Every so often I get questions about loan cosigners. The main borrowers do not qualify on their own, so they get someone – most often mom and dad – to cosign. Now this is a different thing, or so I understand, in the other major credit areas – automobiles, rent, etcetera. But this is about Real Estate.
The only time this usually makes a difference is in credit history. The main borrowers qualify on the basis of income, but don’t have enough of a credit history to qualify. Sometimes they just don’t have enough open credit to have a credit score. This is rare, but I did have one executive couple who made a habit of paying cash for everything (a good habit, I might add). They had precisely one open line of credit, a credit card they paid off every month, and the major bureaus require two lines in order to report a credit score. No credit score, no loan. It’s that simple. Even there, the solution was to walk in to their credit union and apply for another, not to get a cosigner.
When you bring other folks into the loan, you’re bringing their credit history, their potentially high payments, and every other negative they have into the loan. Most of the time, the folks who are willing to cosign do not materially aid the qualification process.
Pitfall number one: If the cosigners make more money than the “real” borrowers, they now become the primary borrower, and it becomes a loan on investment property as far as the lenders are concerned, adding restrictions, raising the trade-off between rate and costs of the loan, and perhaps making the loan require a larger down payment. This does assume they won’t live there, but usually if they were going to live there, they would have been on the loan in the first place.
Pitfall number two: The cosigners are overextended also. Sure, they make $10,000 per month, but they have payments of $5000 per month already. There’s nothing left over where the bank sees them as having enough money left over to help you out. They may, in fact, have money to spare, particularly if they make a lot of money, but according to the standard ratios, they do not. You can’t have the cosigners be stated income or NINA if the main borrowers are full documentation. If you have to downgrade to stated income in order to qualify, that is going to cost a lot of money through higher rate/cost trade-off. Obviously, better that you qualify for a lesser loan than that you don’t qualify at all, but you don’t want to downgrade if you don’t have to.
Pitfall number three: This one hits the cosigners. They are agreeing to be responsible for your payments in the event you don’t make them. Suppose they want to borrow money for something else. Especially if it’s a large amount of money, as real estate payments tend to be. It really cramps their ability to qualify for other things. This works the other way, also. People come to me for real estate loans who have agreed to be cosigners for a car loan are responsible for the $400 per month for that loan. Many times, this means they don’t qualify for the real estate loan. So we have to prove to their prospective lenders that the “true” borrowers are making the payments. This is usually not difficult, but if the cosigners wrote the check for the payment anytime in the last six months to a year, it can be problematic.
Pitfall number four: This also hits the cosigners rather than the main borrowers. Suppose a payment gets made late. It impacts the credit of the cosigners as well as the “real” borrowers. It doesn’t matter if you’re the “real” borrower or the cosigner, it hurts your credit just as much and for just as long. If you cosign, you want some kind of proof that payment is being made on time, every month. You shouldn’t cosign if you don’t have the resources to make that payment pretty much indefinitely. Furthermore, should the cosigners decide to cut their losses, it can take months before the monthly hits to the credit stop. If the “real” borrowers don’t want to liquidate, the cosigners may have to go to court to get out of it, and the only people who are happy there are the lawyers.
Now suppose the loan being applied for has a Debt to Income Ratio maximum of forty five percent, and the cosigners make $10,000 per month, but they have debt expenses of $4300. This will mean that they only have $200 per month to contribute towards qualifying for the new loan. If the “real” borrowers weren’t fairly close to qualifying without them, they aren’t going to qualify with them. If they have expenses of $4600 per month, they have nothing to contribute to the loan qualification. In such cases, the work of asking them to apply is wasted.
Caveat Emptor
Some Free Loan Advice About Real Estate Transactions
Most days I get loan wholesalers coming into my office. I’m always happy to talk with them, providing they want to talk about what I want to talk about. They usually want to talk about this gimmick and that gimmick and the other gimmick. They feed me lines about service and fast turn around and quick approvals and loan commitments. Ladies and gentlemen, these are all things that every lender should be capable of, and if someone hoses one of my clients, I’m no longer interested in doing business with them. Now, everybody makes mistakes, it’s how they deal with mistakes that I am interested in. I’m very forgiving if they make their mistake good, completely unforgiving if they do not.
What I want to talk about is two things. The first is loan programs nobody else has, or that nobody else has in that category. Suppose a lender has a program to deal with people in default just like everyone else with only a small penalty. I’m all ears, and I make certain that goes into my database. I expect the rates for the underlying program to be higher, but that’s cool. I’ll price loans with them anyway, and if they’re the best I can do for the client, I’ll use them. Next time I have somebody in default, though, they get my first call, because they’ve got something nobody else does, or very few do.
The second thing I want to talk about is price. A loan with given terms is the same loan no matter who is carrying it. So long as they are both legal, my client sees no difference between National Well-Known Megabank and Unknown Lender from Nowhere. The loan is the same. If the rate is the same, what’s important to my client is how much they have to pay in order to get it. This comes back to The Trade-off Between Rate and Cost. If one lender’s par pricing is a little bit lower, I can either get the client the same rate cheaper, or I can get the client a lower rate for the same price. There is otherwise no difference between standard loan terms for the standard loan types. I can get the client a lower rate if they’ll accept a prepayment penalty. If they want a true zero cost loan, the rate will be higher. How much higher or lower? That varies with time and the lender involved. But except for the rate printed on the contract and the cost to get that rate, these loans are the same.
