March 2020 Archives

You'd think there'd be more for a god to do.

Alexan and Petra have become Eternals - minor gods, binding themselves together in their divinity. According to most stories, that's where 'happily ever after' would start.

However, there's a divine ecosystem, as red in tooth and claw as any other part of nature, competing for power and worshippers and other divine benefits. There's also the diligar deity Klikitit, who's appointed Alexan his personal enemy for having dared defend himself against one of Klikitit's Sons. Then there is the question of how do they achieve the next step on the divine ladder? All of this while dealing with divine curses which bind both of them - for all divinities are cursed.

The Connected Realms are certainly more complex than they appear at first glance!

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(The Amazon e-book and paperback editions will link eventually, but have not yet)

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"overpriced house offer rejected what next"

(Before I get started, I want to make it clear that I am using the same definition of worth found in this article)

The first thing to consider is the seller obviously didn't feel that it was overpriced. But, just as many sellers will try to put a property on the market overpriced "just to see if we can get it", many buyers will low-ball a purchase price for the mirror image reason: "Just to see if we can get it for that." Nothing wrong with that, but it's a low percentage endeavor. Given that the sellers were unwilling to sell for that, consider the possibility that you didn't offer enough.

It's human nature to always want to blame the other side. Given the state of real estate prices here in San Diego when I originally wrote this, I have considerable sympathy for buyers. It seemed like ninety percent of those listing their property were in denial about where the market really was; that they hadn't checked out the actual sales being made. On the other hand, if you looked at the sales log, sales were still being made. This means willing buyers and willing sellers were coming to an agreement that both felt left them better off, and they were doing it (by definition!) at market prices.

The fact is, there are always at least two possibilities when an offer is rejected, and the truth may be a mixture of the two.

First, that the seller is being unreasonable. This happens a lot. Probably sixty percent of all properties initially enter the market overpriced. Somebody thinks their property is worth more than it's worth. When people can buy better properties for less, they're not going to be interested in yours. In this situation, you're not likely to get any good offers. You'll get people doing desperation checks - coming in with lowball offers to see how desperate you really are. A very large proportion of these are people in my profession looking for a quick flip and the profit that comes with it, or other investors. Anybody looking at properties priced where this one should be priced is likely not even going to come look. This activity is 100 percent predictable when you overprice property. Nobody will be interested at the list price, and when it's been on the market long enough, the sharks will start to swarm. Putting the property on the market overpriced will result in the seller making less money than they could have.

Second possibility, the buyer is the one being unreasonable. Properties like that one really are selling for the asking price, or at least substantially more than you offered, and you offered tens of thousands less. Some buyers do this because it's all they can afford. Some buyers do this because they want to get a "score". And some are just the standard "looking to flip for a profit" that I talked about in the previous paragraph. There is a point at which I tell all but the most desperate sellers that they're better off rejecting the offer completely than counter-offering. It saves time and effort, and the prospective buyer either comes back with a better offer, or they go away completely. Someone offering $250,000 for a $350,000 property is not likely to be the person you want to sell to. Even if you talk them up into a reasonable offer by lengthy negotiations, they're far more likely than not to try all sorts of games to get it back down as soon as you're in escrow. Better to serve notice right away that you won't play.

Now some bozo agents think that starting from an extreme position, whether high list price or lowball offer to purchase, gives them more leverage, or that somehow you're eventually likely to end up in the middle. This is bullsh*t. Concentrated, distilled bullsh*t. The whole concept of negotiating room is nonsense promulgated by weak negotiators. A transaction requires a willing buyer and a willing seller. Price the property to market if you want it to sell. Offer a market price if you want the property.

When I originally wrote this, the Quickflippers™ had a distorting effect on this, and disconcertingly many of the properties being offered for sale are owned by people who bought with the intention of the quick flip for profit, rather than buy and hold. Many of those looking to buy still fall into this same category, and I suspect this is much the same in other formerly hot housing markets as well. They had become addicted accustomed to the market of the previous few years, when a monkey could make a profit on a property six months after they paid too much money to purchase it. That is not the market we face today. This market favors the buy and hold investor. Actually, if you remember the spreadsheet I programmed a while back, I've pretty much confirmed that the market always favors the buy and hold investor, it's just been masked by the feeding frenzy of the few years, where John and Jane Hubris could come off looking like geniuses when it was just a quickly rising market and the effects of leverage making them look good. It's just that the support for the illusions of Mr. and Mrs. Hubris has now been removed.

Now, what to do when your offer has been rejected. There are two possibilities. The first is to walk away. If the home really is overpriced, and there are better properties to be had for less money, you made a reasonable offer and were rejected, you're better off walking away. I don't want to pay more for a property than it's comparable properties are selling for, and I especially don't want my clients to do so either. The sort of people who go around making desperation check offers walk away without a second thought with considerably less justification.

The second is to consider that the property might really be worth more than you offered. Okay, a 3 bedroom 1 bath home did sell for that price in that neighborhood, but when you check out the details, that was a 900 square foot home on a 5000 square foot lot and the one you made an offer on is a 1600 square foot home on a 9000 square foot lot, and in better condition with more amenities. It's a more valuable property, and you can refuse to see that from now until the end of the world and you're only fooling yourself. The reason you thought the property was attractive enough to make an offer was that it had something the others you looked at didn't, and most of these attractors add a certain amount of value to the property. The more value there is, the more folks are willing to pay for it. This is why one of the classical tricks of unethical agents is to show you a property that's out of your price range, then figure out a way to get a loan where you qualify for the payment. This property is priced higher because it has features that add more value and a reasonable person would therefore conclude that other reasonable persons would be willing to pay more for that property than others. Landscaping, location, condition, more room, amenities. There's something that the seller thinks reasonable people would be willing to pay more for. It's kind of like taking someone who can afford a $10,000 car and showing them a $25,000 one, then telling them they can get interest only or negative amortization payments to get them into it. You only thought you could afford the $400,000 home, but they've got a way that you can get into the $600,000 home, which obviously is going to have many things that the $400,000 home lacks. Consumer lust does the rest. Cha-ching! Easy sale, and the fact that they've hosed the client doesn't come out until long after those clients made a video for the agent on move-in day when they're so happy they've got this beautiful house that they didn't think they could afford (and really can't), and they gush gush gush about Mr. Unscrupulous Agent, who then uses this video to hook more unsuspecting clients - never mind that the original victims in the scam lost the house, declared bankruptcy, and got a divorce because of the position Mr. Unscrupulous Agent put them into. You want to impress me with an agent, don't show me happy clients on move-in day. Emotional high of being brand-new homeowners aside, there was a period of several years when any monkey of a loan officer could get anybody with quasi-reasonable credit into the property. What happens when they have to make the payments? More importantly, what happens when they have to make the real payments? Given the current environment, the question, as I keep saying here, is not "can I get this loan through?" but "Is it in the best interests of the client to put this loan through?" You want to impress me with an agent, show me a happy customer five years out "My agent found this property that fit within my budget, told me all about the potential problems he saw, got the inspections and loan done, and it's been five years now with no surprises, and the only problem I've had was one he told me about before I even made the offer."

Of course, the real value of the property may be beyond your range or reach. If your agent showed you something you could not reasonably acquire within your budget, you should fire them. I accept clients with a known budget, I'm saying I can find something they want within that range. If it becomes evident I was wrong (eyes bigger than wallet syndrome) the proper thing to do is inform the client that their budget will not stretch to the kind of property they want, and suggest some solutions, starting with "look at less expensive properties" and moving from there to "find a way to increase the budget" and finally to "creative financing options." That's a real agent, not "Start with creative financing options but somehow 'forget' to mention the issues down the road."

There is no universal "always works" strategy for rejected purchase offers. It's okay to do desperation checks, but be aware that most sellers aren't desperate and that it's likely to poison the environment if the seller isn't that desperate. Poisoning the environment is okay if you're a "check for desperation and then move on" Quickflipper™, but if you're looking for a property you want and have found something attractive, it's likely to be counterproductive so that you may end up paying thousands more that you maybe could have gotten the property for if you'd just offered something marginally reasonable in the first place. Make a reasonable offer in the first place, and you're likely to at least get a dialog. And if the seller rejected what really was a reasonable offer for an overpriced property, the only one to lose is them. If their property isn't worth what they want, nobody will pay it. Move on. Their loss is someone else's gain.

The only way to tell how much of the "blame" for a failed offer attaches to each property is to examine the market - what is selling for what price in that immediate neighborhood. Properties in the same condition, of about the same size, built at about the same time. Not across the highway in the brand new development with an extra bedroom and bathroom when this one is thirty years old. Not across the other highway in the eighty year old slums and half the size. You can't make the other side see reason. All you can do is examine whether you were reasonable or not.

Caveat Emptor (and Vendor)

Original here

What Do Buyer's Agents Do?

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Got this search:
"should I get a buyer's agent if I've already found a house"

The answer is almost certainly yes, but I am going to examine both the pros and cons. Full disclosure: This is what I do for a living.

The con is fairly simple. If the seller isn't paying a buyer's agent, they may be willing to sell more cheaply. Then again, they may not. One of the reasons people sell For Sale By Owner is that they're a little too greedy. Even if they have a seller's agent, their listing contract may call for them to keep the buyer's agent's commission if the selling agent sells the property without a buyer's agent involved, and this may cause them to be willing to sell more cheaply. They are under no obligation to do so, however.

Many think the buyer's agent's job is to say, "Here is the living room." That's like saying the president's job is to look impressive. Sure, most presidents do look impressive and I do say "here is the living room," where it's applicable and my buyer may not have figured it out for themselves. Nor is it about looking in the MLS and my connections to find my buyer a property they like. It's not even about making showing appointments with listing agents and occupants.

My real job as a buyer's agent is to find you the best property for your needs under your constraints and get you the best possible bargain on it while making certain that the seller and their agent aren't hiding anything.

Many folks call the seller's agents and use them as their agent. This is what is known as a mistake. That seller's agent has a listing agreement telling them and the seller what the responsibilities of the agent are to the seller. They may or may not sign a representation agreement with the buyer. If they don't sign one, all of their explicit legal responsibilities are to the seller. They are working for the seller, not for you, and they have a contractual obligation to sell that property at the highest possible price. The buyer's interests do not enter into it. Perhaps they do an excellent job of representing your interests anyway, but the odds are against it. Their legal responsibilities are essentially limited to "don't tell any lies and don't practice law without a license." While I was working for the FAA, we found out about an agent who had made a real good living for a while as a seller's agent and how he had done it: By telling everybody he showed a house in the area to that the airport was going to close. Ladies and Gentlemen of the jury, that airport land was dedicated solely to aviation usages by an Act of Congress, and if the county had wanted to close the airport (they didn't; they were making enough money to pay for every airport in the county there, and socking up a huge fund if they ever figured out something else aviation related to spend it on), they would have had to have paid back tens of billions of dollars to the federal government. We got a call from one of his victims one busy Saturday, who asked, "When is this airport scheduled to close?" We advised him that any proposed closure was news to us, and explained the preceding to the gentleman.

Even if the seller's agent does sign a representation agreement with you, in approximately thirty percent of transactions (from my experience) a situation other than price arises where the best interests of the buyer and the best interests of the seller collide. When this happens, no matter what they do, an agent representing both sides is stuck on the horns of a dilemma. If they do A for the seller, they are violating the best interests of the buyer. If they do B for the buyer, they are violating the best interests of the seller. Here's a hint as to which way they are going to jump in the event of conflicting interests: If they violate the seller's interests, they don't have a transaction at all. If you don't buy, they can always sell it to someone else, but if they lose the listing agreement, they are completely out in the cold.

Price conflicts of interest happen on every single transaction. The buyer's interests are to get the property as cheaply as possible. The seller's are to get as much money as practical. This is a fundamental conflict of interest, and the entire business model of real estate is set up to camouflage this conflict, especially from the buyer. It is quite likely not in the best interests of buyers to buy a particular property at all, but if you're contacting a listing agent to make an offer, you are asking the professional opinion of someone who has a legal and ethical obligation to not only sell it to you, but to get you to pay as much money as you possibly can.

Before I even point a property out to you, or if you find it surf the internet and ask, "What do you think?" I am evaluating the property for fitness, suitability, affordability, how it stacks up to other properties on offer, how many other properties are on offer, and what the details of the property likely mean in the way of potential problem issues. Just a for minor example, a property built in 1975 has to be concerned about both lead-based paint and asbestos; a property built in 1990 still has those worries but to a far lesser extent, as most building stocks with those concerns were long gone, and a property built in 2005 is more likely built over Jimmy Hoffa's final resting place than a repository for asbestos and lead based paint (it could happen, but the odds are long against it). I am not an inspector or a tester, but I can and do alert my clients to safety and environmental issues, potential repair bills, and all sorts of other items before we've made an initial offer. "Best thing you could do with this building is 'accidentally' run a bulldozer through it," is something I told a client in a few weeks ago, in the context of telling him the value, if any, was the land less the cost of demolition and haul-away. Initially built almost 100 years ago and haphazardly added to as well as obviously not in compliance with code, my client would have been facing the possibility of the county condemning the building as unsafe, and quite frankly, I didn't think anyone would insure it outside FAIR requirements. You're not likely to get that kind of talk from a seller's agent. If you do, they're working against the best interests of their clients. Do you really want an agent who will do that? Instead you get words like "charming," "funky!" and the ever popular phrase "needs a little TLC!"

When it comes to the offer, a seller's agent is looking to get the highest possible price. Period. They don't care if you could buy a better property for less elsewhere, their responsibility to the seller and desire for a larger paycheck are in perfect alignment. A buyer's agent is responsible to you, and whereas buyer's agents get paid based upon the sales price, same as the seller's agents, they at least have a legal responsibility to do their best for you. If there are any complaints, a seller's agent can take refuge in the fact that it is their primary duty to get the best possible terms (i.e. highest possible price) for the property. The buyer's agent has no such shelter. Which would you rather have as your representative?

Buyer's Agents do not usually cost you, the buyer, any extra money. Maybe there are exceptions, but I've never run into one. Both the Exclusive and Nonexclusive Buyer's Agent Agreements used by California Association of Realtors state (You want the non-exclusive agreement for a lot of reasons,), in the absence of additional agreement, that any commissions paid out of the "cooperating brokers" amount on the MLS count against the buyer's obligation to the representing agent. This is typically agreed to be two percent in California, and I don't know the last time I saw a residential MLS listing offering less than that to the buyer's agent. The way the transaction is structured is that the selling agent gets the entire commission, but agrees via the listing contract and MLS to share a certain portion with the buyer's agent, if the buyer has one. Good buyer's agents typically beat the price down significantly more than two percent, especially in the current market. I am equipped to do value battle with that seller's agent in ways that members of the general public are not, and whereas it's true they don't have to negotiate with my clients, they've got to sell the property to someone. It's not like the real estate fairy is magically going to convert this property to cash.

Alternatively, if they keep you out of an unproductive bidding war, isn't that also saving you money?

Finally, if there's something you should know about a property, the buyer's agent makes certain the question gets asked and the answer disclosed to you. This eliminates a lot of potential surprises down the road, and gives you the opportunity to have a reason to exercise your contingencies.

In short, buyer's agents are the professional on your side, they typically do not cost you any additional money, they can save you a significant chunk on negotiations, and you're more likely to find out about potential problems with the property if you engage a buyer's agent.

Caveat Emptor

Original here

Once upon a time, this was a good way to get more money for your listing. This led to a classic tragedy of the commons. Because it didn't take hardly any extra time, and there was no reason not to do so, listing agents will claim there are multiple offers with practically every property. It's not like they are expected to furnish any evidence.

Because of this, in the last few months, I've had listing agents try to tell me that there were suddenly multiple offers on property that has sat on the market for months. If I don't see any evidence that there's a reason for it to suddenly have multiple offers, such as a recent massive drop in the asking price, I find these claims dubious at best. It might be believable if the property has been on the market for three days, and has not recently been listed before that. If it's been on the market more than three weeks, such a claim is likely to be making things up. I recently talked a pair of clients into making an offer on a property that had expired twice and been re-listed for a third time. A week prior to that, a special incentive to buyer's agents had expired. In short, there was every reason to believe that that we had a clear field, with nobody else making offers. As I always do, I included information on comparable properties that had recently sold in the neighborhood, of which I had inspected two, and the issues that this property had. The listing agent claimed there were multiple offers and gave the kind of counter I hadn't seen since the height of the seller's market years ago, demanding a "best and highest" counter. I and my clients jointly countered back that we'd agree to their conditions if they'd agree to our price, and gave them 24 hours to take it or leave it.

Before you claim that there are multiple offers, you do need to have multiple counters in point of fact. Because the flinty-eyed buyer's specialists know better. Even if they do, in fact, believe that you've got multiple offers, we're going to tell our clients that it's best to counter back as if the seller is lying. Essentially, we call their bluff. If they do have multiple offers and someone is stupid enough to play ball with them, that's no skin off my client's nose. It's not that much of a seller's market, and it won't be again anytime soon. If this seller doesn't want to be realistic, we can keep looking until we find a seller that is realistic. This is why property sellers need to protect themselves from lazy agents.

For an intelligent buyer in this market, even if there are multiple offers upon a property, it doesn't make us willing to offer more for the property. It means we want to expedite our deadlines for the sellers to respond, and it means we're likely to make subsequent counters with a multiple offer contingency (in other words, we're making offers on multiple properties now. If another offer gets accepted before you accept ours, we're going with that one). Mostly though, it means that this seller, and their listing agent, have their heads stuck in the land of wishful thinking, and it's time to consider another property because we can't force the sellers to be reasonable. Nobody can make them sell against their will, but we can find another property where they seller isn't so far gone in denial, and where the agent has done a better job of explaining the realities of the current market. It's not like there's any shortage of choices.

Let's face it: Unless you fax over the competing offer, complete with all terms and the competing agent's name and their contact information so I can verify it, there is no reason for me to believe that you have a competing offer. If you do this, the offer is either better than my clients', or not as good. If it's not as good, the leverage is provides is minimal in any market. If it's better than my clients' offer, it's either something my clients are willing to beat or it isn't. If it isn't, your leverage is still negligible. It's only if the other offer is better, but my clients are willing to beat it, that this trick offers you any leverage whatsoever. In this market, it's more likely to make us act like I discussed in the last paragraph - because no property is worth getting attached to before you own it. Let me baldly state that I also understand the potential benefits of collusion with your friend the agent from another office. She colludes with you on your client's property, and you collude with her on hers, each stating that they do, in fact, have clients making thus and such offers on that property. Since once again, it's trivial to convince yourself that it's in your client's best interest, even verified offers aren't going to mean a whole lot to a smart buyer's agent. It may no longer be a buyer's market, but there are still no properties worth a buyer getting attached to them before closing. And for all the properties I've made offers on where the listing agent claimed there were multiple offers, I've never had one of them offer any real evidence.

People willing to price their properties to the market, and negotiate realistically, can sell properties very quickly due to the fact that comparatively few sellers are competing well for the buyers that are out there. In the last couple months, I've been involved in the sale of two beautiful properties - and two others that were plug-ugly, but sold quickly because the sellers and their agents had their heads in the right place. In one instance, I even had someone bidding against my clients, but we nonetheless consummated the sale quickly.

If you're trying to sell and you negotiate unrealistically, you are only hurting yourself. That buyer's agent can find them something better, cheaper, making the agent's client much happier. Even if you do have multiple offers, it might be a good idea not to particularly act like it. You can check the multiple offers box without being aggressive about it.

The property I mentioned earlier? Where the agent and seller acted like it was god's gift to prospective buyers? It's still for sale, and my clients have moved into another property. The relocation company that owns it is out roughly $6000 per month. Had they priced it to market, and negotiated reasonably, they likely would have sold. If they simply negotiated reasonably, they would have sold it to my clients. My clients have their new home - they're happy. The sellers? Not so much. They're paying about $6000 per month for an empty property. It's been on the market for a year now, and it's not like they have any real alternative to selling. That's $70,000 they've flushed down the drain to no good purpose, and it's not like there's any chance of them getting more than the property is really worth.

