes in condos. "They check with me about this."

Galasso, the REAPS chairman, says he doesn't recommend flipping to investors and sees mostly novice investors doing deals.

Where they work, the money to be had by a flip is not always that substantial, especially by the time taxes and listing fees are paid. For a builder to charge a flipper or snag the investor's net profit, or threaten to, he says, is "pretty silly."

Galasso says he supports and understands builders' goal of capping investor purchases.

"If 50 percent of homes go over to investors, then that can create instability [for builders] with the entire building process," he said.

Galasso says that builders may want to think of new ways to work with investors.

He says he is investing in pre-construction property in Florida, and the builder from whom he is buying is waiving a $25,000 flipping fee in exchange for Galasso's making a higher down payment (20 percent) and agreeing, if he does sell near-term, to work with the builder's listing agents.