Now wholesalers don’t want to talk about price, and they don’t want to compete on price. If they’re competing on price, they’re making less money in the secondary market. Less money for the same work. I can’t blame them. Suppose I walked into your office and proposed cutting your pay by somewhere between twenty and fifty percent? Somehow, I don’t think most of you would appreciate it. But now turn that around, because you’re in my office now, shopping for a loan, and you want the loan with the terms you want at the best price possible. If I get a lower price from the lender, I can pass it on to you. I can maybe even make a little more money while still saving you some money. Aren’t you entitled to a bonus when you make money for your company or their clients? Ask yourself this: If I saved you $1000 and $20 per month over the next best quote, would it break your heart if I made an extra couple hundred? When I’m out shopping, it doesn’t bother me at all. By delivering the item on better terms to me, that company has earned whatever money they make.
This doesn’t mean I necessarily look for the lowest price. Many times I’ll buy something that is close to the top of the line? Why? Because it has something worth more than extra money to me. What is worth extra money in real estate? Getting you a better bargain. You spend three percent instead of one, but your $500,000 home sells for $25,000 more, or it sells when it perhaps would not sell under a less aggressive marketing plan. $25,000 minus 2% ($10,000) is $15,000 in your pocket because your agent can afford to market and negotiate more aggressively on your behalf, never mind the difference between selling and not selling. Can a full service agent guarantee a better result? No. But I can tell you through personal experience that I find it much easier to get a better bargain for my clients who are buyers from someone who listed with a discount brokerage or flat fee place, and my clients are probably going to think I’m superman before the deal is done. But note that the difference in price does have to be justified. A loan is a loan is a loan, as long as it’s on the same terms.
A couple days ago, I got an email calling my attention to someone calling me an “alarmist”, and furthering that with an accusation that I was trying to paint everyone else as a crook. Nope. There are a large number of basically honest practitioners out there, and a significant number of scrupulously honest ones. But there are also a fair number of people out there who, like my loan wholesalers, don’t want to compete on price. Do I blame them? In most cases, no. As I said the day I launched, this is the way they were trained and they don’t know a better way is possible. Plus they want a larger amount of money for the same work rather than a smaller. Many of them resist changes for the better for the consumer because it means they will make less money for the same work. Seems like every day there’s a seminar advertising that they’ll teach agents and loan officers how to attract clients without competing on price.
Well, suppose someone makes enough money per transaction to be happy, even though they are competing on price? Then what they want to do is attract more business, which is a part of what I’m trying to do here. More importantly, I’m trying to give you, my readers, the tools necessary to get yourself the best possible bargain. Nor am I trying to tell you that I’m purer than the driven snow, and I don’t think I ever have. That is for you to judge with the tools I put out, and there’s no way to know for sure unless and until I do a transaction for you.
How far you want to go with these tools is up to you. Real Estate transactions are the biggest transactions most folks undertake in their lives, and as a consequence, small percentages tend to be a lot of money by the standards of lesser transactions. If you only want to do a few easy things, they should save you some money. If you want to do the work for the whole nine yards, they should save you a lot more. But when you have the tools, you are better armed consumers, more likely to get bargains that are better for you, given your situation. Like all tools, they are to be evaluated on the basis of how well they do the job. If they are used properly and nonetheless fail you, you are right to fault them. If there are tools that do a better job, you are right to use those instead. But to say, essentially, “Pay no attention to that man behind the curtain!” is not the optimal response to the issue. Through issues clients and potential clients have brought me, I have encountered every single issue I raise here. There not only is a man behind the curtain, you need to keep your eyes on him and you need to learn how best to deal with him. That is what this site is about.
Caveat Emptor
Prorated Property Taxes in California
July first marks one of the turning points in the year for California real estate, as property taxes are collected for a period running from July 1 through June 30. They are paid in two installments, the first due due November 1 (past due December 10) that covers the first six months, from July 1 to December 31. The second is due February 1st (past due April 10th), and covers the second six months, from January 1 to June 30. Other states have different set ups. For instance, Nevada property taxes are paid quarterly.
Now it happens that most folks don’t actually pay their taxes until just before the “past due” date. If you have an impound account, the bank doesn’t send the money until sometime around December 8th and about April 5th. But they are due and payable on the dates above, and whether you are refinancing or selling or buying, if they are due they need to paid either before the transaction is consummated, or through escrow. Prorated taxes aren’t part of refinance transactions. If they’re due, they have to be paid, and the current owners need to pay all of them. But for sales, what happens is the property taxes are paid past the date of the sale, or not paid up until the date of the transaction.
Let’s pick a date the transaction closes. Say June 15th. The taxes were paid back in April through June 30 by the seller. But the seller didn’t owe taxes past June 15th; they don’t own the property any more after that. The buyer owes the other fifteen days worth. So the way it is handled is that the buyer comes up with, in addition to the purchase price, fifteen days of property taxes and pays those to the seller as part of the transaction.
If the effective date of the sale was, on the other hand, July 31st, and the seller has paid only through June 30th, then the seller will owe the buyer for taxes for the month of July, because the buyer will be paying those come November. So thirty-one days worth of taxes are taken off of the sales price by escrow and given to the buyer because they will be paying for those thirty-one days worth of taxes in November.
Prorated sales taxes are part of most sales transactions. The only exceptions are those taking place within the periods from November 1st to December 10th, and February 1st to April 10th, where taxes are paid through escrow, and not even those if the current owner already paid the taxes. Be advised that the last couple of days can be tough, especially if you have to walk them in, so if the transaction hasn’t recorded at least three or four days before the end of the grace period, you want to go ahead and pay the taxes. If the transaction doesn’t close, the government doesn’t care why they weren’t paid before the end of the grace period; you’ll have to pay a penalty for being late.
Caveat Emptor
Power of Attorney for Real Estate Transactions
I got a search for how one spouse could sign while the other was out of town, and act on their behalf. Since both spouses usually need to sign real estate papers, this is a real concern.