For listing agents who refuse to act like their clients are competing for buyer business, they are violating client interests no less than if they counseled the client to accept an offer from someone acting as a straw buyer for the agent, personally. In fact, I rather suspect this particular agent of being Sherrie Shark, but there's nothing I can do for the owners as a buyer's agent. It's not legal for me to so much as contact them without going through "Sherrie". Nor would it benefit my clients in any demonstrable way. It just gets me and potentially my clients caught up in a legal morass to no beneficial purpose. So the owners are high and dry on their own. It's our profession's problem, but there's nothing I can do about it as an individual. The only person who can do anything about it is the property owner; this is one of many reasons why it's important to be careful in your choice of listing agent. Unlike a buyer's agent, you need to commit to a listing agent for a given period of time, and if you commit to the wrong agent, you have wasted your time of highest interest, when you will get the best price for the property.

Caveat Emptor (and Vendor!)

Original article here

One of the casualties of the lending meltdown is the high loan to value second mortgage. With many properties locally having lost twenty percent or more of their value, a second mortgage on a property that ends up in default may well lose every single dollar the lender put into the loan. It shouldn't surprise anyone that lenders don't want to get into that kind of situation. Even though I (and most other credible analysts) are convinced that real estate is now undervalued, the money markets are still in fear mode over the money they have lost or are on track to lose.

The result is that lenders of junior financing aren't nearly so willing to go close to 100% financing any longer. Even when the same lender is lending the money for both loans, the people who underwrite the second mortgages are (usually) a different division. So when the property goes to foreclosure, the division who underwrote the first mortgage may end up with every dollar or nearly every dollar of their invested money, and they come up smelling like a rose. The division that underwrote the second mortgage that got wiped out and came out with 10 cents on the dollar loses their shirts, and everybody gets fired. I don't have one single subordinate loan program offering over 90% financing - doesn't matter the credit score or how much we can prove the clients make. The lenders have all decided they are not willing to accept the risks of a high loan to value second mortgage. That's their prerogative - they who have the gold make the rules for lending it. With the situation as I've have discussed, and second mortgage lenders in the process of losing every penny they put into loans, they understandably don't want to do it.

There was an alternative for quite a while. There were, for quite a while, still any number of lenders who would accept 100% financing on one loan with Private Mortgage Insurance (aka PMI). That has been gone for a couple years now. In fact, for a couple months it was really difficult to get financing over 85%, but then they started removing the declining market indicator in July 2008, and now it's pretty easy to get 90% conventional financing, and I have a couple of ways to get to 95%. Considering that FHA financing only goes to 96.5% and is far more difficult to get, this means that the difference between conventional financing and FHA is small in terms of down payment, and considering the premium FHA-eligible properties command, being able to go conventional may save you money despite a PMI rate that's higher than for government loans (VA loans have become the only widely available 100% financing)

Private Mortgage Insurance is an insurance policy that the borrower pays for but which insures the lender against loss. It does get the borrower the loan, but that is the only good the borrower can expect to get out of PMI. It does not prevent your credit rating from being ruined, it does not prevent any deficiency judgments that you may be liable for, and it definitely won't prevent the 1099 love note that tells the IRS you owe taxes on debt forgiveness. All it does is shift the entity that loses the money from the lender to their insurer, so that if you default, you'll be dealing with the insurer instead of the lender via subrogation.

What is going on here is that lenders are shifting the risks to insurers, who are in the business of taking risks via the Law of Large Numbers. Yes, the insurers know they will lose a certain number of these bets, but they are comfortable that overall they will make money at it. It is to be noted that lenders can improve their profit margins by self insuring, but they're not in the business of insurance. I'm certain some of them insure themselves in one way or another, but they isolate the risks away from their lending divisions, which are in the business of making money by loaning it out and having those loans repaid in full. When a lender loses a dollar because the loan wasn't repaid in full, that hits them where it really counts - bond rating, stock price, value of their mortgage bundles on the secondary market. When an insurer loses a dollar due to paying a claim, that's part of their daily business. They're in the business of paying claims, fully expecting premiums to more than pay for those claims.

As I said in One Loan Versus Two Loans, PMI is more expensive than splitting your mortgage into two loans, but when nobody wants to do second mortgages with less than ten percent down payment, the choices may narrow down to accepting PMI or not buying the property. The only other alternative that comes to mind is a private party loan, either in the form of a Seller Carryback (which comparatively few people are willing and able to offer) or the "good in-law" loans that were popular before lenders started liberalizing their standards in the 1970s.

(I haven't been in the business that long. I've never heard the phrase actually used by another professional, although I actually did a transaction that involved one not too long ago. I learned it from textbooks, as even in the early nineties when I both bought my first property and went back to college for my accounting degree they were a fading memory)

Paying PMI does have the net effect of decreasing the loan that potential buyers will qualify for, so this development should cause some small amount of additional downwards pressure in prices. For those interested in irony, the lenders are contributing to their own immediate losses by bailing out of the low equity financing market. People who have to pay a higher effective rate for the money can't afford to spend as much for a property, which means that current owners, whether they're borrowers or lenders, won't be able to get as much money for them.

One last thing before I finish. Don't get too hung up on the fact that you may end up paying PMI when experts (myself included) advise you not to. It's one of those voodoo words and concepts like "points", that people freak out about because they've been warned about them but they don't really understand. Just like points, many experts, myself included, often advise you not to pay PMI. But if you have one loan that is over 80% loan to value ratio, you are going to be paying PMI in one form or another. As I said in How Do I Get Rid of Private Mortgage Insurance (PMI)?, it can be a separate charge or camouflaged by being built into the rate, but you're still paying it. There are advantages and disadvantages to each choice, as I explained in that article. Choose your alternative with your eyes wide open and an understanding of the consequences, not because someone scares with with the voodoo phrase, "PMI."

Caveat Emptor

Original article here

HI, My name is DELETED and my husband and I are searching for a way to get out of our Negative ARM loan before we get upside down.

Our problem right now is our loan to value. Our loan right now is at $547,367.80 and is only getting higher. Our house just appraised at $620,000.00. We have a prepayment penalty of $20,000.00 and would just like to get that covered. We feel we need a Jumbo loan if possible.

Our wish is to get into a 40 or 50 year fixed. My husband makes good money and I will be working in a couple of months making a decent income. Right now I am doing temp work. We can afford payments for our mortgage if we were to refinance but we are having a hard time finding someone who will take the risk with us. If there is a risk. We are just trying to get out of this loan that is going to end up taking our house from underneath us. Our credit is good and I feel there is a way something can be worked out

Can you help us?

I will try, if you're in California. First, let's stop and think a minute about your situation and what will benefit your pocketbook, rather than mine.

If you pay the penalty, your new loan is going to be approximately $570,000, even without points. The issue is that neither I nor any other loan provider can get you a loan that isn't available. $580,000 is more likely, considering prepaid interest, etcetera, unless you have some cash to pay it down. $570k and $580k are both within the band of 90 to 95%, so I have to price it as a 95% loan to value ratio. 95% loans are problematic for jumbo loan amounts, and since your loan is neither owned by Fannie and Freddie nor underwritten to Fannie and Freddie standards, the 125% refinance program is unavailable to you. I don't have any such programs over 90% - but it turns out that I do actually have a refinance that can be done on a "jumbo conforming" up to 90%, albeit with PMI.

So suppose you don't have to pay the penalty? Now staying at or below 90% loan to value is a real possibility, and the loan can be priced as a 90% loan, giving better trade-offs. The way we might be able to do this is to check if we can get your current lender to refinance you. It'll likely mean renewing your prepayment penalty, but better that than paying $20,000 in penalty. Even if you end up with a higher rate than you might otherwise get because your lender doesn't have the lowest rates, $20,000 is almost four percent of your loan amount. Over the course of the 3 years of the new prepayment penalty (since that's standard for negative amortization loans), you'd have to save over a percent per year to break even with another lender. As I said in "Getting Out of Paying Pre-Payment Penalties", sometimes lenders will not require you to pay a penalty if you refinance with them and accept a new penalty.

In short, if we check with your current lender first, we might save you $20,000 cash plus the interest on it. So let's figure out who your lender is and ask.

The second alternative is to find out how long until the penalty expires. Make at least the full interest payments every month until your payment expires. How long do you have left on the penalty? If you've only got six months or a year left, rates just weren't low enough when I originally wrote this to make it worth your while refinancing, especially Jumbo loans, which even if your loan to value ratio was below 80% would have still cost you nearly two points for a 7% loan. If you pay at least your current "interest only" payment, you're not getting in any deeper. When the penalty expires, maybe rates and the market will be in better shape and you'll get a better loan. Matter of fact, waiting was a moderately good bet that would have paid off back when I originally wrote this, especially as opposed to just flushing $20,000 paying that penalty. If people had less than a year left on the penalty, I was urging them to make the interest only payments (or more), and come back to me about three weeks before it expired. Conditions have changed now. In fact, at this update, rates are much better than when I originally wrote this article. For "Jumbo conforming", rates below 5% are very possible, but I don't know how much longer that will be the case

Even if you're only six months into your loan, we'd have to save you about about 1.5% on the rate for you to come out ahead by paying that penalty. $20,000 times 12/6 divided by $547,000 gives a current rate of 7.3%. As you'll see, a blended rate of 6.67 is about as low as I could have gotten for this situation when I originally wrote this. Your rate would have to had to have been at least 8.2% when I originally wrote this for paying that penalty to have been in your best interest.

The loan market today is a very different creature than it was a couple years ago. Let's look at the alternatives, assuming your lender will waive prepayment with a new loan. Even so, let's look at a loan amount of $558,000, which is about where you're going to be with closing costs and one point.

Before I close, it occurs to me to mention that before refinancing, you have to be certain you are actually able to make the new payments. Because the fact is that you owe $547,000 right now, and that's a cold hard fact that nobody is going to change. Quite often, people get put into negative amortization loans because that was the only way they're going to make the payment on that much debt even for a little while. If you cannot realistically make these payments, delaying the inevitable will only cost you more. As things sit, if you sell you might come away with a few thousand dollars if you sold now, and then you can buy something you can really afford. If you wait, things are going to get worse, and you're going to end up with a short payoff and a 1099 love note that says you owe taxes, plus maybe a deficiency judgment, having your credit ruined, and still not having the home of your dreams. This doesn't make me popular right now, but what people like you are going through now is the result of people in my professions who wanted to be rich and popular, rather than actually doing what was best for the clients. Were I in your shoes, I'd likely be asking a lawyer if there's some liability on the part of your lender and real estate agent.

Caveat Emptor

Original article here

One of the things I hear a lot is that people are getting cash in their pocket from a refinance rate where there is no rebate. "I'm not paying any closing costs!" they proudly tell me, "The bank is putting money in my pocket."

Chances are that's not what's going on. In fact, when the client gives me the chance to investigate, I find out that they are paying huge fees, which are all being added to the balance of the mortgage. But what they remembered was that the lender was also going to give them $1200 or $1500 in cash and add that to the balance on top of everything else.

For "A Paper" loans, Fannie Mae and Freddic Mac define the difference between a cash out and rate/term refinance. On a rate/term refinance, a client can have all costs of the loan covered, both points if any and closing costs. A client can have an impound account set up to pay property taxes and homeowner's insurance out of the proceeds. They can have all due property taxes and insurance paid. The client can have all interest paid for 30 to 60 days. And the client can get up to one percent of the loan amount or $2000, whichever is less, in their pocket. In addition to this, if the old lender had an impound account, the client will receive the contents in about 30 days.

Let's say you have a $270,000 loan on a $300,000 property - small for most parts of California and some other places, but large for most places in the country.

Here in California, yearly property taxes would be about $3600 on that. Insurance is about $1000 per year, monthly interest is $1237.50. I originally wrote this in September, so if you finished your refinance on that day, your first payment would be November 1. You'll make five payments before both halves of your property tax are due, and they want a two month reserve, so 12 months plus 2 months is fourteen months minus five months is nine months reserves they will want in property taxes (Actually, three months reserve plus the first half-year paid through escrow despite the fact you would normally have until December 10th). $3600 divided by twelve times nine months is $2700. Let's say Insurance is due in April, so they'll want eight months of that. $1000 divided by twelve times eight months is $666.67. Plus two points and $4500 in closing costs the lender charges, and they actually may have told you about it, but they emphasized the cash you are getting in your pocket so that is what a lot of people remember.

Even without the cash out, this works out to a new loan amount of $270,000 plus $2700 plus $666.67 plus $1237.50 plus $4500 plus two points which works out to $284,800 as your new balance without a penny in your pocket. If they gave you $1500, your new balance becomes $286,330 (remember the two points apply to the $1500 also!) which will probably be rounded to $286,350. Subtract $270,000, and they have added $16,350 to your mortgage balance but hey, you got to skip a month's payment and got $1500 in your pocket!

As I have said many times, however, money added to your balance tends to stick around a long time, and you are paying interest on it the whole time. Furthermore, lenders and loan originators love this because their compensation is based upon the loan amount. All because you allowed yourself to get distracted by the cash in your pocket. This is fine if it is what you want to do and you go in with your eyes open, but chances are if someone were to tell you "I'm going to add $16350 to your mortgage balance to put $1500 in your pocket and allow you to skip writing a check for one month!" you wouldn't agree to do it. Even if the rate is getting cut so your payment is $75 per month less.

For loans lower down the food chain (A minus, Alt A, subprime and hard money) the lenders set their own guidelines on what is and is not cash out, but Fannie and Freddie's definition is more strict than the vast majority.

So when somebody tells you they are going to put money in your pocket as part of the closing cost, ask them precisely how much is going to be added to your mortgage balance. Print out the list of Questions You Should Ask Prospective Loan Providers, and ask every single one. Because chances are, they are trying to pull a fast one, and once you are signed up, they figure they have you.

Caveat Emptor

Original here

Got a search engine hit for


do I make a big down payment on a home or should make a lump sum payment after the mortgage

It's hard to construct a scenario where using it as "purchase money" doesn't come out ahead. Not to say it can't be done, but it's highly unusual.

Here's the basic rule: You're allowed tax deductibility of the acquisition indebtedness, amortized, plus up to a $100,000 Home Equity Loan. For many years, the universal practice has been to deduct all of the interest on a "cash out" loan even though it's not permitted by a strict reading of the rules. That is now changing, and the IRS has served notice that they are going to be scrutinizing mortgage indebtedness to compare it to acquisition indebtedness, and disallowing anything over what they figure is the amortized amount of purchase indebtedness. For example, if you originally bought your property for $120,000 in 1996, and your original loans totaled $108,000, sixteen years later you might persuade the IRS that your deductible balance is about $85,000, as ten percent loans were common then. But if your property is now worth $500,000 and you've "cashed out" to $400,000, the IRS is likely to prove, well, skeptical of that deduction.

The other reason not to use your down payment money for a down payment is to save it for repairs and upgrades. There's only so many places that the money might possibly come from, and your own pocket heads the list. Cash back from the seller not disclosed to the lender is fraud, and if you do disclose cash back to the lender, you've defeated the only rational purpose for it, because they will treat the purchase price as being the official price less the cash back. You're not legally getting any extra net cash from the seller. Period. If you put the money down and then try to refinance it out, the refinance becomes a "cash out" refinance - the least favorable of the three types of real estate loan. Unless the rates have gone down or your equity situation has improved, you'll get better rates on a purchase money loan, not to mention not spending the second set of closing costs for the refinance because you only did the purchase money loan. Furthermore, at this update, lenders really don't like "cash out" loans - they are coming up with all kinds of obstacles to throw in the way. So if you need the money for repairs or to make the property livable, you're probably going to want to keep it in your checking account rather than using it as a down payment.

On the other hand, the search question postulates that you'll use the money to pay down what you owe, whether immediately at purchase or later on. After you put the money down, you'll have an improved equity situation, which means that you are likely to get a better price on the loan - a better rate-cost trade-off if you put the money down. Not guaranteed, but it is highly likely. A few years ago, 100% financing was generally available. It's not, any more unless you're eligible for a VA Loan, and FHA loans loans go up to 96.5%. For conventional lenders, I've got a couple that will go 95% if the PMI underwriter will accept you. If it's the difference between 95% financing and 94% financing, every lenders I know of treats 94% financing the same as 95%. But if it's the difference between 95% financing and 90% financing (or 95% and 80%, especially), you're likely to get a better loan. Which means you either spent less in costs, got a better rate, or some trade-off of the two. Less money spent equals more money in your pocket, or more money for the down payment, which translates as more equity. Better rate means lowered cost of interest. The fact that it's on less money also means lowered minimum payments, although you shouldn't be shopping loans based upon payment. More importantly, you don't pay interest on money you don't owe. If your balance is $10,000 lower on a 6% loan, that's $600 less interest per year - $50 real savings per month.

If for some reason you want to pay extra, and you're holding on to the money so your minimum payment will be higher, don't. Most loans allow you to pay at least a certain amount extra, and if you're one of those unfortunates with a "first dollar" prepayment penalty, I have to ask, "Why?" There are occasionally reasons to accept a so called "80 percent" pre-payment penalty. There's never a reason to accept a "first dollar" penalty. Not to mention that your lump sum will get hit with the penalty anyway, where if you used it as a down payment, it wouldn't.

If you think rates will go down, that's fine, but I've got to ask "What if they don't?" If they do go down enough to make it worthwhile to refinance, you can always do so. But you should want something you'll be happy with even if they don't.

Finally, I should note that there are arguments against paying off your mortgage faster. Paying extra on your mortgage does sabotage the gain you get from leverage. You could typically take the money and invest elsewhere at a higher rate of return. Psychologically, however, there's a peace of mind to be had from not owing money, or not owing so much money. The only sane way to define wealth is by how long you could live a lifestyle comfortable to you if you stopped working right now, and if you don't owe as much money, that time frame that determines your real wealth is obviously longer. In short, you're better off by the only sane way to measure.

The point is this: There are arguments to be made on both sides, and the circumstances can be altered by the specifics of your situation. My default conclusion remains that if your mind is made up that you're using a certain amount of money to reduce debt on the property, either from necessity or because you want to, then you might as well use it in the form of purchase money down payment.

Caveat Emptor

Original article here

A few days ago, I had an agent get angry at me about an offer below a range asking price. I had submitted the offer with extensive justification as to why it was an appropriate offer. Basically, this clown had overpriced the property, and thought that because he had put a range on it, people were somehow not supposed to make offers outside the range.

Just because you put range pricing on a property, does not, by itself, mean anything. As I've said before, you can ask for any price you want for your property. It doesn't mean the asking price is realistic. It means that you own the property and have the ability to put a price on the property that you want. This doesn't do you any good if the price is above what similar properties are selling for. Having been told it's for sale, buyers have the same options the seller does - they can offer any price they would be happy paying. The seller doesn't have to accept. In fact, the seller probably won't accept. If the buyer offers less than the property is really worth, than the seller is correct to reject the offer. On the other hand, if the buyer is offering what the property is really worth and the seller doesn't accept the offer, they are hurting only themselves.

Many sellers and their agents are shooting themselves in both feet by overpricing the property. When I originally wrote this, there were some special circumstances in effect - the lending panic, to be precise. It's mostly psychological, as there are any number of very solvent lenders willing and able to fund loans, but hysterical reporting grabs attention (which is why reporters do it). The net effect is that many buyers who would otherwise be in the market were still sitting on the sidelines, and so the ratio of sellers to buyers locally had ballooned to 47 to 1. Imagine yourself in a situation where the ratio of men to women is 47 to 1. The social dynamics are going to favor the women. Even if she's a fat slovenly harridan at the tail end of middle age, she's going to have her pick of men. The men, for their part, are going to have be both good looking and well off to attract even the woman in the previous sentence, and keep working hard to keep the woman around. If you're not willing to do what it takes, and keep doing what it takes, you might as well not bother. Now imagine that people who want to sell are the men, and people who are willing to buy are the women. If you're not willing to out-compete the other 46 sellers, why is your property on the market? If you need to sell, then you need to do what is necessary to out-compete those other sellers. Make it pretty. Make it cheap. And you still better be willing to work when an offer comes calling. If you're not, get the property off the market until the climate changes. I told you when I originally wrote this that I didn't think it was going to be long.

It was longer than I thought, but my market at least has changed. We now have people looking for relatively safe places to stash their cash, places that look likely to return an eventual profit, and real estate heads the list.

Range pricing a property at a value you're not willing to accept is a waste of everybody's time. There was a property on the market variable priced over $125,000 range, and my client made a very strong offer about $15,000 over the minimum. Lots of cash, good deposit, short escrow, no contingencies, etcetera. Under the circumstances, a very good offer considering what the property was really worth. Yet despite all the information we put in front of them, this seller kept countering at the same number, which was more than my client was willing to pay for that property. Net result: the whole process was a waste from the time we started driving to the property. Yes, they got a lot of activity, but since they weren't willing to sell for the price that generated the activity - or anything like that price - the property didn't sell. Since if the property doesn't sell, every penny you put into trying to sell is wasted, as is every second of your time, plus all of the carrying costs that you may incur. So the listing agent told me they'd had a dozen showings in a week - but if they're looking at the property because it's variable priced $75,000 below any offer the seller is willing to consider, well, self-stimulation may feel good but it doesn't produce anything. This entire situation is a failing on behalf of the listing agent, who is theoretically earning money because of their knowledge of the market and should know precisely how likely it is that buyers will agree to pay more than the comparable properties are selling for, which is to say, Not. In a 47 to 1 buyer's market, if you need to sell, you're almost certainly going to have to settle for less than comparable properties are asking. If you don't need to sell, get your property off the market until it changes. The sooner excess inventory clears, the sooner the turn towards sellers is going to happen. Not to mention your days on market keep climbing, and there's nothing beneficial about having a failed listing in a property's immediate past. The longer it sits unsold now, the harder it's going to be to sell for a good price later. But in a seller's market, things are different. For one thing, buyer's don't have all that power - sellers do. That's why they call them "buyer's market" and "seller's market": Who has the power.

Properly used, variable or range pricing can increase the sales price of a property. But the catch is that it must still be priced correctly. Range pricing is not an excuse for a lazy or incompetent listing agent to build owner expectations above market level. The rule of thumb is that the bottom of the range should never be lower than a good "all cash, no contingencies" offer, and the top of the range should never be more than market plus a reasonable premium for dealing with the uncertainties of financing and contingencies. Both figures should be modified downwards if the seller is asking for something extra in the way of consideration from the buyer - for example, leasebacks of more than a week or two, seller contingencies, etcetera.

When I originally wrote this, the way the market was in most of the country, I was inclining against range pricing. If it's priced correctly, that range is information I can use as a buyer's agent. Why would I want to hand the other side information I could put to use were I on the other side, especially when they already have the whip hand in negotiations? Range pricing is something that's primarily useful for sellers when the sellers have the power, and back then, it was the buyers that have the power. If it's not useful for the seller, why in the world would you want to put range pricing on a property? With blortloads of highly upgraded properties for sale then, I had absolutely no hesitation in telling my buyer clients to offer what we think the property is worth to them under the circumstances, and let the sellers decide if they want to do what's necessary to get the property sold. If they don't want to play, somebody else will. Either way, the buyers are happy. This seller can either decide they'll be happy with an appropriate amount of money, or the property can sit unsold. Which is pretty much the situation as it always is. Since then, my local market has changed - particularly with regard to what Mr. and Mrs. Average First Time Homebuyer see as an attractive property.

Range pricing is not a panacea. Range pricing is not something lazy or fearful agents can use to "buy" a listing with impunity, confident it'll work out in the end (it won't). Range pricing is not an excuse not to price your property to market, or not to negotiate hard with all of the facts at your disposal (if you don't have enough favorable facts at your disposal as to what comparable properties are selling for, your negotiating position is not strong). Range pricing is a way to offer clues to buyers and get them to the table with an appropriate offer when sellers have significantly more negotiating power than buyers. Range pricing is something to use sparingly when sellers have no power. There's nothing that says buyers have to offer you what you want. Not now, not ever. The only leverage sellers have over buyers is the fact that if this buyer won't offer something that is appropriate, somebody else will. That's very weak leverage when there's 47 properties on the market for every buyer, but it's much stronger when properties are flying off the market as soon as they're listed.

Caveat Emptor

Original article here

About half the listings around here do not have a single number asking price, but rather a range in which "offers will be considered". Even many agents have trouble understanding range pricing. I've seen and heard more than one agent rail against it, saying that it is essentially "repricing the home".

Range pricing began in Australia and was brought to the United States by a certain major real estate chain. That chain is not one I particularly like doing business with, but that doesn't mean range pricing is a bad idea.

Range pricing is a way of starting people talking, and to begin the negotiating process; nothing more. If there's no offer made in the first place, I can guarantee there will be no transaction. The idea of range pricing is to jump start the negotiations.

Range pricing is not appropriate for all properties, nor in all markets. In a buyer's market such as we had when I originally wrote this, I'm certainly more hesitant to use it, as it offers more information as to the owner's state of mind. In a seller's market where prices are rising rapidly and sellers have all the power, it gives an indication as to what a serious offer is and what it is not. In a buyer's market it tells some buyers exactly how much leverage they may have. I'm also more leery of using it on commercial properties.

One thing many agents (and others) misinterpret range pricing to mean is that any old offer inside the range should be accepted. This is the mark of an inexperienced negotiator. If they say offers will be considered between $400,000 and $425,000, that is not the same thing as saying "I want $425,000, but I'll take $400,000." There are many other terms and conditions on a purchase contract besides just the price, and there is no mandate to agree with even a full asking price offer if those other terms are prohibitive. Indeed, an agent who knows how to figure out other terms to offer in place of higher price is likely to save you far more than any commission they earn. Even price is rarely just price. For instance, if I write an offer for $410,000 cash, no contingencies, with a $10,000 deposit, most sellers should rightly treat that as superior to an offer of $425,000 with the seller paying $10,000 of closing costs and only a $2000 deposit, contingent upon financing for sixty days. Note that the seller nets over $4000 more if the latter offer actually closes, but the former is a much stronger offer and if two such offers were to come in and other things were equal, I'd strongly counsel taking the cash offer, especially as the latter offer is indicative of a not very well qualified buyer without much commitment to the idea of purchasing the property, and there would be a high probability that the transaction will not actually close. There are all kinds of terms on purchase contracts, and having a discussion as to what's important to the other side can be a way of making your offer much more attractive without necessarily raising your price. For instance, owner occupants are often understandably nervous about whether the transaction is going to close, and committing large sums to alternative housing before it actually does close. If you can think of a way to address that concern, you're miles ahead of the negotiator who can't. Every situation is different, and what works one time may not be appropriate to even offer the next.

So if I see a property with range pricing of $400,000 to $425,000, I want to educate my buyer clients that an offer of $400,000 exactly with the seller paying up to $20,000 of closing costs is not within the range indicated. Indeed, as I've said elsewhere for such offers, a $380,000 sales price with the buyer paying their own way is a superior offer from the seller's point of view. If they insist, I must and will submit it, but even in a strong buyer's market I wouldn't be surprised to see it rejected outright with no counteroffer.

In a strong buyer's market, those few buyers willing to purchase properties have an enormous amount of power, and this will always continue when the seller to buyer ratio gets out of whack. So in a buyer's market, I might actually offer significantly less than the asking price range, secure in the knowledge that if this seller rejects it, I'll find something just as good tomorrow where the seller will accept. Some will. So if some won't, so what? You learn to spot the sellers that have the power to refuse, and the ones who have to take anything vaguely reasonable.

Admittedly, I don't do a lot of listings, as most sellers don't like to listen when I tell them to price their property to the current market if they want to sell. (But if they don't want to sell, why are they talking to me?) But when I'm showing them what the market is like, and what reasonable prices for properties like theirs are right now, I'll ask a couple of questions once I'm convinced they understand. Everyone knows what they want to get for the property, and by the time I'm done, they better understand what a reasonable asking price is and why it's stupid to list for more. But after that, once I've explained that there are offers and then there are offers, and the price isn't the only thing worth paying attention to, I'll then ask them, "Now that you know what a realistic asking price is, what would be the lowest price you would consider selling for, if someone offered everything else you wanted? Great deposit, all cash, no contingencies for financing, etcetera?" Next I'll ask, "How far over the realistic asking price we've agreed on would you require going if the buyer came up with some odious terms: takes possession early, no deposit or not much of one, wants a long escrow, etcetera?" Rebates or seller paid closing costs always raise the necessary price at least dollar for dollar, by the way. A $380,000 offer with no rebate is superior to $400,000 with $20,000 rebate from both buyer's and seller's perspectives. Then, depending upon how much the seller needs to sell, I'll use that information to help me figure the endpoints of the asking range (assuming I'm not just going to use a single asking price). I won't just use either number, of course. But that, together with the state of the market and how much power buyers think they have in the market at the time, will give me a good feel for what the lower number of the range should be.

There is another, entirely different benefit to range pricing is that when the search is done on MLS or its substitutes, the lower number in the range is going to trigger your property coming up on more searches. If you're a listing agent, you know that MLS and MLS substitute buyers are more likely to be aggressive, and often unrealistic, bargain hunters, as opposed to people who really want to live in the neighborhood around this property. MLS inhabitants are not my favorite buyers when I'm listing a property, for that and other reasons. But if this property comes up on their search, they might look, and if they look, they might make an offer my client is happy to accept. If they don't even see it as they're searching, I guarantee no offer will come in from them. So range pricing helps me capture these people's attention. Whether interest, desire, and action follow is anybody's guess. But they might, where without range pricing they definitely wouldn't.

This doesn't mean I should put a lower end price on it that is lower than what the seller is likely to accept. That is just a waste of everyone's time. A buyer sees a property listed for $400,000, goes to look based upon that representation, and decides to make an offer - then it comes back that the seller isn't willing to really consider anything less than $430,000. Furthermore, the seller's time has also been wasted by encouraging that buyer to view the property. If the seller is not willing to consider an offer at that amount, it shouldn't be listed for that amount. If I get offers above minimum asking price that I'm reasonably certain can consummate, I'll even suggest raising the asking price while we consider them or negotiate. If I have an offer on the table for $450,000, it's not likely to be available to someone only willing to offer $420,000, and it is not reasonable or intelligent to have it listed for $420,000.

In short, range pricing, properly done, is not repricing the home, and it is a good way to get the buyer and seller to the table. It is not appropriate for every property in every market, but for those it is appropriate for, it's a useful tool. Properly used in a seller's market, it can even help your seller get a higher price for the property than any single number asking price you'd dare use.

Caveat Emptor

Original here


It shouldn't be any surprise to anyone with the headlines of the last few years that shopping for a mortgage loan has radically changed. Indeed, a lot of the regulatory changes seem directly aimed at what were the best lending practices - ways to force loan providers to change away from those best business practices.

I'm going to say this more than once in this essay: There are now significant costs for failed loans, costs that brokers and correspondents are now going to be forced to pay. This means that one way or another, consumers are going to be forced to pay them. There are two groups that can be required to pay them: People whose loan succeeds and is funded, or people whose loan fails and is not funded. Individual broker policy is going to determine which group of that broker's loan applicants pays for the costs of failed loans: The ones whose loan succeeds, or the ones whose loan fails. To determine which sort of broker you'd rather apply with, ask yourself "Do I want my loan to succeed?" If so, apply with a broker whose policy requires the failed loans applications to pay for the failed loans. If you don't want your loan to succeed I must ask, "Why are you applying?"

I need to do some political background and warmup in order to make sense later on. I need to tell you what has changed in the background, why it has changed, and what this means for the consumer. I did warn NAMB (the mortgage brokers association) that brokers were going to be used as the scapegoat for everything. It was the only way the bankers could avoid criminal indictment, public outrage, and the mob and pitchfork crowd known as Congress. President Obama, who is on one hand inciting the mob with pitchforks while on the other hand pretending to be the banker's friend, was one of those Senators at the heart of the reasons for the meltdown. You have only to examine the public record of the period from 2003 to the time everything started unraveling to find out who tried to reform the system in time to avert catastrophe and who stood in the way of reform. Old principle: The best way to avoid being the target of political lynchings for a disaster is to lead them yourself.

Not that lenders need a political reason to come after brokers and correspondents. It's a classic love-hate relationship. Lenders hate brokers in general, without whom their margins and profits on mortgage loans would be much higher, but they love the profits from the individual loans brought to them specifically by those same brokers. To give you an analogy from a time before the internet, once upon a time airlines used to regularly get together every year to try and set the prices for summer vacation fares higher than market, so they all would make a lot more money per ticket if they hung together as an industry. However, every year, the airlines as individuals would decide they wanted all the money in profits they would get from lowering their individual airlines ticket prices to attract people away from the competition. It was comical in a way, watching the same show year after year, with the same outcome. The airlines tried for years to get the federal government involved so that they could give their price-fixing the authority of law, but even Jimmy Carter was too smart for that - in fact it was he who deregulated the airlines rate and fare structure completely, resulting in an explosion of air travel as air travel suddenly became a lot more affordable. Lenders relationship to brokers is a lot like that. Sure, brokers bring them a lot of money and profit - but if there was some way to completely eliminate brokers, they would make a lot more money for every loan they did.

The difference between that situation and this is that the lenders and those who want to help them do away with brokers have gotten a lot more intelligent in the last thirty years. Instead of trying to accomplish their goals directly, they are raising the costs of doing business as a broker to make it harder for brokers to compete, and they have enlisted to aid of the government to that end. The government, in return for bribes known as "campaign contributions" has been only too happy to help, under the guise of "protecting consumers" which in fact, has been the exact opposite of protecting the consumers. It's as if they were designing changes to harm lenders and brokers who work in a way most aligned with consumer interests.

Let me go back to the dim and far off times of an just a few years ago. Effectively Shopping for A Real Estate Mortgage Loan was trivial: Get quotes, sign up with the one who was willing to guarantee their quote in writing for the best tradeoff between rate and cost. I could lock a loan based upon a verbal representation that you wanted it, and do the application and everything else afterwards. If you were concerned about whether the originator you signed up with intended to honor their guarantee, you could get a backup provider. This was pretty darned easy for a loan officer to set themselves up in compliance with. There was a good alignment between the way that the market worked and the needs and desires of the average consumer. No need for a deposit, no need to commit yourself to a single lender who could well be lying and it was extremely easy to provide good transparent loans and actually deliver the exact loan - rate and cost - of what got the consumer to sign up because I could lock that loan when right when that consumer said they wanted it.

Let me go over what has changed, which is two big things, each with multiple consequences for the loan originator who acts in accordance with consumer interests. The first is that lenders have acquired permission from regulators to discriminate against brokers with respect to loan fall out. Oh, they don't call it that - but that doesn't alter the fact that it is discrimination. The fig leaf being used to conceal - not very effectively - this discrimination is the secondary loan market. The lenders themselves don't hold the loan, but rather sell them to Fannie Mae, Freddie Mac, and Wall Street investment firms - whether directly or not. So when you lock a loan with a given lender, that lender is ordering the money from the secondary market so that they will have it when it's time to loan it to you. What happens when you don't actually get the loan? Well, the bank still ordered it, and Wall Street still supplied it and expects to get paid.

However, there has always been and still is a certain "slop" built into those contracts, with costs paid only when the "slop allowance" was exceeded. The lenders and Wall Street both know damned well that not every dollar ordered is going to be used in a funded loan, which is one thing they pay actuaries a lot of money for, and the actuarial estimates are usually almost frighteningly close on their "money ordering" contracts. The banks, however, are turning around and charging the brokers and correspondents for basically the full marginal cost for every single loan that doesn't fund, while allowing their "in house" loan officers to free ride, making uncharged use of the "slop allowance" built into the contract. This discrimination essentially transfers all of the costs for locked but undelivered loans onto brokers and their clients. It is costing consumers large amounts of money, but the regulators are permitting them to do it. Nor do the lenders penalize in any way their own loan officers who fail to achieve the same level of response they require out of brokers and correspondents. I've said for a long time that the best and the worst loan officers all work for brokers. That has changed - the only way for a bad loan officer to survive is to become a direct lender employee, working in a bank branch.

This means that if you lock a loan with a broker or correspondent, they're going to be forced to pay the lender they locked that with a fee if you don't carry through. So in order to protect our real customers - the ones that end up with a funded loan that actually gets the brokerage paid - brokers and correspondent lenders are having to be very careful with which loans they actually lock. Let me be very plain about how far reaching this is: What matters is that there is a lock without a funded loan. It does not matter why. It doesn't matter that the consumer decided they just didn't want it, that someone else had a better rate (or said they did), that the consumer could not in fact qualify for the loan at all, that the appraisal came in too low to fund the loan, that the lender rejected the consumer's application for an unforseeable reason, or any other excuse. What matters is that there was a lock but not a funded loan. This has the effects of raising a broker's costs - which means they have to raise prices to compensate, or make certain it isn't our actual clients who end up with a funded loan who pay those costs. This, in turn means that the way to success for a broker or correspondent is going to be putting the costs for failed loans upon the people whose loans fail. Failure to do that means that the people whose loans succeed are going to be pay for the people whose loans fail. Not to mention that the loan officer who has more than a low percentage of loans fail is going to be facing higher costs for all of their new loans, because the lenders are going to be requiring a higher premium to do business with them.

In short, you can pick a low-cost loan provider, OR you can pick a loan provider where there's no risk and no cost if your loan falls apart. There will be no loan providers where both options exist - those places in denial of these changes are out of business now. The costs for failed loans exist, and someone has to pay them. It can either be the people whose loans fail, or it can be the ones whose loans succeed. Ask yourself if you want your loan to succeed or if you want your loan to fail to tell you which sort of broker you should be looking to apply with.

The second major change impacting lending practices is the Home Valuation Code of Conduct (hence HVCC), and the genesis of this is even more shadowy than that of the changes due to fall-out. I don't like it, but neither I nor anyone else in the lending business has the option of ignoring it. It is the new law of the land, having to do with the way that appraisals are handled. First, there isn't going to be any more developing a relationship between a good loan officer and appraiser with the idea of protecting the clients. It's not going to stop the bad loan officers or appraisers from doing everything they have done in the past, but it will stop the good stuff. Instead of ordering an appraisal through a specific appraiser, loan officers now have to order through appraisal management companies. This means I no longer have the ability to stop using bad appraisers - the ones who waste client money, the ones who produce substandard appraisals the underwriters reject, the ones who take so long to produce the report that I have to extend the rate lock because of their delay.

Second, the loan officer who orders the appraisal is now obligated to pay for it, which means that loan officer has a choice of either getting money in advance, or of charging successfully funded loan clients enough to pay for all of the appraisals of unsuccessful loan applicants as well as their own appraisals. The loan officer is prohibited from having the client write the check directly to the appraiser. Finally, most lenders as well as Fannie Mae and Freddie Mac are now requiring that the appraisal be written in the name of the actual lender instead of the broker. This means that despite the fact that I must pay the appraiser for the appraisal, the actual lender owns that appraisal, and if I want to change the lender for some reason, I have to get that lender to release it. Not likely. Even if the lender rejected the loan, getting them to release the appraisal is just about impossible. This means I have to pay for another appraisal if I want to try again with another lender, which really means the consumer has to pay for another appraisal as well, and there's no guarantee the second appraisal is going to be good even if the first one was. The appraisers are happy about this feature, as are the lenders. Consumers, not so much. It's not good business, and it's not good government. It is, however, what we're now stuck with.