Actually, almost anybody you designate can sign for your real estate transaction, whether or you’re available. The usual thing is you’re out of town for some reason when closing happens, and so your spouse signs for both of you, themselves in their own right, and you by Power of Attorney, but it covers all kinds of situations, and not just real estate.
The document required for this is called a Power of Attorney. You must sign it and have it notarized that it was really you that did so. In it, you designate one particular person who has the right to undertake an action or group of actions, and they then act on your behalf, as your “attorney” for this matter.
Powers of Attorney can be made for all sorts of things, not just real estate transactions. For instance, pretty much everyone should have a Durable Power of Attorney for Health Care. Powers of Attorney can be very broad and ongoing or limited to one specific action in a limited range of time. You set this up at the point in time when you execute it. Whatever terms you set up when you signed it are binding, both upon you and the person you designate. Most stationery and office supply stores have ready made ones where you just fill in a few blanks and you’re ready to have it notarized. I’ve seen ones with check marks, but those are dangerous in my opinion, as when a precise check mark was placed on there is a matter for considerable legal dispute.
It is a misconception to believe that this person must always be an actual licensed attorney. In general, they need not be an actual attorney, only a competent adult. I’m sure there are circumstances when being an attorney is necessary, but it is not necessary most of the time. There may be circumstances where you may want a licensed attorney even where it is not legally necessary, but there’s a major difference between being legal and being smart.
I’ve seen not only spouses used, but other relatives, close friends, and professionals such as accountants and attorneys. Note that the person you designate does not have to accept, and does not have to act even if they accept. The idea is to get their consent first, and make certain they know your mind in the matters you designate them for.
Extremely important: You really need to trust the person you designate to act in your best interest. If they sign something that you would not have, you are still stuck, as long as it is within the mandate of that power of attorney. Whatever contract they signed on your behalf, you have to live up to the terms. Your designate doing something you would not have is a side issue between you and the person you designated. That person with your power of attorney designate’s signature on a contract can force you to live up to that contract, which is how it should be. Otherwise, nobody would accept powers of attorney, and they would be regarded as one more way to run a scam. They’re not supposed to be a scam at all, it’s intended to be a way for one person to do another person’s business legitimately.
Caveat Emptor
What Are Points On Mortgages and How Do They Work?
I got a search hit for that and, amazingly enough after 150+ articles, I’ve never dealt with this subject head on. So here goes.
One point, either discount or origination, is one percent of the final loan amount. After all of the loan amounts and fees and what have you are added, for a loan with one point, multiply the amount by 100 and divide by 99, and that will be your final loan amount. For a loan with two points, multiply by 100 and divide by 98. The general formula is multiply by 100 and divide by (100-n) where n is the total number of points.
Points come in two basic sorts, discount and origination. Origination is a fee your loan provider charges for getting the loan done. Some brokers quote in dollars, most quote in points because it sounds cheaper than an explicit dollar cost. Most brokers out there charge one point of origination. To contrast this, direct lenders do not have to disclose how much they are going to make on the secondary loan market. And many direct lenders still charge origination. Judging the loan by how much the provider makes (or tells you they make) is a good way to end up with a bad loan. My point is that it’s the rate, type of loan, and net cost to you that are important, not how much the guy is getting paid for doing your loan. Remember two things here, and they will save you. First, loans are always done by a tradeoff between rate and cost. For the same type of loan, the more points you pay the lower your rate will be, and vice versa. Second, remember to ask about “What would it be without a prepayment penalty?” It’s a good way to catch people who are trying to slide one over on you, and the lenders pay a lot more for loans with a penalty, and the lenders make a lot more on them when they sell them to Wall Street, so they often do them on what looks like a much thinner margin until you ask the question “What would it be without the prepayment penalty?” Remember it.
Discount points are an explicit charge in order to offer you a lower rate than you would otherwise have gotten. To use an example I ran across the day I originally wrote this this, six point five percent with one point, seven percent without. On a four hundred housand dollar loan, that’s essentially four thousand dollars, either out of your pocket where you’re not earning money on it, or added to your mortgage balance where you are making payments and paying interest.
Is it a good idea to pay discount points, or is it a better idea to pay the higher rate? That depends upon the loan type and how long you keep it. Let’s say the loan is $396,000 without the point, $400,000 with, just to keep the math easy. Your monthly interest charge on the first loan is $2310, on the second it’s $2166. On the other hand, you pay $361 principal on loan 2, only $324 on loan 1. Here’s the bottom line, though: You’ve got to get that $4000 back before you sell or refinance. Just a straight line computation, that second loan saves you $181 the first month. $4000/$181 per month is about 22 months to break even (and it’s a little faster than that, because loan 2 pays off more principal per month). On the other hand, even after you’ve theoretically “broken even” there is a period where if you sell or refinance, you will inexorably lose money because you’re paying interest on a balance that’s higher than it would have been.
But now let’s run the actual numbers. If the above loan is a thirty year fixed and you keep it four years, you’re well ahead. You’ve saved yourself $6944 in interest and your balance is only $2159 higher. $6944 – $2159 = $4785. Even if your next loan is at ten percent, you’re only losing $215.90 per year. Especially when you consider that at a cost of money now versus later, you’ll never make it up, because you can invest that $4785 you saved and it’ll pay more interest than that.
On the other hand, let’s say the rate was only fixed for two years. After that, it is a universal feature of hybrid ARMs that they all adjust to the same rate. You are theoretically ahead by $363, but because of your higher balance, even if the loan adjusts to five percent, you’re losing $154 per year due to your higher balance, and there is nothing you can do about it. Play now, pay later.