So what does this all mean to consumers?

First, it means that those loan providers who really do provide low cost loans are going to have to get enough money from consumers to cover the cost of the appraisal before they order it. We should all be adults here, which means we should understand that if the loan provider doesn't do this, when your loan funds you are going to be paying not only the costs for your own appraisal, but a higher margin to cover those appraisals that did not result in funded loans. Make your choices of loan provider accordingly.

Second, it means that low cost loan providers can no longer guarantee to lock their best rate/cost tradeoffs immediately. I'm sorry, but if I lock every loan on a verbal indication that you want it, too many of them are going to fall out, which means I'm going to be liable for not only the appraisal costs of those loans that fail, but all of the costs that the lenders I lock with will charge me for failing to deliver that loan. Furthermore, if I have a high fall out ratio, the lenders will charge me extra to lock the loan and possibly even refuse to do business with me at all. This means I wouldn't be able to offer low cost loans - in fact, I'd be lucky to do much better than the lenders themselves. All of this is real money, and neither I nor anyone else can stay in business without paying those costs somehow. Since your loan officer has stayed in business thus far, you can safely assume they've got a plan in place for paying those costs. If you don't understand what it is (in other words, through being asked to pay some money up front for the appraisal, and waiting to lock until there is a reasonable assurance that loan is actually going to fund), then if your loan funds, you are going to be paying an extra margin for all of that loan provider's loans that don't fund, in addition to the specific costs of your own loan. In other words, by insisting upon no risk to yourself - no risk of losing the appraisal money, no risk of not getting the rate you're quoted - you will waste an awful lot of money if your loan actually funds. And lenders are permitted to lie to get you to sign up, same as always. Even with the new rules for the Good Faith Estimate, it's not that much harder to lie to consumers at loan sign up, and the loan officers who want to have the loopholes completely figured out.

Third, it means you're going to have to be very careful about Questions you ask your loan provider. Be very through, and insist upon specific answers. Beware of misdirections like "we honor our commitments" because nothing you get at loan sign up is in any way, shape, or form a commitment. What I'm having to talk about now is "What I could guarantee to deliver if I could lock your loan right now", because unfortunately, neither I nor any other loan officer can any longer lock loans until reasonably assured they will fund. Those loan officers who do lock everything early are going to be providing much higher cost loans, and that is for the very short period of time until lenders refuse to do business with them due to unpaid fall-out fees.

It's a situation of the sort made famous by Catch 22. Loan officers can protect the interests of the loans that fund, or the loans that don't fund - but protecting the interests of the loans that fund means you get a lot fewer loan applications, and scare off a lot of uninformed borrowers who haven't considered the consequences of their choices.

This is precisely the situation that lenders want to foster with regards to brokers and correspondents - because the average loan consumer isn't informed, hasn't considered the consequences of their choices, and is very hesitant to write a check for that appraisal upfront when they're not certain they're going to get a funded loan. It is nonetheless the intelligent thing to do, and failing to do so is going to cost you a lot of extra money.

"Might as well go back to the lender's themselves!" you say. Let's do something I don't usually do: Mention names and specific examples. Let's consider a $400,000 purchase money loan on a $500,000 property for someone with a absolute dead average median FICO score of 720, primary single family detached residence in San Diego California with a 60 day lock. All loan quotes were current as of when I wrote the original article for this:

Citi: 5.125 with one eighth of a point discount plus their normal origination which they won't detail online.

Ditech was quoting 4.625% for 2.1 points - but they're not telling you how long the lock is for. I'm not seeing if that includes origination, so even though I believe that the answer to whether it includes origination is really "No", I'll act as if it's "yes"

Chase was 5.375 for one point discount, 4.875% for two.

Union quoted me a lot of different loans, none of which are competitive (6% with one point on a fifteen year fixed rate loan - and fifteen year rates are lower than a thirty year loan everywhere else right now)

I couldn't get Bank of America to quote online.

GMAC wouldn't actually quote either - referring me to a phone number.

Same story with Flagstar

Wells Fargo wants me to sign up for rate alerts, but they won't give me an actual quote either

By comparison, at the exact same time I was able to get my clients the same 30 year fixed rate loan at 5.125% with no origination and no discount - no points at all. I made my normal money per loan off the secondary market premium with no borrower cost. If you're willing to pay origination but no discount, the rate was 4.75%. On a sixty day lock, which I've never needed in my life - but that's the shortest some of the lenders are willing to tell us about, so let's play fair. To nail down the difference in pricing absolutely, I've got 4.625% for 1.25 total points discount plus origination. So the closest any of the direct lenders can possibly come to what I really can offer at the same rate is at least 85 basis points more expensive, and I'm not certain a couple of them aren't quoting to a credit score twenty to forty points higher than I am. To put this into dollar terms, 85% of a point is about $3400 in this case. Nor were the credit unions any better on their rates than the major lenders. You want to just waste an absolute minimum of $3400 by applying with a direct lender because that's easy, be my guest, but that's the minimum difference it could possibly have been on this direct comparison. In reality, you're likely talking $7500 to $10,000 difference in costs for the same rate.

Why is it so much? Brokers are more efficient. Nobody expects me to have a beautifully landscaped building, plush carpet, beautiful furniture, a well-paid receptionist, etcetera. I make money when I fund loans. Bank employees make money whether they're funding loans or not. Get the idea?

No matter how much more efficient brokers are though, things have gotten a lot tougher for brokers of late, and consumers are now have to take a lot of the risks that lenders and brokers and correspondents (oh my!) were formerly assuming on their behalf. But the best and cheapest place to get a loan delivered to quoted specifications is still find a good broker. Getting a good loan is going to become a lot more a matter of developing a good relationship with that broker. This isn't to say "Don't shop around,", this is saying, "Shop effectively" because the game with phone quotes or email quotes that most consumers are playing that they think is getting them great loans is in fact, costing them an awful lot of money as opposed to what they could be getting by slowing down and having a real conversation with prospective loan providers. I don't often make $3400 (the minimum difference from the actual example above) for a day's work, which equates to a yearly gross of $680,000 for a day spent shopping your loan effectively. Someone making $680,000 per year doesn't need a loan for a $500,000 property, so I suspect the time it takes to slow down and have the full conversation will pay for itself for those folks, too.

As I said at the beginning of this article, the changes in the market in the last year are such that they are almost calculated to drive the low cost loan provider with consumer driven practices of a year ago out of the business. I'm not happy about any of these changes, but I have two choices: Do what is necessary to change, or leave the business. It won't help me or consumers to leave the business. All it would do is leave me broke and competing for limited employment opportunities while the consumers I would otherwise serve are left at the mercy of less ethical higher cost providers.

Now more than ever before, the sign of a good low cost loan provider is one who doesn't ask their serious loan applicants who really want a loan to pay for the costs of the unserious jokers who are just shopping ad nauseum for the sort of loan officer that's going out of business as we speak. As I said, these extra costs exist. They have to get paid somehow. You can choose a loan provider who makes the failed loans pay their own costs, or you can choose a loan officer who makes the successful loans pay for the costs of the failed loans. Everybody else is going to be out of business. And all of the consumers that kid themselves otherwise are wasting thousands, if not tens of thousands of dollars.

Caveat Emptor

Original article here

Many folks have no idea how qualified they are as borrowers.

There are two ratios that, together with credit score, tell how qualified you are for a loan.

The more important of these two ratios is Debt-to-Income ratio, usually abbreviated DTI. The article on that ratio is here. The less important, but still critical, ratio is Loan to Value, abbreviated LTV. This is the ratio of the loan divided by the value of the property. For properties with multiple loans, we still have LTV, usually in the context of the loan we are dealing with right now, but there is also comprehensive loan to value, or CLTV, the ratio of the total of all loans against the property divided by the value of the property.

Note that for instances where you may be borrowing more than eighty percent of the value of the home, splitting your loan into two pieces, a first and a second, is usually going to save you money, if the loans to do so are actually available. See here for an example, but government loans ( VA and FHA) are an exception to this. At this update I am unaware of any second loan program that will loan over ninety percent of the value of the property, meaning one loan with PMI may be your only option.

The maximum loan to value ratio you're going to qualify for is largely dependent upon your credit score. The higher your credit score, the lower your minimum equity requirement, which translates to lower down payment in the case of a mortgage.

Credit score, in mortgage terms, is the middle of your credit scores from the 3 major bureaus, reported upon a scoring model proprietary to a company called Fair-Issacsson. If you have an 800, a 480, and a 500, the middle score, and thence your credit score, is 500. If the third score is 780 instead of 500, your score is 780. If you only have two scores, the lenders will use the lower of the two. If you have only one score, most lenders will not accept the loan. I've never seen scores that divergent, but that doesn't mean it couldn't happen. Usually, the three scores are within twenty to thirty points, and a 100 point divergence is fairly unusual. Despite what you may have heard or seen in advertising, according to Fair Issacson (who set the parameters) the national median credit score is 720. See my article on credit reports for details.

In order to do business with a regulated lender, you need a minimum credit score of 500. There are tricks to the trade, but if you don't have at least one credit score of 500 or higher, you're going to a hard money lender or family member.

Exactly what the limits are for a given credit score is variable, both with time and lender, even when you get into A paper. Subprime lenders (when we had true subprime) would go higher than A paper, but the rates would have also been higher. Nonetheless, there are some broad guidelines. At 500, only subprime lenders will do business with you, and they will generally only go up to about 70 percent of the value of the home. A few will go to 80 percent, but this is not a good situation to be in. Note that at this update, true subprime is basically non-existent. It isn't the lenders; it's the investors behind those lenders not being willing to loan money. The shenanigans that were worked with bond ratings mean that nobody wants to take a chance, and there are people with legitimate needs for subprime loans that neither I nor anyone else can help right now because of it. I hope the so-called ratings agencies get sued and the investors win everything.

When I first wrote this, at about 580 credit score, you could find subprime lenders willing to lend you 100 percent of the value of the home, provided you could do a full documentation loan. These days, subprime won't go over about 80% of value, period. 580 also used to be where Alt-A and A minus and government program (VA and FHA) lenders start being willing to do business with you. These days, you're more likely looking at 620 to 660 for those.

At 620, the A paper lenders start being willing, in theory, to consider your full documentation conforming loan. They won't do cash out refinances or "jumbo" loans until a minimum of 640, but they will do both purchase money and rate term refinances at 620 or higher. Below about 660, you can expect to be limited to about an 80% loan to value in the current financial environment.

At 640 is where subprime lenders used to start considering 100 percent loans for self-employed stated income borrowers. Not any more. Stated Income is essentially dead, although I'm starting to see a few portfolio lenders that will consider stated income loans. I haven't submitted any so I don't know how hostile the underwriting process is firsthand, but I would not expect it to be friendly.

660 is now where A paper will start considering conforming loans above 80% loan to value. The PMI companies are really leery of accepting credit scores below that, and there are heavy hits on the tradeoff between rate and cost below about 740, but they are obtainable. Furthermore, expect that someone whose credit is lower than 720 will probably not be able to get PMI on loans 90% or higher of the purchase price.

It is to be noted that just because you can get a loan for only so much equity, it does not follow that you should. Whereas the way the leverage equation works does tend to favor the smaller down payment, at least when prices are increasing, it can also sink your cash flow. So if the property is a stretch for you financially, it can be a smarter move to look at less expensive properties to purchase. I have seen many people recently who stretched to buy "too much house" only to lose everything because they bought right at market peak with a loan they could not keep up. Many of these not only lost every penny they invested, but also owe thousands of dollars in taxes due to debt forgiveness when the lender wrote off their loan.

Right now, there is only one commonly available purchase loan that will support 100% financing: The VA loan, which actually goes to 103% to allow the financing of some closing costs. FHA loans require a 3.5% down payment, and I can do conventional conforming purchase money loans with a 5% down payment, albeit with a PMI and a highly restrictive choice of lenders. 90% financing is very commonly available on conforming loans ($417,000 minimum, higher in certain high cost areas such as San Diego where I work). For loans above the conforming limits, sometimes I can get financing above 80% (up to 90%) .

There are other ways to buy with a smaller down payment: Seller Carrybacks and some municipal first time buyer programs to name the two most common, but both of these start a long time before you've got a purchase contract, and your agent had better be able to write and negotiate a purchase contract the right way or you're going to find yourself dead in the water. Acting within narrow time windows is typically also necessary.


There are other factors that are "deal-breakers", but so long as your debt to income ratio is within guidelines and your loan to value is within these parameters, you stand an excellent chance of getting a loan. All too often, questionable loan officers will feed supremely qualified people a line about how they shouldn't shop around because they're a tough loan and "you don't want to drive your credit score down." First off, the National Association of Mortgage Brokers successfully lobbied congress to do consumers a major favor on that score a few years back. All mortgage inquiries within a fourteen day period count as the same one inquiry. Second, the vast majority of the time it's just a line of bull to keep people from finding out how overpriced they are or to keep you from consulting people who may be able to do it on a better basis. I've talked to people with 750 plus credit scores, twenty years in their line of work, and a twenty percent down payment who had been told that, when the truth is that a monkey could probably get them a loan! By shopping around, you will save money and get more information about the current status of the market.

Caveat Emptor

Original here

Many people have no clue how qualified they are as buyers, or borrowers.

There are two ratios that, together with the credit score, determine how qualified someone is for a loan.

The first, and by far the more important, is debt to income ratio, usually abbreviated DTI. This is a measurement of how easy it will be for you to repay the loan given your current income level. One point that needs to be made is that this ratio protects you as much as it does your lender. You've got to be able to make those payments, and if you can't, you're going to suffer far worse consequences than simply not getting the loan. Better for you as well as the lender to deny a loan with an unmanageable debt to income ratio.

The debt to income ratio is measured by dividing total monthly mandatory outlays to service debt into your gross monthly income. Yes, due to the fact that the tax code gives you a deduction for mortgage interest, you qualify based upon your gross income. This ratio is broken into two discrete measurements, called front end ratio and back end ratio, for underwriting standards. The front end ratio is the payments upon the proposed loan only (i.e. principal and interest), whereas the back end ratio adds in all debt service: credit cards, installment loans, finance obligations, student loans, alimony and child support, and property taxes and homeowner's insurance on the home as well. With the current paranoid lending environment, the front end ratio has become significant where it was formerly almost ignored. I have seen front-end ratio become a real concern in a couple of recent loans. The thing that will break most loans, however, is the back end ratio.

As to what gets counted, the answer is simple. The minimum monthly payment on any given debt is what gets counted. It doesn't matter if you're paying $500 per month, if the minimum payment is $60, that's what will be counted.

"Can I pay off debt in order to qualify?" is a question I see quite a lot and the answer depends upon your lender and the market you're in. For top of the market A paper lenders, who have to underwrite to Fannie Mae and Freddie Mac standards, the answer is largely no. If you pay off a credit card where the balance is $x, there's nothing to prevent you going out and charging it up again. Even if you close it out completely, the thinking (borne out in practice, I might add) is that you can get another one for the same amount trivially. "Won't they just trust me to be intelligent and responsible?" some people will ask. The answer is no. Actually, it's bleep no. A paper is not about trust. A paper is about you demonstrating that you're a great credit risk. Even installment debt is at the discretion of the lender's guidelines. If they believe that what you really did was borrow money from a friend or family member who expects to be repaid, expect it to be disallowed. Therefore, the time to pay off or pay down your debts is before your credit is run and before you apply for a loan.

For subprime loans (when real subprime existed), the standards were looser. As long as they could see where the money was coming from, they would usually allow the payoff in order to qualify.

Many folks thought that stated income loans didn't have a DTI requirement. They did, when they existed. As a matter of fact, stated income was even less forgiving than full documentation loans in this regard. As I keep telling folks, for full documentation, I don't have to prove every penny you make, I only have to prove enough to justify the loan. If what I proved before falls short, but the client has more income, I can always prove more. For stated income, we had to come up with a believable income for your occupation, and then the debt to income ratio is figured off of that. Even if the lender agreed not to verify income, they were still going to be skeptical if you change your story. "You told me you make $6000 per month three days ago. Now you're telling me you make $7000 per month. Which is it? Please show me your documentation!" In short, this loan had now essentially changed to a full documentation loan at stated income rates. Nor were they going to believe a fast food counter employee makes $80,000 per year. There are resources that tell how much people of a given occupation make in the area, and if you were outside the range it would be disallowed. So you had to be very careful to make certain the loan officer knew about all the monthly payments on debt you're required to make. Sometimes it doesn't show up on the credit report and the lender found out anyway.

Debt to income ratio has nothing to do with utilities (unless you're in the process of paying one of them back). Utilities are just living expenses, and you could, in theory, cancel cable TV if you needed to. Once you owe the money, you are obligated to pay it back.

As for what is allowable: A paper maximum back end debt to income ratios vary from thirty-eight to forty-five percent of gross monthly income. I'm a big fan of hybrid adjustables, but they are, perversely, harder to qualify for under A paper rules than the standard 30 year fixed rate loan despite the lower payments. This is because there will be an adjustment to your payment at a known point in time, and you're likely to need more money when it does. Note that for high credit scores, Fannie Mae and Freddie Mac have automated underwriting programs with a considerable amount of slack built in.

Some things count for more income than you actually receive. Social security is the classic example of this. The idea is that it's not subject to loss. Once you're getting it, you will be getting it forever, unlike a regular paycheck where you can lose the job and many people do.

Subprime lenders would usually, depending upon the company and their guidelines, go higher than A paper. It's a riskier loan, and you could expect to pay for that risk via a higher interest rate, but even with the higher rate, most people qualified for bigger loans subprime than they will A paper. Some subprime lenders would go as high as sixty percent of gross income on a full documentation loan.

Whatever the debt to income ratio guideline is, it's usually a razor sharp dividing line. On one side you qualify, on the other, you probably don't. If the guideline is DTI of 45 or less, and you are at 44.9, you're in, at least as far as the debt to income ratio goes. On the high side, waivers do exist but they are something to be leery of. Whereas many waivers are approved deviations from guidelines that may be mostly a technicality, debt-to-income ratio cuts to the heart of whether you can afford the loan, and if you're not within this guideline, it may be best to let the loan go. You've got to eat, you probably want to pay your utility bills, and you only make so much. Debt to Income ratio is there for your protection as much as the bank's.

Caveat Emptor

Original here

The companion article on Loan to Value Ratio is here.

Having written several articles on Negative Amortization Loans, telling of the details of what is wrong with them, and even destroying the myth of Option ARM cash flow, I sometimes get asked if I would like to see them banned completely.

Well, given the pandemically misleading marketing that surrounds these loans, and pandemically poor disclosure requirements, I am tempted. It only takes one person losing their life savings and having their financial future ruined to make a very compelling story, and I've seen a lot more than one and read about many more. Furthermore, it's almost a moot point right now. The requirements for offering them are onerous and nobody does.

However, when you ask if they should be banned outright, I have to answer no.

Part of this is my libertarian sympathies. Adults should be allowed to make their own mistakes. But there are economic and a realpolitik reasons as well.

The fact of the matter that just because Negative Amortization loans are oversold under all of the friendly-sounding marketing names such as Option ARM, Pick a Pay, and even 1 Percent Loan (which they are not), does not mean that there is no one for whom they are appropriate or beneficial. People for whom these are appropriate do exist. Consider someone with crushing consumer debt, and no significant usable equity on a home they've owned for a while. They sell the home, they end up with nothing and still have the consumer debt. They can't refinance cash out. But if you put them into an Option ARM for a while, you remove from several hundred to over a thousand dollars per month from their cash flow requirements. In three years, they will pay off or pay down those consumer debts, and then you refinance to put them back on track, and the money that has accumulated means nothing compared to what they've paid off. Yes, if the market collapses they're likely to be in trouble, but if you don't do it, they're in trouble at least that bad now. It's a very narrow niche, but it does exist.