There is no cut and dried answer about whether it’s to your benefit to pay points. I tend not to do it, myself, because rates do vary a lot with time, and money you addsticks around in your balance. If I’ve got a zero or low cost loan and the rates drop half a percent, it’s worthwhile to refinance for free. If I have a loan I paid a point for, I’m going to have to pay that same point again to see a benefit on refinancing, and as we’ve already discussed, if you don’t keep the loan long enough, you’ve wasted your money. The median time between refinances is right about two years right now. I see no reason to pretend I’m any different from everyone else, but some folks do have a history of keeping loans a long time. You need to make your own choice to fit your own situation.
Caveat Emptor
Volatility: A Regular Investor’s Best Friend
Wall Street loves fear and greed. Every time some bad news hits, a lot of benighted investors sell investments that were basically solid. Causing the price they can get for their investments to drop (higher supply, lower demand). Every time a piece of unexpected good news hits, you can expect stock price to take a jump, and people rush in and pay too much for the security. Emotions: buy for too much, sell for too little, and pay transaction costs both ways. It’s a recipe for tanking investments.
One of the first thing every financial text tries to teach you is dollar cost averaging, but few people learn it and apply it where it counts. If the company has solid management and it’s doing well and is well positioned, chances are that them missing earnings per share targets by 7 percent for the quarter is just unimportant. It might be if it’s part of a trend, but past results, or trends, rarely get reported with current ones in the financial press. Actually, you’re lucky if they tell you about special charge offs influencing the result, or special one-time gains in the case of good news. Accountants can hide a lot, and make it appear to be other than it is. For these reasons as well as the above, you could do worse than to make “buy on bad news, sell on good” your investing mantra.
People get all kinds of irrational in the short term, especially about money. This is behind most of the legendary stock run-ups of the last several decades, most of which quietly slid back down after hitting a peak. As long as the reasons you thought the company was originally a good investment apply, keep on doing what you were doing.
Now I’m going to run a table of a $100 per month under two different suppositions. The first is that there is a smooth 10% annualized increase in price. The second is a small random walk (real world, prices are more volatile than this). Watch what happens over three short years.
| month 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 25 26 27 28 29 30 31 32 33 34 35 36 | smooth increase $10.00 $10.08 $10.17 $10.25 $10.34 $10.42 $10.51 $10.60 $10.68 $10.77 $10.86 $10.95 $11.04 $11.13 $11.23 $11.32 $11.41 $11.51 $11.60 $11.70 $11.80 $11.90 $11.99 $12.09 $12.19 $12.30 $12.40 $12.50 $12.60 $12.71 $12.81 $12.92 $13.03 $13.14 $13.25 $13.35 | total smooth 10.000 19.918 29.754 39.509 49.184 58.779 68.295 77.733 87.093 96.376 105.583 114.713 123.769 132.750 141.658 150.491 159.253 167.942 176.559 185.106 193.582 201.989 210.326 218.595 226.795 234.928 242.995 250.994 258.928 266.797 274.601 282.340 290.016 297.629 305.179 312.667 | value smooth $100.00 $200.83 $302.50 $405.01 $508.37 $612.59 $717.67 $823.63 $930.47 $1,038.19 $1,146.81 $1,256.32 $1,366.75 $1,478.10 $1,590.36 $1,703.56 $1,817.70 $1,932.79 $2,048.83 $2,165.84 $2,283.81 $2,402.77 $2,522.71 $2,643.65 $2,765.59 $2,888.55 $3,012.52 $3,137.53 $3,263.57 $3,390.66 $3,518.80 $3,648.00 $3,778.28 $3,909.64 $4,042.09 $4,175.64 | volatile price $10.00 $10.20 $9.80 $9.60 $10.50 $10.80 $10.10 $11.00 $10.70 $10.90 $11.20 $10.80 $10.60 $11.00 $11.50 $11.80 $11.00 $10.90 $11.60 $11.60 $11.90 $11.99 $11.75 $12.00 $12.40 $12.60 $12.00 $11.80 $12.40 $12.80 $13.00 $13.25 $13.00 $12.90 $13.40 $13.35 | total volatile 10.000 19.804 30.008 40.425 49.948 59.208 69.109 78.200 87.545 96.720 105.648 114.908 124.342 133.432 142.128 150.603 159.694 168.868 177.489 186.109 194.513 202.853 211.364 219.697 227.761 235.698 244.031 252.506 260.570 268.383 276.075 283.622 291.315 299.067 306.529 314.020 | value 100.00 202.00 294.08 388.08 524.46 639.44 698.00 860.20 936.74 1,054.25 1,183.26 1,241.00 1,318.02 1,467.76 1,634.47 1,777.11 1,756.63 1,840.66 2,058.87 2,158.87 2,314.70 2,432.21 2,483.52 2,636.36 2,824.24 2,969.79 2,928.37 2,979.57 3,231.07 3,435.30 3,588.98 3,758.00 3,787.09 3,857.96 4,107.49 4,192.17 |
Notice that the ending price is the same in both cases, but that under the volatile scenario, you have acquired more shares, and have therefore made more profit, by $16.53. Why? Because you bought more shares when the price was lower, and fewer when it was higher. This “weights” your good months for low prices more heavily than your bad months with high prices. Keeping in mind that you invested $3600, your profit is $592.17 instead of $575.64, that’s a difference of three percent in the amount returned.
Now real world security prices are somewhat more volatile than this, and if you maintain this discipline for decades instead of years, the difference will be larger – much larger. I’ve seen five percent of the entire net result, as opposed to a hypothetically smooth return that ends up with the same price at the end of the period. That’s the difference between $20,484.50 after ten years, and $21,508.72, and all from the same $100 per month (that would be $12,000 if you’d tucked it into a mattress).
People do the silliest things, jumping in and out of investments for short term inconsequentials. Just because they do it, though, doesn’t mean you have to copy their foolishness. Indeed, having the intestinal fortitude to keep investing in a strong solid security when they hit a rough patch is one of the best times to be investing, because you’re buying at depressed prices, when all those folks who panicked because the CEO’s daughter had triplets, or similar nonsense that has negligible impact on long term performance, are selling cheap. If the reasons you were buying no longer apply, get out, but so long as they do, temporary hits to the price are a good thing when you’re buying.
Caveat Emptor.
The Issue With Eminent Domain is MONEY
A little over one year ago, the Supreme Court handed down the decision in Kelo, which held that the city of New London could condemn land to sell it to private developers in order to increase the tax base.
At the time, it generated huge amounts of outrage – the formation of Life Liberty Property, a group of about 100 websites being only one manifestation. Bills found their ways into various state legislatures whose stated purpose was stopping eminent domain abuse. A couple have passed, one or two have been rejected, most languished. Nor are any of the ones that have passed aimed at the root causes of eminent domain abuse.
Let’s take a step back and look at the situation, which will tell us what the real problem is. Suppose there was no right of eminent domain? I realize such a question is rhetorical at best; for all the abuse and potential for abuse, eminent domain is an occasionally necessary power of the state. But let us consider, for a moment, what the situation would have been if there was no right of eminent domain.
Well, they New London Development Corporation or the developer they represent would have had two options. Either do without Suzette Kelo’s property, or offer her a price so good she takes it. The price to change her mind might have been one million dollars, or it might have been ten million. Pretty much everybody has a price at which they will willingly sell.
Such an option would be extremely expensive, as is the other option, of doing without that particular property. Not only do they have to redesign everything, but now Suzette Kelo may have the grounds for a lawsuit. That factory wasn’t there when she bought her property, and now it’s making all kinds of noise at all hours of the night, generating excessive traffic, etcetera, etcetera, etcetera. It could very well be that the development hampers her enjoyment of her property, I’m pretty certain it would hamper enjoyment of mine in similar circumstances. Keep in mind that it’s our tax dollars at work and at risk here.
The central issue, therefore, is money, our private property, not liberty. There is certainly a component of liberty in that we would love to be free not to sell so we could extort huge prices for a property that government or developer basically has to have. Furthermore, there is a little bit of pure greedy unfettered capitalist in the back of my mind asking why being able to extort the state is a bad thing? Cha-ching! But there we go, back to money.
In fact, the central issue of eminent domain is that the condemning agency does not want to offer an appropriate price that compensates the owner not merely for the expense of acquiring a comparable property, but the effort and expense of moving. Unless the property is already on the market, moving is not something the owner wants to do. It isn’t cheap to move, and it isn’t easy, never mind that if they’re running a business there are all kinds of issues involved to make certain you don’t lose clients when you move. Therefore, in order to motivate someone who wasn’t planning on moving, a price above the market is appropriate.
Furthermore, the fact that condemnation is involuntary merits some compensation on its own. If you do not want to sell (for whatever reason) but are being legally forced to sell, the state should compensate you for the fact that your investment has been aborted.
Now, by way of contrast, real estate is expensive. Expensive enough that any money the state and developers spend trying to play games with your evaluation will likely be money well spent. A while ago I wrote about a man whose family homestead – 105 acres that had been in his family over a century – was condemned for a new port terminal building in Houston. Initially, he got $1.9 million, reduced on the condemning agency’s appeal to one dollar. By contrast, for the new port down in Baja California, they are paying around $10 per square foot, and that’s not in an urban area. At $10 per square foot, 105 acres would be $45 million dollars plus, and I suspect suburban property in the United States is far more expensive. Especially if it’s got a commercial zoning.
Even for residential lots, the games are worth playing for the developer. Appraisals are highly subjective, and they can not only afford the appraisal, they can afford top notch legal help, and if they spend $20,000 but deflate the price $100,000, they come out well ahead. This is the sort of math they do, Their responsibility is to the taxpayers and shareholders, not the current owner of a property they want.
This is why I believe that the condemning agency should pay the legal fees and evaluation fees incurred by the victim of a condemnation suit. This can get to be some real money, money that not everyone has lying around, not to mention the fact that if the idea is to resist the suit, it doesn’t seem important to conduct an evaluation. The victim of the suit didn’t ask for their land to be condemned; if they had I strongly suspect they would be willing to sell.
Indeed, the point of this is to make it worthwhile for the condemning agency (or developer) to offer a good price for a voluntary sale. If they’re paying legal and evaluation expenses for both sides, not to mention employee time tracking and coordinating and documenting the necessity, and because of this, the suit’s victim can stop them from getting the property on the cheap, it becomes the most cost effective thing to do to offer a price where the owner will want to sell – voluntarily – in the first place.
That is the real fix for eminent domain abuse.
Foreclosures – A Good Investment?
Well, sometimes. Okay, most of the time. But not always.
Foreclosures: Bargain hunters beware!
Myth no. 1: A big spike in foreclosures is right around the corner…
…That’s because in most of the country, anyone who has owned a home for even a year or two is likely sitting on enough equity to sell or refinance if the loan payments become unaffordable.
Used to be true. Not so much any more. When prices are going up 20% per year, this is true. When prices have slid about 10 percent since last year locally, anybody who bought for peak or near peak prices is in trouble, not to mention the folks in negative amortization loans that got into a situation where they can’t afford the real payment, and now they owe thousands of dollars more than they paid. Nonetheless (as the article mentions) the banks want the loan repaid. They don’t want to own the house. A “hard money” lender will foreclose fast and hard, but a regulated lender wants the loan repaid, and they’ll pretty much take a loss anytime they foreclose, and it’s always bad business, because it’s always someone who won’t use that bank, and who tells all their friends and family. The bank isn’t going to have a representative there to tell their side of the story, so no matter how justified they were in foreclosing, it’s bad for business. They will put it off as long as they possibly can.