Consider also someone starting a business. Cash flow insolvency is what kills most start-up businesses. Until the customer base builds, they don't have enough money to pay the bills. Lower monthly cash flow requirements on their house can mean the difference between success and failure of their business, far outweighing the cost of the extra money in their balance that they accumulated. Furthermore, the fact is that when their cash flow gets tight, they're not making the mortgage payment anyway. They are likely to lose both business (through insolvency) and property (through foreclosure) if the business fails anyway, and the lowered cash flow requirements of the Negative Amortization loan may give the business more of a chance to succeed, and once it is profitable it will pay back the investment many times over.

There's still a need to really explain what's going on, and all of the drawbacks of the loan, but people in these two circumstances really do have a valid possibility of it being in their best interest. Banning negative amortization loans completely takes away that option, thereby hurting those people.

When I first wrote on this subject, I didn't think it was politically possible to ban these loans that have now cost millions of people their homes, their credit rating, and their life savings. So far that is holding up. They're not actually banned; it's just that no investors are willing to take a chance on loaning money for them right now. Furthermore, due to the cries of the wounded beast, the law now mandates some tough disclosure requirements for them - some few of which are for the benefit of the consumer.

Disclosure requirements are is an approach that will work. That is, at this point, what really killed the negative amortization loan sales. The scumbags who made a habit of selling these now have to tell the prospective victims in easy to understand language and easy to read print about all of the problems they are letting themselves in for with these loans, very few people are going to sign on the dotted line. I originally suggested this: "Caution: If you accept this loan, the 1% is a nominal, or in name only, rate. You are really being charged a rate of X%, and this rate will vary every single month. If you make the minimum payment, your loan balance will increase by approximately $Y per month at current rates, or Z percent within five years. You will have to pay this money back in lump sum if you sell, or with higher payments at a later date. If you cannot afford full payments now, you will unlikely be able to afford them in the future after your balance has increased. There is a three year prepayment penalty on this loan, and if you sell the property or refinance within that time, you will pay a penalty of approximately $A in addition to whatever additional balance has accrued. It is currently under consideration that the mere fact that you have one of these loans will have significant derogatory effect upon your credit rating, even if you never make a late payment, due to financial difficulties encountered by borrowers with this kind of loans in the past." I could go on in bullet points for a couple of pages, but I trust you get my point. What the government did in fact do is technical and shorter, but similar. Enough so that with some less stringent warnings in writing from the federal government, the least any marginally competent adult is going to do is find out what's really going on.

Furthermore, the only way disclosure requirements could be fought by the industry is behind closed doors. The only way it stays behind closed doors is if nobody raises a political stink, and it's easy to raise a political stink about stuff like this. Newspapers and television reporters and bloggers all converge on the issue, and the industry is left in the awkward position of crying because they have to tell the truth. That doesn't play well with the American public. The way this plays with the American public is the major reason for the successes of Porkbusters, among others. Despite some very entrenched and very powerful enemies lining up against them, they've won on a couple of big issues because of the power of the idea that the American people have that the truth should be told. Take the tack that all you want is for the industry to tell the truth, and watch the political wind die out of their sails. David beats Goliath pretty reliably in American politics when the issue is "Do I have to tell the truth?"

To summarize, it is tempting to try to ban negative amortization loans. But it is far better social and economic policy to go the disclosure route instead, and far more likely to be politically successful.

Caveat Emptor

Original here

It has become very trendy to ask for pre-approvals on loans, because so many escrows are falling through. Unfortunately, as I have explained in the past, Loan Pre-Approval Means Nothing, and prequalification means even less. Both are literally wasted paper. As far as actually meaning anything you can hold someone to, they're useless. Worse than used toilet paper, which was actually put to some useful purpose once upon a time.

I never trust either a pre-qualification or pre-approval unless I did it. As I've said before, there is no accepted standard for either. Furthermore, I doubt there ever will be. Agents aren't asking for these pieces of waste paper because they're concerned about their listing clients. They're asking for them to cover their own backside so they don't get sued when the transaction falls apart.

There's no way on this earth that you can promise that owner that the transaction isn't going to fall apart. Accepting any offer always has some attached risk. If the buyer can't actually get the loan funded, the seller is out of luck as far as getting that purchase price for the property, and you'll have to go back to square one.

This isn't to say that the seller is out the whole amount. The buyer risked whatever good faith deposit, which should be at least enough to pay the costs of carrying the property for a month or two. This isn't to say that the seller is necessarily entitled to the deposit or that escrow will automatically remit it to them. There are rules about that. But the contract is very carefully written to limit the amount of time before the seller is entitled to the buyer's deposit. If you're concerned that the buyer may flake, or not be able to qualify, the correct thing to do is negotiate more of a deposit and more favorable terms for it to come to the seller in the purchase contract. If listing agents were really trying to protect their seller clients from failed transactions, they'd be focusing in on larger deposits and trying to get them paid to the seller while the property is still in escrow. That's real protection for the seller. Of course, many buyers will walk away from such terms, meaning that it goes from a possibility of that listing agent getting paid to no possibility of that listing agent getting paid.

Buyers understand the deposit in cash terms. They scraped and saved this money in real time, dollar by dollar. It's real to them, and they don't want to risk it. You've got a better chance of getting $10,000 more on the price with most buyers than of getting a $1000 higher deposit, or more favorable terms for forfeiture. Of course, a lot of buyers choose to go unrepresented or use the listing agent to represent them. Both are silly, when you understand what's really going on. But demanding a high deposit, or harsh terms of forfeiture, is a good way of scaring off potential buyers. Savvy agents understand that an increased deposit is a way to get a better price for their buyers. If you require a high deposit and harsh terms of forfeiture, you are discouraging certain buyers, shrinking the pool of potential purchasers, thereby lowering the likely eventual price.

Of course, being able to negotiate a good contract is a major part of what an agent's getting paid for. In some circumstances, high deposit will be appropriate. For instance, if the buyers are getting a really good price. If I'm getting a property $100,000 cheaper than comparables around it, I shouldn't mind putting up a bigger deposit, or agreeing to more stringent terms for forfeiture. On the other hand, if I'm paying top dollar for the property, I'm going to be a lot more guarded. Mind you, I don't make offers without evidence that my clients can qualify for the necessary loan, but I'm going to want that seller to assume more of the risk of the transaction falling through. If they're getting a good price, they should be willing to. If they're not so willing, they're basically saying that the transaction isn't worth the increased risk. Remarks about having your cake and eating it too apply. I'm certainly willing to persuade my clients to offer a better deposit to get a lower overall price. But I'm also perfectly willing to tell an overaggressive seller to go jump in the lake if they want harsh terms for the deposit without my client getting something tangible in return. The reverse of each applies when I'm listing a property. If the buyer is offering - or willing to offer - a large deposit or terms that are generous to my client, I may counsel acceptance of such an offer where I wouldn't of an otherwise identical offer with a smaller deposit or less generous terms for its forfeiture. It tells me that the buyer is willing to risk something real if they can't qualify after tying up the property.

There is another alternative, if you are or have a loan officer that you trust. Get their credit information. After all, a buyer is in a position where the sellers are in fact considering extending credit. Income, FICO, credit score, other debts. Ask your loan person if they could do a loan for this buyer. Of course, if your loan officer is a bozo, or if the buyer's is, all bets are off under this option. Under RESPA, you can't make them so much as put in an application with any loan provider not of their choosing.

If the sellers are not concerned enough about the buyers' ability to qualify to be willing to accept a lowered sales price for better terms on the deposit, I'd say it's not very important to them. If they're not willing to keep looking for another buyer, they want to do business with this one, and they must be getting something worth their risk out of the prospective transaction.

I recently had an agent tell me that requiring a pre-approval was part of their due diligence. Nonsense. I'll go so far as to say it's preposterous. The deposit is real. Information on creditworthiness is real, if subject to more interpretation. Pre-Approvals and Pre-Qualifications are a waste of space in the file, approximately equivalent in worth to an attestation that there is indeed a screen door in this submarine. There is no rational reason to choose one buyer over another, or accept one offer and refuse another, that has its roots in the pre-qualification or pre-approval. There's nothing there that you can hold anyone responsible or accountable for if the buyer does not actually get the loan funded, and if there's nothing there you can hold anyone accountable for, it's not anything real. Which makes it purely a CYA on the part of agents. Some of them may think it means something real, but it doesn't. Those agents need to be educated.

I'll admit I hate being asked for pre-approvals, even though I should probably love it as the sign of an agent that doesn't know what they're doing. But all too many times in the current market, a listing agent that doesn't know what they're doing is a sign of not being in touch with the current market, that I'm spinning my wheels in any negotiations, because the listing agent has no idea what properties like this one are actually selling for. It feels like you're trying to get useful work done on a computer that's frozen up and gone to blue screen of death. Not useful, and not helpful to either my client or theirs. You do have the option of behaving like a recalcitrant mule. Nobody can make you stop, but it's not likely to be beneficial to your bottom line.

Caveat Emptor

Original article here

Option ARMs and Cash Flow

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One of the standard arguments I hear about Negative Amortization and Option ARM loans is that they "give the client the option to make a smaller payment if they need to." This so-called "Pick A Pay" benefit is a real benefit, but it's an expensive benefit, one that the client will pay for many times over. They are better off just managing their money well to begin with.

Let's go into some details. Let's consider someone with a $400,000 loan on a $500,000 property, and dead average credit score, and to keep the playing field level, let's price loans with the same 3 year "hard" prepayment penalty. When I originally wrote this, I had a 30 year fixed rate loan at 6.00 percent, less than one point total net cost to the consumer. The equivalent Option ARM/"Pick A Pay"/negative amortization loan was actually a little above 7.5 percent real rate, although it carried a nominal rate of 1%. Furthermore, removing the prepayment penalty would make a difference of about an eighth of a percent to the rate on the thirty year fixed, while I have yet to see a Negative Amortization loan that even had the option of buying the penalty off completely, and this loan carries higher closing costs to boot.

Now, let's crank some numbers. That thirty year fixed rate loan has a payment of $2398.21. Nothing ever changes unless you change it by selling or refinancing. The first month, $2000.00 even is interest and $398.21 is principal. You pay for a year, $23,866.38 in interest and $4912.05 in principal is gone, and you've made payments totaling $28,778.43. You are also free to pay down up to twenty percent of the loan's principal in any year without triggering the prepayment penalty.

Plugging in 7.5% for the real rate to keep the math a little easier, the Negative Amortization Loan has four payment "options" of $1286.56, $2500.00, $2796.86 or $3708.05. These options represent "nominal" payment, "interest only" payment, "30 year amortization" payment, and "15 year amortization" payment. Actually, the last three options will vary every month, but let's hold them constant just to make my point. As a matter of fact, if you don't make a habit of paying at least the thirty year amortization payment, the options for payment will increase over time, even before reset. The chances of people making the thirty year amortized payment in the real world are minuscule, as I make clear in my first article on this subject, Option ARM and Pick a Pay - Negative Amortization Loans, but let's play the game, just to see how it turns out if you give the advocates everything they ask for and more.

Crank the numbers through for twelve months, and you've paid $29,874.96 in interest, $3687.34 in principal, and made $33,562.30 in total payments. This is the "going along, making the loan payments" that the advocates are talking about. Here's a table, comparing this to the 30 year fixed rate loan:



Loan
Interest
Principal
total paid
30 Fixed
$23,866.38
$4912.05
$28,778.43
Option ARM
$29,874.96
$3687.34
$33,562.30

When you put it in those terms, I don't think there's any question which loan a rational person would rather have. But that's not the situation the advocates would have us believe is beneficial, at least not with this particular argument. Let us presume that two months out of that year - and to keep the math as simple and as favorable to their argument as possible, let's make them the last two months - that you decide you have the need to make minimum payments, and let's see what happens. you've paid $29884.40 in interest, lost all but $657.30 in principal payments, and made $30,541.70 in total payments. Now, if you're making the minimum payment more than one month out of six, most folks should agree it's not an "occasional" thing, it's more of a "regular occurrence" thing, which situation I have already done the math to refute any claims of advantage. Here is a table comparing that "2 month short pay" option to the thirty year fixed rate loan:



Loan
Interest
Principal
total paid
30 Fixed
$23,866.38
$4912.05
$28,778.43
Option ARM
$29,884.40
$657.30
$30,541.70

Look very carefully at that "total paid" row. The thirty year fixed has saved you $1763.27 in total payments. Now, this begs the question of what you're paying it out of, but if you haven't got the income to make the payments from somewhere, you shouldn't have the loan. It's not good for you. So we're assuming that money is coming from somewhere, and as I have illustrated, if you'll just not spend it as it comes in and set a little bit aside in case something happens to your cash flow, that 30 year fixed rate loan leaves you with $1763.27 of your hard-earned money in your pocket. Not to mention just an all around better situation, as evidenced by the rest of the second table.

Let's even add in another scenario: The Negative Amortization loan with the two 'short' payments versus a thirty year fixed rate loan with a five year interest only option. Those were available at 6.25% back then.



Loan
Interest
Principal
total paid
30 Fixed Interest
$25,000.00
$0
$25,000.00
Option ARM
$29,884.40
$657.30
$30,541.70

Leaving you with $5,541.70 in lowered real payment, even taking the two 'short pay' months. You could put $3000 of that towards paying the loan down without triggering the penalty, plus have $2500 plus still in you pocket, and be thousands of dollars better off in every particular - more money in your pocket, less money owed on the loan.

Now, given the fact that these loans have basically nothing to recommend them to clients, why do alleged professionals keep pushing them off on the public? Well, two reasons, both of them having to do with money. $$$. Coin of the realm. Specifically, commission checks.

First off, it should come as no surprise to anyone that lenders are willing to pay very high yield spreads for negative amortization/Option ARM/"Pick a Pay" loans. The yield spreads start at about 3 and a quarter percent of loan amount, and go up to 4 percent, with most clustering in the higher part of the range. By comparison, that thirty year fixed rate loan pays 1 percent. On a $400,000 loan, like the one in the example, that's the difference between a $4000 check and a $15,000 check. Doesn't that make you feel good that they left you twisting slowly in the wind so that they could make $11,000 extra? Didn't think so.

The second reason that people do this to you is that it makes it look like you can afford a larger, more expensive property than you really can. Most people tell professionals how much property they can afford in terms of monthly payment. Well, shopping for a property or a loan by monthly payment is a disastrous thing to do, as the first part of this article, among many others, illustrates. But let's say you tell the Realtor that you can afford $2500 per month. Most people are thinking of mortgage payments in the same terms as rent payments, when most people can afford a higher mortgage payment than rent, but let's use these numbers. Let's just use that numbers, and have insurance and property taxes call it a wash. For $2500 per month payments, you can make real payments on a $410,000 property, or you can make minimum payments on a $775,000 property. At 3% buyer's agent commission, assuming they are only representing you and didn't list the property, and assuming they do the loan as well, they can get checks totaling about $16,400 for the buyer's agent commission and loan in the first situation, or $52,300 in the second. Not to mention I don't have to tell the client to limit themselves to what their pocketbook can afford in the second situation. Even here in San Diego, that $775,000 property is a beautiful five or six bedroom 2800 square foot home with all of those nice little extras like travertine floors, three car garage, marble counter-tops, etcetera, in a highly sought after area of town with great schools, whereas the $410,000 property has linoleum floors, no garage, Formica counter-tops, and is in a neighborhood with marginal appeal and probably not so wonderful schools. Which do you think sounds like a more attractive property and an easier sale, for what the typical buyer thinks of as the same payment? Which property do you think the typical buyer is going to select, particularly if they have never had all of this explained to them?

Finally, for pure loan officers, it's a way of appearing to compete on price without really competing on price. The average person is told about this great 1% payment of $2500 when the real payment for a thirty year fixed rate loan (allowing for the fact that this has become a jumbo loan) is $4771.80, and they just aren't looking at little things like two extra points of origination or higher closing costs, as it just doesn't make that much difference to the payment. They can also slide in a higher margin over index that gets them an even higher yield spread, and it doesn't influence that minimum payment at all, which is the only thing this client has their eyes on. So what if the final payment comes in at $2600 (making the loan officer roughly $35,000 or more)? So what if their loan balance is increasing by $2000 per month? Most people just do not and will not do the work that enables them to spot this trap. Scary, isn't it? But we've now seen the evidence that people will not do their homework ahead of time, to the tune of millions of foreclosures on this runaway train wreck of a loan.

Caveat Emptor

Original here

Read your article on negative arm loans, and for the person who only owns a residence and most real estate investors it will not work. I own several properties, and the parcel to be refinanced is ocean front...so is going up in value more than the negative arm would be when refinanced after prepay penalty period. Cash out would be used to pay off other mortgages, thereby increasing my cash flow for a few years. Does your advice against negative arms apply in my situation?

I believe he's referring to this article.

This is actually an excellent question, and the answer is ... maybe. At least it is not a clear "no", unlike so much of what the Negative Amortization loan is misused for. This largely goes beyond the scope of what I'm trying to do with this site, but I'll take a swing at it.

The fact is that I can construct a scenario that goes either way, and the implicitly high appreciation rate you mention has surprisingly little to do with it.

The positive is that your other loans are paid off! To use Orwell-speak, this is maximum plusgood.

The negative is that this loan now includes every dollar you previously owed. Furthermore, there may be negative tax connotations to the fact that all of your interest expense now comes from one property, as opposed to being able to directly match it against individual properties with individual incomes. If interest against one property is greater than the income for that one property, you may not be able to take it all, as it's definitely a "cash-out" loan of the sort that the IRS has been limiting to partial deductibility. I'm not clear on all the implications of the tax code here (and I'd like to be educated), so consult with a CPA or Enrolled Agent. Plus it definitely becomes a full recourse loan, no matter the original circumstances.

Furthermore, your new loan won't magically create any "lake" of dollars. In order to pay off the other loans, it's going to have to be the size of all of them combined, plus any prepayment penalties, plus all costs of doing the loan, plus potential pre-payment penalties for the Negative Amortization loan.

Now consider: If you make payment option one (the "nominal" or "as if your rate was 1 percent" payment), you are allowing compound interest to work against you. This is the force Einstein described as "the most powerful force in the universe", and it's working on the whole dollar amount of every single one of your current loans and then some.

Ouch.

No matter which payment you're making, the rate you are being charged, (aka "what the money is costing you") is not fixed, but variable month to month. As far as most commercial property loans are concerned, this is no big deal. They're pretty much variable at "prime plus" anyway. However, I expect the MTA and COFI (upon which Negative Amortization loans are based) to continue rising as government borrowing increases, whereas I'm not so certain about prime.

Now with all this said, it's still very possible to construct winning scenarios, depending upon a variety of factors. You mention short-term cash flow, and that is certainly one possible justification. If short-term cash flow is all you're looking for, and the money it will cost you later on is no big deal because you're planning to buy down the prepayment penalty and sell in a short period of time. Yeah, you've added to your balance but you've got plenty of equity and you'd rather have a few hundred per month now than multiple thousands later. Think of it as a cash advance.

One of the things that negative amortization loans can do for you is make it easier for you to qualify for more loans on more properties. Because in loan qualification, the bank will only give you credit for 75 percent of prospective rents while dinging you for the full value of payments, taxes, fees, maintenance, etcetera, this can make it much harder to qualify than is realistic, given that in many markets the vacancy factor is less than five percent. You actually pay more, but you're not obligated to. Particularly because many people own investment properties for the capital gain rather than the income potential (i.e. price speculation, rather than monthly income). On the other hand, just because a property has been appreciating rapidly does not mean it will continue to do so, beachfront or not. The market nationwide is very different now than was previously. I can point to beachfront property here locally that's lost a lot of value since early 2005. Price speculation is great when it works (which is most of the time), but is really scary when it doesn't. It's a reward for risk-taking, so don't lose sight of the fact that it is a risk.

One other factor of doing this is that it can cause taxes on a sale to exceed net proceeds. Suppose you intend to sell the beachfront property in a couple of years, and it doesn't gain any more ground from where it is right now. Many properties were bought for less than 10% of their current value. Let's say you bought for ten percent of current value. If your loan is for eighty percent, and you pay six to seven percent in sale costs, you're getting ninety-three to ninety four percent of value, leaving a net of thirteen or fourteen. But you owe long term capital gains of eighty-three or eighty-four times twenty percent - almost seventeen percent! This can force you to take another loan out, against one of those "free and clear" properties lest you owe the IRS penalties. Yes, 1031 (or 1035) and even a potential personal residence exclusion can modify or nullify this, but so can all the depreciation you may have taken over the years, and if you intended to 1031 the property that would tend to contra-indicate any reasons you had for the negative amortization loan.

Now, to be honest, my experience with commercial loans is limited, and I've never done a negative amortization commercial loan. What few clients I've had in that market have had different goals in mind, and being as I'm a sustainability type loan officer, I tend to attract sustainability type clients, where Negative Amortization loans are more indicative of a speculative ("risk taker") type. I understand what's going on, but it isn't my primary approach to the issues. There are circumstances on investment properties where, unlike your primary residence, it can be very appropriate. Unfortunately, without full specifics, including time schedules, goals, reasons for holding investments, other investments, risk tolerances, etcetera, it's difficult to tell if yours is one of them. My experience in dealing with people is telling me one thing, my sense of ledger evaluation is hinting at a different answer. But I hope I've given you a clear idea of the kinds of issues you need to look at with professional help.

Caveat Emptor

Original here

(This is a reprint originally from December 2005. I have reasons for reprinting it even though these loans are not currently available)

My article on Option ARM and Pick a Pay - Negative Amortization Loans is one of my most popular. It's number one for multiple search engines and several ways of running the search. If I don't get at least 20 hits a day on it, it must be a sign that the public has caught on to this loan's horrific gotcha! On the other hand, given the number that are still written, I can get very depressed at how small a percentage of the population does simple research.

I intentionally left a lot of what goes on with these things out of that post, simply because I want to keep these posts readable and comprehensible within the space of no more than half an hour. But I keep getting hits asking questions I didn't deal with, so here goes:

A Negative Amortization loan is defined as any loan where the minimum required payment is less than the interest charges. Regular loans pay off part of the balance every month, whereas negative amortization loans typically have an increasing balance because the difference between the interest charges and what you pay is added to your balance owed.

Because the name "Negative Amortization" causes some difficulty in marketing, they are sold by all kinds of friendly sounding names. "Option ARM" (if you look at my article on loan types here, these are the about the only "true" ARMs with a significant portion of the residential loan market). "Pick A Pay." "Option Payment." "Cash Flow ARM." I've seen all kinds of combinations of these, as well.

Negative Amortization loan rates are typically quoted based upon a "nominal" ("in name only") interest rate. This rate is not the rate of interest that the people who have them are really being charged. It's a thing for purposes of computing the minimum payment only. In other words, the minimum payment is computed by using this rate instead of the actual rate that you are being charged. They are being marketed more heavily right now than at any time in the previous twenty-odd years. If you are quoted a rate of 1%, 1.25%, 1.95%, 2.95%, or anything else under about 5% right now, they are talking about a negative amortization loan. If you look at the Truth-In-Lending form, it will list an APR somewhere in the sixes or higher, usually five or more entire percentage points above the nominal rate. Another way to tell is the presence of several "Options" for payment. If they talk about three of four payment options, guess what? They're talking about a Negative Amortization loan. Note that this is a different situation from "A paper" loans that have no prepayment penalty, in that you are explicitly given these payment options, and may not have any others. "A paper" loans, the minimum payment at least covers the interest (if it's an interest only loan) or actually pays the loan down, and anything extra you pay is applied to principal to pay the loan down faster. I pay extra every month but that's my decision, my choice of amount, not theirs. A negative amortization loan gives you a limited number of choices. Furthermore, there are more of the so-called "one extra dollar" prepayment penalties on negative amortization loans than any other loan type.

Negative Amortization is generally a bad thing because with over 95 percent of those who have them, over 95 percent of the time they are making the minimum payment. That's why these people got them, because they couldn't afford the real payment. So their balance increases. They owe more money every month, and due to compound interest, every month the difference between what they owe and what they pay gets wider. This can only end one of three ways. They sell the house. They refinance the house. They get to "recast" point on the loan. None of these is good.

If you sell, the loans come out of proceeds, and the bank gets more money than you originally borrowed, usually plus a prepayment penalty. I keep using a $270,000 loan amount as an example, so let's look at what happens. The minimum payment will be $868.42. But your real rate is not fixed, and even if you've got a good margin and your rate doesn't rise in upcoming months (It will rise), your real rate is something like 6.2%. That very first month, your interest charge is $1395.00. You have $526.58 added to your loan balance. Take this out one year. Your principal has become $276,501.57, an increase of $6501.57. Now the minimum payment increases by 7.5% (another characteristic of this loan) to $933.56. Take it out another 12 months, now at 6.25% (and I'm being really stingy with rate hikes, given how much I think the underlying rates will go up) and you now have a balance of $283,561.76. Now you sell, and as opposed to selling it two years ago, you have $13561 less from the sale than you otherwise would have had. Plus a prepayment penalty of $9484.00, a total of $23,045 the loan has cost you not counting whatever your initial fees were. This is money you are not going to have to buy your next property with. Not to mention that if the rise in value doesn't cover it, you may find yourself short - getting nothing, and maybe even getting a 1099 form for the IRS that says you owe them taxes.

Let's say you don't sell, but refinance, and unlike roughly 70% of everyone with one of these loans, you actually make it to the end of the prepayment penalty period, three years. Your payment has been $998.70 for these 12 months, but your balance has still increased to $291,815.16. Let's say rates have magically dropped back to where they are now. You get a 30 year fixed rate loan at par at 5.875%. Your payment will be $1746.90, as opposed to $1597.15 if you just did that in the first place. But wait, it gets worse!

In the fourth year, your payment goes to $1063.84. But nine months in, you hit the recast point! Your balance has grown to $297,000 - 10% more than what it was to begin with. It's a thirty year loan, and now it starts amortizing at the real rate for the last 315 months, or until you manage to dispose of it, whichever comes first. Assuming your rate is still "only" 6.5%, your payment jumps to $1967.60 in the forty-sixth month, and this payment is no more fixed than your rate is, which is to say, not at all.

Let's say you have one of the loans with a higher recast - 20 percent instead of 10. Your balance goes to $299,010.60. Then the final year of artificially lowered payment, $1128.98 per month is applied to your loan, but it's accruing $1619.64 in interest and rising. Your loan balance is $305,077 at the end of your minimum payment period. Now your payment (assuming your real rate is still 6.5%, which I think unlikely) goes to $2059.90. If you're able to get a thirty year fixed rate loan at today's rates, your payment is $1825.35. If you couldn't afford $1600 per month in the first place, what make you think you'll be able to afford any of these alternatives? The needless increase in payment amounts to sucking $1.34 per hour out of your pocket, or if you want to think of it another way, you'd have to make $3.00 per hour - $500 plus per month - more to qualify at the end of the period with all that added to your loan, as opposed to right now. And that's assuming the rates are as low in five years, which I do not believe will be the case.

I attended a credit provider's seminar, and as I said then, credit rating agencies are currently considering making the fact that you have a negative amortization loan to be a heavy negative on your credit report, all by itself. From the writing above, it should not be hard to see why. Someone who has a negative amortization loan is not making a "break-even" payment. Their balance is increasing. This indicates a cash-flow problem, and cannot go on indefinitely. When the lowered payments expire, they find themselves in a nasty situation, worse than it would be if they had just gotten a different loan in the first place. So if the fact that you have a negative amortization loan knocks you down sixty, eighty, or a hundred points, there is a good likelihood that you will not qualify for any loan nearly so good as you would otherwise have gotten when you decide to refinance. It may even mean that if you go want another negative amortization loan, your margin may be higher next time. The last news I had was that they were looking at the modeling data for exactly how strongly it influences your chance of a 90 day late. I don't work for Fair-Isaacsson, but my guess, based upon working with people who have negative amortization loans, is that it's going to be towards the higher end of the range I cited.

In short, because most people concern themselves with quoted payment, not interest rate and type of loan, these things are most often sold via marketing gimmicks and hiding their true nature. Those selling them do not concern themselves with what will happen to you after they've gotten their commission check. They are designed (and appropriate for) a couple of specific niches that most people do not fall into. Last set of figures I saw was that they are the primary loan on about 40 percent of all purchases here locally - and owner occupied purchase is not one of the niches they are designed for. An appropriate proportion of the populace to have these might be four tenths of one percent, a figure a hundred times smaller. Shop by interest rate and type of loan, and these look a lot less attractive. As I said, the real rate on these right now (if you've got a low margin) is about 7 percent. When I originally wrote this, loans were available that are really fixed for five years at about 6 percent, or thirty years at about 6.5 percent, no hidden tricks, no surprises, no gotcha!s. I can do much better than that now. These are not only lower rate, but also better loans.

Caveat Emptor

Original here

I just came across your article on unpermitted additions. I am having a really difficult time. We own a home in DELETED that we bought in 2006. It was listed as a 3/2 1400 sqft. We are now trying to sell it, had many offers, however, we found out that it is on file with the county as a 2/1. The city came and sent an order to comply telling us that basically 1/2 the house needs to be demolished! That it was not permitted. What does one do if the seller never disclosed? Is it possible that he never knew? Then what? Shouldn't our agent when we bought it have alerted us to this? We hate to fork out more thousands of dollars into this money pit. We bought for 700k and were listing it for 540k - so we are already losing a ton...then this happened. These additions were done 21 years ago - 4 owners ago! I know this is asking a lot, we are so desperate to find a solution, and nobody seems to know. Any advice or


Unpermitted Additions are a rat's nest of problems, and you are never certain of how it is going to work out because so much of the response is within the realm of bureaucratic discretion. You can't control what individual human judgment is going to make of your situation and how it will respond. I have seen situations where I thought there was no reason for doubt refused, and situations where I would have bet serious money against acceptance approved. I don't like it, but there are unavoidable risks you take in dealing with unpermitted additions. There is money to be made in dealing with unpermitted additions and making them legal, but you have to have a very clear understanding that there is a risk of major loss involved.

Your Buyer's Agent failed of due diligence not to inform you of this and the possibility of what you have now encountered in writing in a timely fashion to enable you to make an informed decision as to whether or not to continue the transaction before adverse consequences ensued. 99%+ of the time, I spot additions while looking at the property and 90%+ of them I can tell whether they were permitted.

Had you known before the transaction happened, or even when it closed, there would have been many actions you could have taken to protect yourself. Now, your options are far more limited. The only advice I can legally give you at this point is to talk to a real estate attorney. Chances are good you can sue the brokerage who represented you. Even if they were representing the sellers as well. You may also be able to sue the sellers and their agents because they should have been aware of the issue and properly disclosed it to you.

Had you known of the additions at the time you purchased the property, California at least has an innocent purchaser law. It won't protect you from having to remove additions that are unsafe or cause unsafe conditions (e.g violating setback requirements) but it will prevent your property from being re-assessed upwards. You bought a 1400 square foot 3 bedroom 2 bath, and your purchase price was for a property of those characteristics, so you should only be billed for taxes based upon your purchase price, rather than an additional amount representing what would be in another property additional square footage. Furthermore, they tend to work with innocent purchasers who bring the situation to their attention to see what can be done to bring the property into compliance rather that requiring the removal of the addition. But my understanding of the innocent purchaser provisions is that it has to be done within 3 years at most of the date of purchase (and not being a lawyer, I could be mistaken, so talk to a lawyer).

Had you known before you made an offer and been properly advised, odds are that you would not have made the offer unless you were getting a price that was simply too good to pass up. I hate discussing the possible upsides and downsides of unpermitted additions with clients simply because even in the most routine cases there is so much uncertainty that I can't offer even probability estimates of what will end up happening. It is a consequence of that individual bureaucratic discretion I was writing about earlier. It's probably better than any of the politically possible alternatives, but it removes predictability from the equation and it certainly provides motivation and opportunity for corruption.

Furthermore, because it is a source of uncertainty and risk, dealing with that uncertainty and risk and turning it into a certainty - in other words, a property that is fully approved as it sits - is an undertaking worthy of compensation. Lots of compensation in some cases such as this one. A property that's only permitted as an 800 square foot 2/1 is worth considerably less than the fully permitted 1400 square foot 3/2 next door even if they are otherwise identical, precisely because of the risk of precisely what happened to this person. Until the relevant agencies have fully permitted the additions, there is always the possibility that you will be forced to remove them. In extreme cases, I have heard of them condemning not just the additions, but the entire structure. I should also mention that even if the addition was completely to code when it was built, what governs whether the permit is granted retroactively is the code now, and I shouldn't have to mention that those codes have become progressively more restrictive.

Some additions are old enough not to require permits. Until about 1972 around here, this was the vast majority of all additions that happened. Unfortunately, it can be difficult to prove that the work was done before that date. If you bring the discrepancy between records and actuality to the attention of the assessor, you are more likely go be believed than if the assessor finds out through other means, but "likely" is not a guarantee and most people choose to hope the situation goes away on its own.

This is one of many situations that buyers get into because of the "store" mentality. You want to buy a refrigerator, you go to the refrigerator store. You want to buy a sound system, you go to the electronics store. People think this carries over to "I want to buy the house, so I'll go to the agent who has the listing" (i.e. the real estate "store"), not realizing the pitfalls of such an approach in real estate. The fact is that the first thing you need to find when you decide to buy real estate is a good buyer's agent, who will prevent the vast majority of these problems from biting you. And these problems do happen, a lot more often than most people realize.

Caveat Emptor

No, this isn't the Hitchhiker's Guide to the Galaxy

But having written half a dozen articles roundly critical of the way in which these loans are generally sold, it's not unusual for me to get e-mail like this one:


Hi, Dan:

Okay, I'm absolutely PANICKED after reading your article on negative amortization loans as I have one! I thought it was an "option ARM" and that my entrusted Realtor's entrusted loan officer was wise beyond his years in his financial advice. He was semi-retired, wealthy, and said that this was the only loan he'd ever use for his own substantial real estate portfolio. I even reassured a good friend of mine who is economically savvy not to worry as it wasn't a negative amortization loan!

I purchased December of 2006. The home I was going to purchase was appraised at $780,000 eight months prior to my purchasing it for $570,000; I put $100,000 down, had a good credit score, but the stickler was my monthly income. I knew I would make a substantial bonus and raise June of 2007, so DELETED sold me on the Option ARM. The bonus was one third what I expected ($2700) and my raise was only 4% rather than 7%.

My question is this - what do I do now? Is the loan okay as long as I pay the principal and interest amount of payment? I've only been paying the minimum, but could swing it by squeezing. It's a high rate - 7.5%. And I would have a prepayment penalty if I refinanced. I'm a single mom, 46, with two kids and annual earnings of $64,000. I have $50k in savings.

Yes, I am that poor sap you speak of in your article, completely trusting, desperate for my dream house, blind sided and now stuck. Any advice would be helpful! Thanks so much...

First rule of getting out of holes: Stop digging! Pay at least the interest every month!

Now, let's look at your situation. You owe $470,000 on a $570,000 property. The real payment on that is $3286.30 per month, as opposed to a "nominal payment" of $1511.70 at 1%. Actually, by my calculations, you owe about $483,000 now and will owe more than $527,000 by the time your pre-payment penalty expires, if you make just the minimum payment.

Now, let's consider what's actually available out there. When I originally wrote this, one rate sheet picked at random showed a 30 year fixed rate loan at 6.375% costing half a point retail. Let's figure out if you're likely to qualify for that. $64,000 divided by 12 is $5333 per month. 45% of that is $2400. Both of those are potentially important figures. Let's assume your value is still $570k, so 80% of that is $456,000. Paying the penalty and costs of the loan via rolling it into your balance, I get that you'd be left with a balance of between about $507,000. The payment on the first mortgage would be $2845, which is more than you can apparently afford right there. On the other hand, many single parents have alimony and or child support that can be used if they so desire that they don't include in their income.

At this update, 30 year fixed rate loans can be had for a considerably lower rate of 4 percent or under, depending upon how much you can afford to pay in costs - the lowest rates since my grandparents first bought a house. That yields a payment of $2245. The bad news is that values have declined almost everywhere, so it's likely that you cannot refinance due to that. It's possible that the 125% loan to value ratio HARP loans may help, but Fannie and Freddie don't generally hold negative amortization loans. But that's the lowest payment we can figure on ever being able to refinance you into.

I'm trying not to build fairy castles in the air. From the information presented, you can not afford the loan by standard measurements. The flip side of that is you don't have to qualify for the loan you already have, and you say that you actually can afford to keep making at least the interest only payments. As long as you do so, you're not digging yourself in any deeper. If you can actually afford to make at least the interest only payment, there is no reason to panic.

Getting yourself that 6.375% fixed rate loan would have cost you roughly $24,000 - $18000 plus in pre-payment penalties, about $6000 in loan costs. To save 1.125 percent originally, about 3% now, albeit fixing the loan. Your current cost of interest at the $483,000 balance is $36,225 per year. Cost of interest after refinancing: $32,321 per year. Interest savings $3904 per year. Your break even on this is about 6 years, 2 months - if you could qualify, which you don't appear to. Even the 4 % loan has a breakeven of about 20 months, which is good, but that's if you can do it, and I'm not at all certain you qualify.

If you make the payments for the next 27 months until the penalty expires, that higher interest rate will have cost you roughly $8900, offset to a certain amount by lowered income taxes. But here's where everyone's getting ulcers right now: Rates and the costs of getting them aren't set in stone - they're all "right now today" good only until tomorrow morning at most. Not that I expect tomorrow's rates to be much different, but I won't know until I see them. The cold hard fact is that only some kind of deity might know at this point what the rates are going to be like when your prepayment penalty expires. I certainly don't, and neither does any other human agency with which I'm familiar. There's a lot of estimates out there, but nobody knows. Furthermore, with a negative amortization loan, you don't know what your rate will be a year from now, as most of these abominations adjust month to month. So no matter which way you choose, stay or refinance, there are pitfalls, and there's no way to be certain of the right decision except in retrospect - when your penalty expires - at which point today's rates will no longer be available.

In your situation, I'd probably sit tight. As bad as it is, the alternatives all look worse. I wouldn't refinance into a loan that took me six years to break even on the costs of, and I doubt whether anyone else should, either. Alternatively, keeping in mind the fourth solution to Getting Out of Paying Pre-Payment Penalties, some people might want to see if their current lender will refinance them into a thirty year fixed without charging the penalty, although in your case that does not apparently help because you don't appear to qualify.

But your situation is not the same as the person who is only looking at a negative amortization loan. Like it or not, you've already done it. That narrows your choices to "What do I do from here?"

The first thing to set in motion is a consultation with your lawyer. I'm not a lawyer, but I've been reading about the courts ordering these abominations rescinded, brokers paying damages, etcetera. The wheels of justice grind slowly, but that means the sooner you start them grinding, the sooner they get there. It seems likely to me that there were some misrepresentations and gross negligence somewhere along the line there.

My local market colors my perceptions, and what may be appropriate for San Diego may not be appropriate elsewhere, but as long as you can make at least the interest only payment, and make it long enough such that your prepayment penalty expires, I think you're likely to see a profit on the sale of the property then, provided things go as I think they will. It might be rough in the mean time, and preliminary numbers indicate that you're not likely to be able to afford to keep the property then, but panicking rarely does any good. There's nothing you can do at this point that does not have significant and costly risks. But from what you've sketched out, holding on until the penalty expires seems to be the least risky, most attractive alternative to me.