It can take a couple of years after payments start being a problem before the lender decides to cut their losses and foreclose. Sometimes the individuals concerned go to heroic lengths to stay out of foreclosure, drawing out all their savings, even their retirements to meet the payment. They are usually ill-advised to do so; nonetheless I understand the emotional attachment that occurs. The peak for foreclosure is usually somewhere around the fourth year of the loan. Foreclosures are up now, locally, but look for them to start going up further at the end of 2007, as the option ARMs really took off in 2004.
Myth no. 2: Foreclosed houses sell for far less than their market value.
In a study of foreclosure sale prices in more than 600 counties nationwide in 2005, Christopher Cagan of data provider First American Real Estate Solutions found that, on average, foreclosed properties sold for about 15 percent less than comparable homes in the area that were not distressed. But in states where real estate prices have risen the most, including Arizona, California and Virginia, foreclosed properties sold for within 5 percent of full market value.
This is true. Furthermore, many foreclosure homes have maintenance and repair issues. If I can save my several tens of thousand dollars of equity by fixing the property up a little bit and cutting the price a little in order to sell it before foreclosure, I’ll do it. On the other hand, if I bought it for $500,000 with a 5% down payment on a negative amortization loan, and now it’s only worth $420,000, my investment is long gone, and any work I do and any money I spend is helping nobody but the bank. Some people may strip the copper out of the walls for scrap (I’ve seen what one such person left behind). Some people may even take a sledgehammer and break things in one last act of spite.
In highly appreciated areas, the auction is usually the worst time to buy. Get them from the owners before the lenders pile on all the default and foreclosure fees, while there is still something to save for the owner, equity-wise. Get them from the lenders as REOs after they fail to sell at auction. Depending upon who forecloses, that can wipe out entire trust deeds. For instance, if there’s a first and a second on the property, and the first forecloses, that second is gone. Dust. History. Worthless paper with unimportant markings, basically good for fire starter. If it originally sold for $500,000, and there’s a $400,000 first and a $75,000 second, but the property is only worth $420,000 now, that second holder is crazy if they show up to the auction to defend it, especially since the holder of the first has added thousands of dollars in fees, every penny of which gets paid before the second gets a penny. The second is unlikely to get a penny, and bidding on it is throwing good money after bad. It’s a waste of an employee’s time, if nothing else. For buyers at auction, there’s a key phrase to remember: cash or the equivalent. You don’t win the auction and then arrange financing; you have to have that first. This doesn’t apply to sales before and after the auction. Nor does California’s ninety percent rule.
Now, you are not (if you’re smart) buying at auction sight unseen. You can usually make an appointment to see the property in the days before the auction. You should also look at other properties in the area. Know the market before you bid. Know what you intend to do with the property, know how much it’s going to cost. Depending upon the law where you are, there may be a building inspection required, or perhaps you can take an inspector with you. This costs money, so you may want to preview once before you haul the inspector out there. Do your homework before you toss your money into the ring. That’s what the people who make money at foreclosure auctions do. It’s practically a full time job if you want to do well, and if you’re not doing it all the time, a good agent is a lifesaver. Every situation is different, and it takes a certain amount of experience to know the best way to approach buying a given distressed property. You’re competing with people who do this full time for a living. Ask yourself questions like “Why should I be willing to pay more for this property than Joe, who’s been doing this for twenty years?” Auctions get crazy and emotional. If you have someone there to help take the emotion out of it, you are less likely to waste large sums of money. If you have someone there to help point out the pitfalls, you’ve probably just saved yourself every penny of their commission and thousands of dollars more besides. So long as they do what they say they will, of course.
Caveat Emptor.
Dissecting the “Lending Game”
Right now lender X is offering me a loan that looks something like this:
80/20 No down payment
On the /80: 6.5% FIXED interest for 30 years, interest-only payment option for 15 years
On the /20: 8.75% FIXED interest for 25 years (amortized to 30) 6-month lock for 1-point ($3800) refundable fee with float-down option
My response:
Devil is in the details.
Is there a pre-payment penalty?
They want 1 point to lock for 6 months? Cash, I presume? Quite frankly, the usual cost for locking in six months out is about three points. Nor is X usually that cheap on the lock (they have some excellent rates, but what they’re quoting you is a market current quote for a 30 day lock. Long term rates are expected to rise, and long lock periods aren’t free. There’s something they are not telling you.)
What are the discount/origination on the underlying loan? How much are they going to charge in closing costs to get it done?
Will they guarantee their quoted costs (as in they eat the difference if there is one, not you)? You might want to ask them all of the questions here
A developer’s condo sell out is not the most difficult loan, but it’s a long way from the easiest, as well. There are a lot of lenders that will not do them. Furthermore, what’s being presented to you looks much cheaper than is likely to be true. If you insist on going with it, call me thirty days before the place will be done, and I’ll do a back up loan, because I don’t think what they’re offering you is real.
(Note: due to changes in the market, nobody can do backup loans any more, but that was a real offer at the time)
he did get back to me as to what lender X’s response was:
Is there any pre-payment penalty on this loan? NO…..
What is the total refundable cost for the 6-month lock? YOU PAY 1% UP FRONT AND IT IS REFUNDABLE IF YOU CLOSE WITHIN 6 MONTHS (emphasis mine)
How much will the closing costs be to get this loan done? I DON’T KNOW WHAT YOUR ESCROW AND TITLE COSTS WILL BE. YOUR LENDERS COSTS WILL BE APPROXIMATELY $1,200. (emphasis mine)
Is the rate being quoted based upon full documentation, stated income, NINA or EZ Doc? 100% FINANCING IS FULL DOC….