A couple of other options: A short sale or a loan modification. The first gets you out of the situation by accepting the immediate damage when there may not be any reason to do so; the second keeps you in the property and buys you time, but nobody knows for certain whether most market will recover enough in the bought time so that it will turn out better than accepting the damage in the first place. Every situation, in every market, is different. I can't give a universal answer as to what's likely to be best because there isn't one.

Caveat Emptor

Original article here

(This is a republish of one of the first articles I wrote back in early summer of 2005. Everything I wrote then still applies. I am grateful that lenders have for the most part, stopped offering these, as they were always the worst sort of Make Believe loan, and expecting them to be sold on any other basis than the temporarily low payment was one of the larger examples of wishful thinking I have seen in my life. They are still legal, however, so expect them to get brought back out eventually. The disclosure requirements have been stiffened a bit, but in my opinion, not nearly enough. The body of the article is almost exactly what I wrote back then)

I am not exactly certain how to start this essay. I'm kind of in a position analogous to writing Hitler's biography in late 1940. We know at this point he's a miserable excuse for a human being, but we don't have the evidence discovered in the last four and a half years of the war as to how sick he truly was.

The negative amortization loan is in a very similar situation. It's a miserable excuse for a loan, causing a lot of damage, but we don't yet know how much. With most housing market gurus finally agreeing with what I've been saying for the last year, talking about a need for a readjustment in real estate prices, we are pretty certain that there's going to be a drastic re-evaluation of the home market soon. We are missing the data of exactly how bad it's going to be.

The negative amortization loan, with all its friendly sounding synonyms (Option ARM, Pick Your Payment, 1% loan, and variations and combinations thereof), is an idea that comes around periodically, and right now happens to be one of those times. Last time was the mid 1980s, and we had people driving their cars through the lobbies of savings and loan buildings in protest after they got hit with this loan's GOTCHA! If you see ads on the Internet or elsewhere advertising "$200,000 loan for $650 per month!" (or something similar) one of these abominations is what they're trying to hook you with.

These loans look, at first glance, to be wonderful - too good to be true. That is because they aren't true. Furthermore, given the fact that loan officers and real estate agents want to get paid, and the damage isn't apparent to the average consumer until well down the line, the unscrupulous ones sell a lot of these. I can point to loan and real estate offices where they do no other kinds of loans. Why? Because given the fact that most people shop for a loan or a home based upon the monthly payment, these are the easiest loans in the world to sell, and how many homes do you usually buy from a given real estate agent anyway? Cash flow is important, but watching only cash flow ends up in Ponzi schemes, Enron, and negative amortization loans.

I want to make very clear that yield spread is not a reason not to do a given loan. If a loan officer shops around and does the work to qualify you for a better loan on the same terms while increasing their compensation, they deserve to be paid that money. But you need to do your due diligence, also. Bottom line, no loan officer or real estate agent can rip you off without your consent. Make sure it's a better loan by making an apples to apples comparison based upon what you, the client, are actually getting. For example, if one provider is getting you a loan at 5.5%, that looks to be better than 6.5% at first glance, correct? But if the first loan is only fixed for two years, and has two points on it as well as $4000 of closing costs and a five year prepayment penalty, while the second loan is fixed for thirty years and the lender is paying all of your closing costs with no prepayment penalty, I submit that the second loan is the better loan. The negative amortization loan, piece of garbage that it is, compares favorably with no other loan available today. The yield spread varies between three and four points on these things, with most of the lenders tending towards the higher end of that spectrum in order to compete. To give you a comparison, in order to get four points of yield spread on any other type of loan, I have to stick people with an interest rate at least two full percent higher than the going rate!

Basically, what this loan does is give you three or four options for your payment every month. The lowest of these is the bank allowing you to make a payment as if your interest rate was somewhere between one and two percent, with most of them now congregating towards the lower end of the spectrum in order to compete with one another. This low rate of 1% or so IS NOT YOUR REAL RATE. IT IS NOT WHAT YOU ARE ACTUALLY BEING CHARGED! I don't know how many people I've talked to that were being taken for a ride and asked me, "Isn't there any way this is the real rate?" THE ANSWER IS NO. Let's pretend you are a bank officer. Remember, you're one sharp person, and you have another whole group of very sharp people watching what you do. If for an equivalent amount of risk, you can get about 7 percent somewhere else with a different investment, are you going to give some poor sap I mean someone you don't know a 1% loan that messes the heck out of your quarterly usage of capital bonus? Not to mention your boss's? Not on planet Earth.

The second payment option will be to make a payment based upon an interest only loan at the real rate you are being charged. I've seen the piranha that sell these loans trying to prey on each other extolling the virtues of COFI or MTA loans, depending upon which they have. The fact is that they've each got their limitations, and their upsides and downsides as opposed to the other. The problem with each and every one of these is that they are month to month variable from the beginning. There is no period where your real rate is fixed. You will never know next month's rate until it happens. Thus far in my career, I've always had loans that are fixed for three to five years, at rates lower than this rate that the loan is really charging you (and more often than not, 30 year fixed rate loans too). In other words, this second payment option is based upon a rate that changes every month, based upon the movement of an underlying index plus a margin.

The third payment option is to make an amortized payment based upon that same month-to-month rate. This is roughly analogous to a standard thirty-year loan, except that it is not fixed, and unless you make a payment of at least this much, next month's payment options are going to be worse. The fourth and final payment option given by most lenders who do these is for the client to make a fifteen-year payment. Before we move on, the point needs to be made that almost nobody actually makes the payment for either of these options, much less makes these payments habitually as opposed to the other options. These payments are higher, and are not good selling points for this loan. If the client could afford to make these payments, there are better loans to be had. This is a metaphorical fig leaf to cover their naked taking advantage of you. "Well, he could make (or could have made) this payment but didn't. It's not my fault." The reason they didn't make the payment, Mr. Unscrupulous Realtor, is because YOU told them they didn't have to. You SOLD them the house based upon the nominal payment, not the real cost. You got a bigger commission by making it look like they could afford more house than they really can. Unless they start making drastically more money at some point, they are likely to lose the house, and they may lose it anyway. I know you think it's not your problem, but some ex-client with a good lawyer is going to make it your problem.

Now, what happens if you make each of these payments? Obviously, if you make the payment for either the third or fourth option, you are paying your loan down. If you make the payment for the second option, that is basically a break-even, except that next months payments will be computed based upon one fewer month with which to pay the loan off.

What happens for 95 percent of the people who do these loans 95 percent of the time is they make payment option one. What happens in this case, where the client is making a payment that is less than the amount of interest on the loan for that month? The bank isn't going to just eat the difference. That interest has to go somewhere.

Where it goes is into the balance of the loan. This means the balance for your loan - the amount you owe the bank - goes up every month that you make this payment option. Furthermore, next month it earns interest also. Next month the difference between what you pay and what you are charged gets higher, and even more money is applied to your loan balance. You're being bit by compound interest. This is the first reason why the lenders will pay loan officers who do these loans so much. The lender knows that in the vast majority of all cases, the clients will end up owing them more money than they originally borrowed.

Furthermore, every single one of these loans that I know of has a three-year prepayment penalty. This means that even after you figure out that you've been taken for a ride, you're either still stuck with them for the rest of three years or you're going to pay a penalty amounting to thousands of dollars. Not a bad position for a lender to be in for leading you down the primrose path, is it?

I haven't even gone over recast provisions (the 1% rate, even though it's nominal, not real, doesn't last forever), and various other lurking GOTCHA!s. I hear a lot of arguments from the various lazy lowlifes who make a habit of doing these loans rationalizing what they're doing. "Those old loans had no cap. Now there's a nine percent cap" The fact is that if the client could afford six percent, there are other better loans to be doing. "They'll more than make up for it in increased equity as prices rise." Well, maybe, IF the market continues to rise, which is unlikely at the current time and never something you should bet other people's financial health upon. It's a crapshoot, at best, and the prevalence of these loans is one reason why the market is so overheated. In any event, the client is going to end up owing more money. Unless they're going to sell and not be a homeowner any more, they're going to have to pay the loan sometime, and in the meantime the longer they keep it, the worse it gets. What happens in three years if home prices are lower and the loan gets recast and now they cannot refinance out of it? Another refrain I hear from these people: "It's the only way to get them into a home!", meaning it's the only way for them to earn a commission (or, more often, the way for them to earn a bigger commission). The clients still end up owing more money at the end of the pre-payment penalty, and it'll keep getting worse the longer they keep the loan. They're still going to need to pay it back, unless they sell, and sell at a sizable profit. Furthermore, if they couldn't afford a reasonable loan in the first place when they needed to borrow $X, what makes you thing they're going to be able to afford a reasonable loan three years down the line when they owe $Y more. This is not a stable, sustainable situation for the client! Maybe in a case like this, they should continue renting. Of course, that doesn't get you a commission, does it, Mr. Unscrupulous Realtor? It certainly doesn't encourage the client to stretch beyond their means and get you a bigger commission, either, does it?

For any loan officer who does these reading this, face it: These things are a way to mess up your client who is putting money into your pocket. These put the clients into worse situations than when they started. You are betting upon factors beyond your control to save both you and them. One of these days, probably very soon, these are going to come back and bite you hard. Violation of fiduciary duty. All it takes is one of your clients getting into a bad situation who gets a good lawyer, and your career is toast along with your pocketbook.

For those of the general public reading this, I hope I've opened your eyes to some of the pitfalls of this loan. I encourage you to ask questions if you have them. But this loan is one that is designed for a narrow set of circumstances tailored around cash flow for a limited amount of time (and the one time I actually had a client who was in the situation where he could actually benefit from a negative amortization loan, none of the companies I submitted it to would approve it. This tells me that who they say it is for and what they really want are two separate things). Negative Amortization loans are abused by being misapplied because it's such an easy loan to sell to those who do not understand the way they work, and all because people shop for a loan based upon payment. So don't shop for a loan based upon payment. And if anyone offers you one of these loans, drag them into the sunlight, drive a wooden stake through their heart, and RUN AWAY! Somebody who offers you one of these is not your friend.

Caveat Emptor

Original here

what happens if partner refuses to pay his half of the mortgage?

The lender will hold you each responsible for payment in full. They don't care who pays; only that they get the full amount every month. That's the long and the short of it. You both agreed to the loan contract, and if it's not paid in full there will be all of the consequences: Hits to your credit, notice of default, foreclosure.

This is basically blackmail on the part of your partner but a disturbing number of partnerships have this phenomenon occur. The only way I know of to recover the money is through the courts, which takes forever and costs more money. Even when you have a judgment, it can be difficult to actually get the money if they have taken certain steps to place it beyond your reach. Talk to an attorney right now, keep good records, and send everything Certified Mail.

Unfortunately, there are no method except time that I am aware of to repair the damage to your credit once it has been done. You just have to wait it out. For that reason, it is usually cost effective to loan your partner the money, even at zero percent interest.

What if you don't have the money for both halves of the payment? Well, that's a real question, and the answer is found in the article What Happens When You Can't Make Your Real Estate Loan Payment. This is not a good situation to be in. Talk to that attorney about liquidating your investment. It takes time and a lot of money if your partner doesn't want to.

What can you do to prevent this from happening? Pick a good partner that won't pull this nonsense. Spend the money to protect yourself up front with a partnership agreement (It should protect your partner from you as well). But the fact is that if your partner wants to be a problem personality, you really can't stop them in the short term. Not that it makes any difference to your pocketbook, but sometimes it's not intentional. People do fall on bad times for reasons not under their control.

Corporations are another step people take to protect themselves from this sort of thing, but that brings in all sorts of further problems. How the corporation qualifies for a loan is often a significant problem, and many times practically speaking, is insurmountable.

Borrowing money in partnership with someone else is something to be done with a lot of forethought and preparation, otherwise there's nothing you can do when bad things happen.

Caveat Emptor

Original here


after Katrina I am upside down with my mortgage. my house is uninhabitable. My flood insurance check doesn't payoff the mortgage. How can i get a short payoff due to financial hardship - i.e. relocation loss of jobs and steady income?

This is one of the hard truths about mortgages. They are a contract between you and the lender to pay back a certain amount of money that you borrowed in order to purchase that property. They have nothing to do with any unforeseen hardship, and if you do not pay that money back, in full and on schedule, you can anticipate negative consequences no matter how good the underlying reason. Especially to your credit, and those are going to be long term consequences indeed.

Unforeseen disasters, like Katrina, Earthquakes, floods, fires etcetera, are some of the biggest reasons why things go wrong with your ability to repay that money. Something happens to the property and now you can't live in it, and you do need to pay for housing elsewhere. Furthermore, in widespread disasters like floods and earthquakes, since your job may no longer be there, you may have to relocate a considerable distance away in order to find work, and have difficulty paying your mortgage even if your property, in particular, came through just fine.

There are several issues that trap the unwary or uninformed consumer. Homeowner's Insurance in general is the first of these. Many lenders in other states have requirements that the property be insured for the full amount of all mortgages against the property. This requirement is illegal in California (and a few other states), and actually is counter-productive as this implies that the objective is to pay off the lenders, when the objective of insurance is to repair the damage. The phrase that California lenders look for in the policies of homeowners insurance that any lender can and all lenders do require is "Full replacement value." In other words, the insurer must agree to bring the property back to being in the same condition it was in prior to the covered event that caused the damage. Nonetheless, there are many properties where this kind of coverage is not available, most often due to their location in areas vulnerable to periodic fires. In such instances, you can expect lenders to require significantly larger down payments and charge higher interest rates, if they are willing to lend against the property at all. Since this adversely effects the owner's ability to sell their property, you will therefore likely get such a property for a lower purchase price than you would otherwise - but you will also have the same difficulty when selling it. You should be advised that this difficulty will persist before you purchase the property, no matter how much you have for the down payment. An agent who doesn't tell you about this issue on properties where it is an issue is either incompetent, or not looking out for your best interest.

Another issue with homeowner's insurance is that you must keep the insured amount reflective of your home's current value. If you bought in the eighties here in San Diego, you probably paid about $150,000 for a three bedroom single family residence. Property values are higher now - let's say $450,000 and that's low. The insurance companies, quite reasonably I might add, take the position that even if you have "full replacement value" coverage, your home is only insured for $150,000, and is worth $450,000, you are not insuring it for the full value and will not pay the full bill for any repairs even if it is only for $100,000. In such a case, it's been a while since I went over the figures that are the legal basis for the math, but in this particular instance, I get that the insurance company will pay $41,666 out of that $100,000 repair bill in this particular instance. The threshold is legally if you had the property insured to at least eighty percent (80%) of its actual value, they will pay the full bill, but you only had it insured to 33 percent of the value, and therefore they will only pay 33/80ths of the bill. So once every couple of years (more often in markets rising 20% per year!) talk to your insurance company about making certain your property is properly insured. Yes, you'll pay more money, but it is a trivial amount compared to the cold hard fact above. My first property multiplied in value by about three and one half times, and the difference between the insurance premium then and the insurance premium now is less than fifty percent. Some insurers (mine among them) have a good record of not invoking the 80 percent rule I'm talking about here and paying the full amount, but this is a matter of company policy, not legal requirement, and it can be changed at any time and no matter how benevolent they are, if the disaster is bad enough they will have no choice. Furthermore, those folks who keep their coverage updated are de facto paying for those who don't under such a policy, and for those who do make a habit of keeping their insurance coverage updated may find more competitive rates with other insurers.

Two things everybody needs to be warned about is that no regular policy of homeowner's insurance, not even the vaunted H.O.3 policy with the H.O. 15 endorsement, covers against flood or earthquake. If possible flood or earthquake is an issue where you are, you need to buy a special policy to be covered by them. Flood and earthquake policies usually have a higher deductible than a basic homeowner's policy, and the reason for this is simple: solvency of the insurer and price of the insurance. Flood and earthquake are typically widespread devastating disasters that make for major damage over a widespread area. If the deductible was smaller, the price of the added policy would need to be much higher, as paying off such claims strains the financial resources of even the strongest insurer. If you're buying on stable soil atop the highest ridge line for miles around, flood insurance is probably not a worry for you. I sit roughly two tenths of a mile from a creek bed, but the amount of territory it drains is relatively small, only a of couple square miles, as the big watercourses go well away from where I sit and there are large hills between me and them. On the other hand, being in California, I've had earthquake insurance since the day I bought the property.

One more thing with flood insurance: There is a federally mandated thirty day waiting period between application and payment of premium and the time it goes into effect. This is to prevent, for instance, people in New Orleans waiting until there is a hurricane headed their way and rushing out and buying flood insurance, then canceling it and asking for a return of their premiums afterwards. I think the thirty day requirement is waivable to the extent that it can go into effect on the day you buy your property, but talk to your insurance agent.

Now, one final thing to be aware of. The value of the land itself is not insured, only the value of the improvements to that land. If a flood goes through your land, the land will still be there afterwards (and research riparian rights sometime if you're worried it will not be - another thing a good agent should warn you about if it's relevant). So if, like many in San Diego, you bought the property for $500,000, but it only cost the builder $200,000 to put the property together, the value of the land is obviously $300,000, right? Well, your mortgage is for eighty percent or ninety percent of the value of the improvements plus the land. Let's say 80%, $400,000, although I suspect that's on the low side of both mean and median. So when a disaster destroys the improvements (i.e. the home) and your insurer sends you a check to rebuild those improvements, that $200,000 check is obviously not going to cover the full amount of the mortgage. What do you do?

Well, that's where the importance of a good insurance policy, that will cover the costs of housing while you rebuild in addition to the costs of rebuilding the home in the first place, comes in. You'll also need to learn the value and importance of managing cash flow versus amount you may owe, but that's a subject for another essay and you should consult a good professional financial person if you haven't learned this before said happens in any case. Trying to learn that financial skill "as you go" is a recipe for guaranteed disaster. Furthermore, no matter how good your policy of insurance is, there is always a deductible and there are always extra expenses of rebuilding that you need or desire to undertake because it's the best and cheapest time to do so. This illustrates the value of building up and maintaining an emergency fund that you can access, because even if the finished property will be worth far more, no regulated lender will touch a refinance for cash out while the property is still under repair. A "hard money" lender might lend you new money, but they require so much equity in the property "as it sits right now" that this is not an option for the vast majority of all property owners. And in the meantime, you must keep up all payments required under the original loan contract you agreed to. Yes, it's a hardship. But it's what you agreed to do when you signed that mortgage contract.

PS: I've said this before, but being 'upside-down' on a mortgage is one of those things that just isn't important unless you need to sell or refinance right now. Don't magnify the importance of transient numbers on paper to the real world.

Caveat Emptor

Original here

I wouldn't have believed this one if I hadn't been there when it happened.

Another agent in my office had a listing where the property went into default. We just happened to find out about it; the seller tried to keep it a secret because they were embarrassed. Silly because default is a matter of public record, but it happens. Suddenly, the sharks started swarming, of course.

One agent brought an offer in. Among other things, that offer called the property, "a dog." It's not a dog. It's not a place where I'd expect to find a billionaire living, but if someone gave it to me, I'd have no problems either living there as it sits, or renting it out.

Never insult a property you're interested in. It's smart to explain the facts of the situation that are in your favor, but calling the property "a dog" conveys no information, is completely subjective, and is usually construed by the owner as a direct personal attack. If you want them to agree to sell you the property - which should be the reason you made an offer - it's a great way to sabotage that goal. If the property has holes in the wall or cracks in the foundation, by all means remind them. Be specific about the faults, but don't get personal and don't make subjective judgments.

Then this clown not only sabotaged his argument, but violated his fiduciary duty, by bringing in a competing offer.

This just blows my mind. Not only is the property now obviously not a dog, since you have multiple people clamoring to buy it. How many buyers can one agent work with at a time, anyway? My absolute limit is six. If two of them want the same property, there must be something pretty darned attractive about it.