Do I have to pay any discount points, points of origination, or any other points to get the quoted rates? NO POINTS NOR ORIGINATION FEE (ONLY THE 1% LOCK IN FEE OF WHICH WE SPOKE) (I prefer no points)
Regarding third party costs, can you tell me, or will the papers you send me make clear, the following third party costs:
– Appraisal fee: THIS SHOULD BE AROUND $400 BUT IS PART OF THE $1,200 I QUOTED.
– Total title charges: ??????????
– Escrow fee: ???????????
The builder has already assigned an escrow and title company for the property — may I use this company with the (lender X) loan? YES!
How much, total, will I be expected to pay X upfront, out of my pocket, to get this loan? THE $400 FOR THE APPRAISAL AND THE 1% TO LOCK IN….
How much, total, if any, will be added to my mortgage balance on top of what is quoted? ????????????????? NOTHING IS ADDED TO YOUR MORTGAGE.
If I agree to this loan after reviewing the papers, are the rate and closing costs guaranteed, and will X cover the difference (if any) between the quote and the actual final cost? WE’VE BEEN IN BUSINESS SINCE X. WE CONTINUE TO STAND BY OUR COMMITMENTS. (emphasis mine)
Now for the emphasis points, last first
-This question of is the rate guaranteed requires a simple yes/no response. This evasive reply tells you the answer is no, but that they don’t want to admit it. If this answer is not yes, none of the other stuff is written in anything more permanent than beach sand somewhere below the high tide line. It’s funny they mention commitments. Neither a Good Faith Estimate nor a Mortgage Loan Disclosure Statement (the California equivalent) is a loan commitment, or any kind of commitment at all. Regulations leave so much room for the unethical to maneuver without running afoul of the law that either one of those forms is nothing more than the loan officer or company wants it to be. A few are right on, and those companies will typically guarantee their quote. More are somewhere in the ballpark, amazingly enough usually noticeably on the low side. And quite a large fraction are nothing more than an exercise in creative writing. He didn’t guarantee his quote. Tell me this: Two companies are bidding on doing building work for you. Both are large firms. The first company asks you all sorts of questions about specifications, and guarantees they’ll get it done for $5000, and if there’s a problem on their end, they will fix it for no additional money. The second says they think they can do it for $4500. Which would you feel more comfortable with? If you know anything about building contractors, the latter is a joke compared to the former. Lenders and estimates on the initial paperwork to get you to sign up are, if anything, worse.
-I do business with this lender. Their costs are $1295 not including the appraisal to brokers, who perform some of the services they charge their clients for performing. By the time you’ve added escrow and title, you’re roughly at the $3400 mark.
-It’s easy to talk a good game to most folks who aren’t experienced with how the game is played. The point of this particular game is trying to lock you in with that 1 percent cash upfront payment, so that when clients discover that he’s not going to be able to deliver what he’s talking about, they’ll be thinking about recovering/losing that money, rather than focusing your attention on getting the best loan. This is called creating a distraction, and is in accordance with the tell you anything to get you to sign up school of thought.
When it comes time to close, he’d be licking his chops due to the fact that the client paid $3500 (or whatever one point comes to) cash upfront, and when he delivered something different, the client believes they have no choice but to agree in order to save their money. I’ve offered people in that situation a loan that was more than 1 point better, and they still went with the guy who had rooked them out of the 1% upfront, because they’re worried about that cash when they should be worried about the rate/cost tradeoff.
He also went to the builder’s lender
If I’m interested in getting my monthly payments down lower and I consider getting a 5/1 ARM loan to do so, is that a completely horrible idea, or could I refinance into another 5/1 ARM after the first five years to continue getting a pretty good rate, if for example the 30-year fixed rates
have gone up a bunch in 5 years?
That’s precisely what I’ve been doing for the past fifteen years. On the other hand, with the difference in rate/cost tradeoff being so narrow right now between a thirty fixed and a 5/1 (roughly a quarter of a percent interest rate wise), there’s a strong argument to be made for the loan you never have to wonder about. Where I thought I would never have a thirty year fixed rate mortgage, I’d consider it if I were going to buy or refi right now. Don’t know if I’d do it, but I’d think about it.
80/20 No-down 5/1 ARM
No pre-payment penalty
Total loan amount: $379,900
80%, $303,000: 5.25% fixed & interest-only for 5 years, payment: $1329.65
20%, $78,000: 9.5% fixed for 5 years, interest-only for 15 years, payment: $601.50
Total monthly payment: $1931.15
Aside from the fact that the putative loans total $381,000, which is likely picking nits, I don’t believe that loan exists, as 5/1 ARMS are running up around 6.25% at “par” right now. I couldn’t find a lender that is even offering 5.25, no matter how many points you paid, and that’s wholesale. He attached some GFEs which show $4180 in points charges (plus $875 in pure junk fees and about $150 in well padded costs on the first loan and shorted the likely interest, in addition to all the real stuff), adds $5000 that he’s evidently already paid to the closing costs, requires another $3200 plus at closing, and still comes up with final first loan of $303,920.
On the second, the loan required another $1140 in fees but a loan amount of only $75980, thereby balancing the 80/20 requirement correctly, at least, thereby negating the nitpick in the previous paragraph.
(I’d also shoot his agent for not negotiating any givebacks, given the current market, except I’m prepared to bet he didn’t have one. I’ve covered some of these issues, precisely as they relate to this particular situation, at the end of this article), of which which I’ll reproduce the relevant section here
Unfortunately, you’ve already (probably) put a deposit down and you said in subsequent email that the home has appreciated while it was being built, so the developer has incentive to throw roadblocks in your path. Your transaction falls through and not only do they get to keep your deposit but they can turn around and sell the home for more. Preventing this kind of nonsense is what buyer’s agents are for (it also gives you someone easy to sue if something goes wrong!). Unfortunately, most developers will not cooperate by paying a commission to buyer’s agents for precisely this reason, which means that the average buyer will decline to pay an agent out of their own pocket and try to do the transaction on their own, which leads to situations like this.
Now the market is falling, but it looks like to me the guy paid full asking price (since he’s local to me, I can look), and the market is incredibly squishy on prices.
Now getting back to the loans, this is how lenders Play The Game of getting you to sign up. They are looking for you to build what salesfolk call commitment to a loan before they tell you the whole truth – usually by springing it on you at closing. They make it look better than it is for a while. They can do this because the only form that has to have correct accounting is the HUD 1, which comes at the very end of the process (It’s usually prepared by the escrow officer. You should get a provisional when you sign loan documents and a final within 30 days of the end of the transaction). In the case of a purchase, this is usually at the last possible instant, which means that if you haven’t prepared a back-up loan there is no time to get one before the deal goes south, which means your choices are limited to sign or lose the property, the deposit, and all that time and aggravation. This is providing that you even notice. Industry statistics say that somewhere around half the folks won’t, and even on refinancing, where people can almost always just keep the loan they have without bad consequences, eighty-five percent or so of those who do notice will cave in and sign.
Caveat Emptor
Agents Refusing to Make an Offer on Real Estate
“buyers agent refuses to make offer” was a search hit I got recently. This is yet another reason not to sign exclusive buyer’s agent agreements.
My guess is that the CBB is lower than the agent would like. The CBB is the “cooperating brokers” payment – that share of the selling agent’s commission that will be paid to another agent who brings in the buyer.
Now, to repeat what I’ve said before, the listing agreement gives the entire commission to the listing agent if they bring in the buyer themselves, or if the buyer has no agent. But if they want buyer’s agents to bring their buyers to this property, or if they want it to sell quickly, they’ll make certain the buyer’s agents have a good reason to bring the buyers by – in the form of a high CBB. Three percent seems to be average around here now, up from 2.5 about a year ago, and properties that want to sell go higher. Even the discount brokers that will settle for 1% to list (or a flat fee) will tell you to offer at least three to a prospective buyer’s agent. It’s not mandatory, of course. But it does work to sell the property.
Now, the default buyer’s agent contracts (exclusive and non-exclusive) in my area specify a 2% commission from the buyer to the agent but state that any commission paid by the seller is to be used to offset this first. What this means is that as long as the agent finds you a property paying at least 2 percent to buyer’s agents (CBB) the buyer pays zero. See What Do Buyer’s Agents Do? for more information. (If they don’t find you a property, no commission or other obligation is incurred)
Now my attitude is that as long as my buyer isn’t going to have to come up with cash out of pocket for my commission, I want to move from “looking” to “negotiation”. Because my contract with the buyer is non-exclusive, they are free to look elsewhere, and with other agents, cutting me out of the process entirely if I don’t perform. Therefore, my motivation is to find them the property they want, and get the transaction moving. This isn’t particularly virtuous on my part; That’s where the incentives are. I haven’t seen a CBB lower than 2 percent ever, that I can recall, except for a few greedy, almost always drastically overpriced FSBOs.
Suppose, however, Joe Realtor has your signature on an exclusive buyer’s agreement. Now he’s got your business locked up for six months or a year, no matter what. You can’t buy anything without Joe getting paid. This creates a different incentive. Now Joe can pick and choose what properties he wants you to see, what properties he wants you to make an offer on. If you don’t like his work, you are still stuck with him until the agreement runs out. If you go elsewhere and buy a property, Joe still gets paid, without really doing anything. If Joe gets two and The Other Guy gets two, and the CBB is only three, that’s one percent you’ve got to pay out of your pocket at a minimum. Maybe two percent, because The Other Guy is going to take the viewpoint that he did the work for that property, and is entitled to the full commission. When lawyers get involved, you never know how it’ll end up. My only advice to to heed Sancho Panza’s words of wisdom, “Whether the pitcher hits the stone or the stone hits the pitcher, it’s going to be bad for the pitcher.” The legal system makes a pretty good substitute for the stone.
So Joe Realtor thinks he’s got your transaction locked up with an exclusive agreement. So he’s thinking of this transaction as being in the bag, and he wants to make it as large as possible in his favor. So if the CBB is listed as 2.5, or even 2, he isn’t interested. He wants three at least, more if he can swing it. He also wants the transaction to be as large as possible, by the way, and if he can think of a way to talk you into a property where the only way you can qualify is a stated income negative amortization loan, boy has Joe got a paycheck coming!
Now it happens that flatly refusing to make an offer is one of the ways to potentially break an exclusive agency agreement (the relevant legal stuff varies). On the other hand, Joe’s not going to let you go willingly. By the time you’ve spent fourteen months in court and thousands of dollars for your lawyer, you will probably wish you hadn’t, particularly when it turns out that your claim is a “he said this, the other guy said that,” case, as you have no documentation. Better to just wait until any claim Joe may have is moot. Better still not to sign the exclusive agreement in the first place.
Now, if you’re a seller wanting to make the best possible profit, you might want a listing contract which gives more than half of the overall commission to the buyer’s agent. The larger their commission, the more buyer’s agents you attract, and therefore, the more buyers. It’s a “catch more flies with honey” sort of thing. Mind you, the listing agents will resist this, but until you sign their contract (which has to be exclusive, by the nature of things, at least for a given property), you are the one who holds the power to control the transaction by walking out. Don’t stint the listing agent, as they’re the professionals who you’re counting on to help you out in marketing and negotiation. But giving incentives for buyer’s agents to bring buyers to your property, instead of the one two streets over, is typically money better spent in all but the strongest of seller’s markets.
Caveat Emptor