This also increases the leverage the seller has, raises the sales price for the one that gets the property, and means that one of them doesn't get the property. How can this not be in violation of fiduciary duty of that buyer's agent?

No matter how good the bargain, as a buyer's agent, I never ever initiate showing a property to someone else until the first buyer has told me they're not interested. I can't stop them from seeing the property, but I can avoid personal responsibility for encouraging someone else to make a competing offer. Especially now - it's not like there's any shortage of bargains out there. Sure, the incidence of multiple offers has risen dramatically, and properties that are priced competitively are moving (both of these are signs of a buyer's market that's about to turn, by the way). Nonetheless, there's a lot of good stuff out there if you know what's really important and how to look. A buyer's agent should know both. That knowledge is a significant fraction of what we're selling. When I originally wrote this, I had found four great bargains, even considering the market, which was the last time I got out just on a general search, not associated with any particular client. All I had to do was get off my backside and out of my office and look. I don't accept clients if I haven't got the time to look for them.

This clown of an agent was thinking about getting paid, not the client's interest. Furthermore, unless he told them, which I will bet he didn't, those two sets of clients have no way of knowing that the agent has hosed both of them. The property was one heck of a bargain as it sits. Either one of them should be ecstatically happy with it and a good bet to come back on their next transaction - provided they don't know how the agent hosed them.

In the case of this particular property, both the MLS and the foreclosure list are public knowledge. It's not like there's any deep dark secret about it. Perhaps this agent is even selling foreclosure lists as a way to procure business, and both clients independently spotted the property and asked about it. He still owes it to the client who put in the first offer to do what he can not to sabotage them. This is the one exception I can think of to Agents Refusing to Make an Offer on Real Estate. As a buyer's agent, I have a firm policy of one outstanding offer per property (As a listing agent, I love multiple offers and do everything I can to encourage them). It's a minor encouragement for fence sitters to pull the trigger now, when I tell them that if another of my clients makes an offer, I will decline to submit an offer from someone else until that one is off the table. This protects both clients by keeping them out of a bidding war I would have facilitated. I'll find the second client something else. Doesn't matter how hot the market - There are very few properties so good they're worth getting into a bidding war over, and even fewer prospective buyers who will be happy in the aftermath of a bidding war.

Caveat Emptor

Original article here

Good Evening!

My name is DELETED and my wife and I recently signed papers to purchase a property from DELETED in DELETED, CA. After our options, their lot premium, and the elevation charge, the house is listed at 425,000. We have 90,000 in incentive money to spend which we would like to lower the overall cost of the home to 335,000. We only receive the incentive money if we get the loan through (their in-house lender). We were interested in a 30yr fixed rate mortgage that is 100% financing and will pay the closing costs out of pocket. I feel like I am being stiffed by their loan guy. Back in late May or early June, he told me that we could get 30 yr 100% financing with HOA, Mello Roos, PMI, PITI out the door for $2889 on some 6.75 percent loan (which still seemed high to me) but just last week he told us that we are now looking at 7.8% with out the door payment of $3250 because 100% loans are harder to finance now. I guess my question is how do I not get stiffed by their loan agent and what proper steps do I take to ensure the best loan and rate for us? I think that 7.8% is ridiculously high for this market! Here is some background info on us:

Credit scores of 750-780 for both of us
21,000 in bank accounts
2 car loans with 3 yrs remaining on each (238 and 210 per month)
Current renters with 80k gross yearly combined salary
1st time homebuyers

Any help regarding this matter would be greatly appreciated! Thank you for your time and consideration. If there is any other information you need us to provide I would be more than happy to provide it.

First off, check with your local authority to see if you qualify for a Mortgage Credit Certificate. It looks likely. Whether or not the developer's lender participates is a question, but it's a question that needs answering.


Now this is definitely a situation where you needed a buyer's agent to deal with a developer. Unfortunately, at this point it's too late to get one involved, as you've already signed the contract. The work a buyer's agent does is pretty much moot. You've already signed that developer's contract. I'll bet a nickel they'll be able to keep your deposit if you back out, and likely sue for more. They are now in a win-win situation.

Here locally, I could tell you if it was a good idea to pay that developer's extra charges or just take their basic unit. Elevation premium? What's the view now, and is it likely to stay that way? Lot premium? How many extra square feet are you getting - or is it just a junk fee? You're not local to me, so I do not know.

What I can assess is numbers. This article is a reprint and rates are lower now, but when I originally wrote this I just picked a rate sheet at random which had an 80% first with zero points and no pre-payment penalty at 6.75%. On $268,000, that's $1738. The 30 due in 15 second would be at 7.75%, with a negligible cost, for a payment of $480. Assuming that your official purchase price is $425,000, add about another $443 for California property taxes and just a guess of $100 for homeowner's insurance, and that's a payment of $2761 plus Mello-Roos and HOA, which I have no way of knowing. Never choose loans by payment, but this would cut your cost of interest more than it cuts your payment.

However, at $425,000, you've got a first of $340,000 and a second of $85,000, giving us payments of $2205 and $609, respectively, and that's what we'd be looking at if you came to me for the loan the day I originally wrote this. Add that $543 taxes and insurance, and your payments would be $3357. Not having that $90,000 in your balance makes a huge difference, and not just to the payment, but also to the cost of interest.

Here's another point on which developers hose unsuspecting buyers. Is that property, as it sits, going to be worth $425,000? Is it going to worth $335,000? If I were in your shoes, I'd hire an appraiser right now. You do want an independent opinion. The chances of that developer's appraiser rocking their boat are nil.

Here's one thing to seriously consider: Take their financing offer, even if it includes a pre-payment penalty, which I'm betting it will. Of course, if they offer you the option of buying it off with a higher rate, that's something you're going to want to do in this scenario. Then, providing the property is really going to be worth enough, refinance immediately. That pre-payment penalty isn't going to be $90,000, even with the costs of the new loan included. But you want an independent appraiser's opinion before you jump into this, to find out if it's likely you'll be able to refinance.

What you'd be doing is taking the $90,000 incentive money and then paying a toll of about $13,000 for the pre-payment penalty plus whatever the costs of the new loan are (the ones I outlined would be roughly $3000 if you accepted a 3 year penalty of $500 on the second, or $500 higher if you didn't). Net to you: roughly $73,000 - if the value of the property will cover the refinance, and you'll get better terms if the value is actually $425,000, because the Loan to Value Ratio won't be 100%. It'll be about 83%, which translates to an 80/5. Provided, of course, that the purchase contract says $425,000. If your official purchase price is $335,000, your monthly property taxes will be about $349, but then we're dealing with whether or not the lender will believe your appraisal. A paper lenders quite likely won't. Most of the time, your official sales price will be the full amount, but every once in a while developers like to throw a curve in. On one hand, a lower sales price reduces your property taxes, while on the other it means that you'll have difficulty refinancing for a while.

If you had a good buyer's agent, you'd likely already know the answers to all of these questions, and you likely wouldn't have fallen into a couple of traps, but that's water under the bridge. We have to deal with the situation as it exists, and figure out the best way to deal with the facts looking forward. If an appraiser tells you the value is there, I'd take their loan on a short term basis for the incentive money. If the appraiser tells you the value is not there, it's probably time to see a good lawyer about getting out of that contract. If you lose your deposit, that's usually not as bad as spending more than the property is worth and getting stuck with a rotten loan you can't refinance out of.

Caveat Emptor

Original article here


I've been answering this question for a long time. Whose interests do we need to be concerned about, in a "If they are harmed, we've got a problem" sort of way? Who has a primary stake in a real estate transaction, and who does not? Whose interests must be served by said transaction? Whose interests are critical, and whose are not? I never really went into an explicit answer here. But some nasty emails and deleted comments of late have made an explicit answer important.

For as long as I've been thinking about the question, I've been answering it the same way. Depending upon the transaction, there are two or three parties with a primary stake: The buyer, the seller, and the lender if there is one.

The buyers interests are the most important and the most critical. They are giving up a very large sum of money in order to purchase real estate. Money is liquid; real estate is not. You can do anything with money; real estate, not so much. Therefore, there must be a compelling arguments made why it is in that buyer's interest to part with that much cash in order to buy that property. I've made a fair number of said compelling arguments, but you always have to be able to make it. Every time. If they're getting a loan, you also have to build an argument why it is worth them taking out a loan, which forces them to pay out a given amount of money every month for the next thirty years in most cases. Money that the buyer hasn't earned yet, and in most cases couldn't pay back right now if they had to. You've got to build a compelling argument for why that buyer giving that seller however many thousands of dollars in order to buy that property is in that buyer's best interest. If you're a real estate agent and you can't do this from the ground up, you're in the wrong business.

The seller's interests are also critical. There's got to be a compelling argument made as to why it's a good idea for that seller to agree to sell their property for that price. If not, they shouldn't be selling it. Real estate may be illiquid, but nobody is creating any more of it. Not the Dutch, not the UAE, not anybody, not really. So why, to paraphrase the immortal words of Roald Dahl, would someone willingly exchange something of which nobody is making more of for something which they're printing more of every day? Again, if you're an agent and you can't do this, you're in the wrong line of work.

The seller's interests and the buyer's interests are different, of course. Without those differences, nobody would ever trade anything to anyone else ever again, and that includes trading for money, or sales as it is usually called. But you've got to be able to make compelling arguments for both sides, and you've got to be right, as real estate transactions are not readily reversible in the general case. There may be occasional exceptions, but you can't go back afterwards and say, "Let's call the whole thing off!".

The lender, if there is one, also has a compelling primary interest in a real estate transaction. They are putting up many thousands of dollars of money they have already earned or gotten in some fashion in order so that the seller gets cash from the buyer rather than having to wait thirty years for the last bit to trickle in. In most cases, the lack of a lender will prevent the transaction from happening at all because that seller needs cash in order to pay off their own lender, or cash for the property in order to accomplish their reasons for selling it, not monthly payments trickling it over the next thirty years. Therefore, without the lender, the seller's interests could not be met, and therefore the buyer's interests would not be met. But the lender doesn't have a direct interest in the property investment, only that it can be sold to pay off the debt if the borrower defaults. What they do have an interest in is whether the buyer can pay them back, and, failing that, if they can get their money out of selling the property if the buyer does not.

The seller is usually paying almost everyone who works on the transaction, the buyer's money is the reason why the seller is able to pay everyone, and the lender's money is what is used so the seller can pay everyone right now (including themselves). These three parties have legitimate, primary interests in the transaction. If their needs and criteria are not being met, they can call the entire transaction off. As strange as it may be to see a real estate agent and loan officer writing this, these three parties should call the transaction off if their interests are not being met.

Everyone else is working for a paycheck: Agents, loan officers, escrow, title, appraiser, inspector, notary, ad nauseam. We make our money by being able to help one of the above three "people" consummate the transaction. Our interests lie in that paycheck, not in the transaction. We are worthy of our pay to the extent we help one or more of the primaries serve their interests, or serve those interests better. If we can't do that, we shouldn't be part of the transaction. We only make money by serving the interests of the primary stakeholders, and if we're not doing that, we shouldn't make money.

If you cannot agree with this, you and I have nothing further to talk about. I make my money by putting my clients into a situation that's better than it would have been without me. If that's not the way you make money in real estate or any other business you might be in, then you are trying to be a tollbooth, and the dynamics of the market are going to do their best to route around you. In other words, if you cannot show a value to those you serve that is at least as great as the money you make from providing those services, the market evolution is going to put you out of business as soon as it can. This knowledge goes back at least to Frédéric Bastiat, but it's nothing that despots the world over haven't known for millennia, who have been getting increasingly sophisticated about not getting put out of business as the markets have gotten more sophisticated about what adds value and what does not. I have absolutely no sympathy for any argument that concludes you must pay someone because the law says you must. To the extent it relies upon "because I said so!", the law is an ass.

That doesn't mean there aren't legitimate economic reasons to choose to use a real estate agent, a lender, a notary or whomever. There are quite powerful ones, in fact. But to the extent the law forces you to use one, the law is a tyrant, engaging in rent-seeking behavior. Healthy economic organisms interpret rent seeking behavior as damage, and seek to route around it. Eventually, they will succeed. It may take a while, but they will succeed.

So now you know why I am always looking at "What is the consumer's interest?" and "How can the consumer benefit?" and "Does this benefit the consumer?" It isn't altruism. It's enlightened self-interest. By providing value for the consumer, even if in the context of specialized knowledge or judgment that consumer may not have, I am showing an economic reason why it is in that consumer's best interest to put money in my pocket. If $1 in my pocket means more than $1 in theirs (and it does), consumers will freely choose to line up at my door for the privilege of paying me. Some consumers may not agree, and that's fine. There's plenty who agree do to keep someone who is so oriented hopping for as long as I am willing and able to work. That's the best income insurance there is or ever will be.

But if you are not so oriented - and I am looking here at any alleged professionals who think in terms of their own benefit, rather than the benefit of consumers - then it's only a matter of time before the market figures out a way to route itself around you. I and others like me are going to be working forever. Those who take the tack that "you pay me because you have to!" are going to find yourselves in declining industries, and no amount of regulation (e.g. this) is going to do anything other than delay the tide until someone figures out how. And acting self-righteously as if you have some kind of "right" to that money as you lobby the government for them to force people to do it your way will only make you more and more contemptible, more and more an object of ridicule.

Caveat Emptor (and especially Caveat Vendor)

Original article here

A search I just noticed asked the question "Who gets the deposit if escrow falls through?"

The theory of the deposit is that here is an amount of cash that the buyer is putting up as evidence of their ability and intention to consummate the transaction.

This is a good question. I've only dealt with real estate sales in California, so I'm going to deal with it from a California perspective. California is a widespread model for real estate practices (as New York is for insurance), but I can't speak to the specifics which states are and aren't following this model and to what degree.

Most of what happens in real estate sales contracts has a default way of handling it, but is subject to specific negotiation. In other words, there's a standard way of doing it, but you can change that by negotiation with the other party. California Association of Realtors (CAR) has a specific set of forms that are encouraged, in order to make these questions somewhat more clear cut.

The standard here in California is that the purchase is contingent for seventeen calendar days, after which the buyer's deposit will belong to the seller whether escrow closes or not. From the time the contract is accepted by both sides, the buyer has seventeen days to finish all inspections, and to obtain a commitment for acceptable financing. If they call it off within those seventeen days, they get the deposit back. If the purchase falls through later than the seventeen days, the seller is usually entitled to the deposit, within limits. The seller can't just arbitrarily cancel the transaction on the eighteenth day and keep the deposit. The time specified in the purchase contract has to have expired, there must be evidence of bad faith dealing on the buyer's behalf - something.

Let me make very clear that the seller is indeed giving the buyer something when the purchase contract is signed. To be precise, the exclusive right to purchase that property for a certain amount of time. There are expenses of selling that they must pay and that they don't get back if the buyer can't carry through, not to mention expenses related to preparing to move, at least potentially having the house sit vacant, etcetera. They cannot conclude a purchase contract with anyone else while the current buyer's contract is going on. If I'm selling, I insist upon retaining the deposit if the buyer can't carry though. If I were to be unable to consummate a purchase, I certainly understand that the seller will retain the deposit in most circumstances.

The escrow company won't just give the deposit to the seller. They are paid to be a neutral third party, to stand in the middle and make sure that everybody gets what everybody agreed upon, but it is not their place to settle a dispute. For that, you're going to have to go through whatever dispute resolution process is appropriate. This can be mediation, arbitration, the courts, or possibly something else. You can spend a lot of money fighting what the contract says, but in the end you can also expect to have to live up to it, and likely to pay the other party's costs as well as your own, so better not to fight something the contract says you should have done. The escrow company will often also charge a cancellation fee from out of the deposit, by the way. They do an awful lot of work, and if the transaction gets canceled for whatever reason, they do not otherwise get paid.

The number one reason for failed escrow is loan providers leading borrowers down the primrose path. "I can do that," and no, they can't. Unfortunately, I've never seen anyone able to recover damages from a failed loan provider. I used to advise people to get back up loans, but due to changes in the loan market, nobody can offer those any longer. For sellers, look for a qualification letter that you can take to any loan provider to find out if this buyer is qualified.

You can change the standard contract by specific negotiation. If you're a seller who wants to get the deposit no matter what on day 30, you can ask for that as a condition of the initial sales contract. In a hot market, this is easy to ask for and get, but in a buyer's market, you are likely to lose the buyer. If you're a buyer who doesn't want to lose the deposit no matter what, you can ask to put that into the contract you propose, but most sellers, even in a buyer's market, are going to tell you to take a hike somewhere else. No big deal if it was "Hey, let's make a bid on this and see how desperate they are!" A real problem if you fell in love with the property and just have to have it. Over-playing your hand in negotiations is as disastrous as under-playing, and I've seen many people so intent on being Mr. Tough Negotiator that they diddled themselves out of an excellent transaction. In any case, being too sticky on the deposit is a good way not to get as good of a price as you otherwise might have. For a seller, you have this property and you want cash. You need somebody to agree to pay it - the cash is not going to materialize out of thin air. For a buyer, the whole idea is that this property is attractive to you for some reason, or you would not be making an offer. You are asking the seller to trust thousands of dollars to your ability to swing the deal as much as you are trusting their ability to deliver a clear title to a property without hidden defects.

Whether you are a buyer or a seller, once that contract is signed, you want to get cracking on whatever your obligations under it are. Get it Done. Prompt good faith execution of everything you need to do to make the contract happen is your best protection against losing the deposit if the transaction fails. The alternative is that you're likely to forfeit whatever rights to the deposit you may have had if you had been prompt. Just because Things Take Time in Real Estate Transactions is no excuse for you to waste time. Wasting time is expensive for everyone, and one of the strongest signs of a sour transaction I know. Buyers and borrowers pay increased loan and other costs, sellers lose money from delay. This is equally true in refinancing, by the way. The loan you are quoted today does not exist tomorrow unless you act on it today. In summer 2003, when rates hit what were at the time fifty year lows, many people were in no hurry, and rates shot up a full percent and a half over a couple weeks. Today, rates have been even lower for years, but they've been slowly climbing these last several months, and you can see signs that they're going to rise further even if the economy dies completely. But many people insisted upon thinking, in the face of evidence and testimony to the contrary, that the rates would always be there, and they lost out. This happens constantly on smaller scales, and recently happened again on a bigger one. If rates go down after locking, a good broker may be able to get you better rates. If they go up, you've got the lock. If rates go up and you didn't lock, you get the higher rates. Period.

But the deposit is definitely something that the buyer can owe the seller if the transaction falls through, and that's as it should be.

Caveat Emptor

Original here

(This article was originally written in August 2006. The market and loan rate figures have changed, but the basic information is the same, as is the conclusion)

Okay, you might expect a Real Estate Agent to have a post with that title, but I'm going to surprise the doubters by hauling out a spreadsheet and proving it with numbers.

When I originally wrote this, if you had moderately decent credit you could have qualified for 100 percent financing. The more you had for a down payment, the better your interest rates and the lower your payments, but even so, you could have gotten it. Now, not so much unless you have VA loan eligibility, but FHA loans allow 96.5% financing, which most folks should be able to swing by borrowing against a 401k if nothing else.

The first thing to remember is that you have to live somewhere. When you buy, you place your cost of housing forevermore under your own control. Inflation means nothing to the housing costs of someone who's already bought. Rising rents means nothing - unless you've bought an investment property to rent out, also. We are currently facing a period wherein rents are likely to rise precipitously. Why? Low vacancy rates, and many landlords facing adjustable rate mortgages that are going to adjust upwards at some point. It doesn't matter that your landlord has been nice up to now. They were banking on selling for a profit and right now, they can't. When the monthly outlay goes up, they're going to raise the rent. They will get it, too. If you won't pay it, someone else will.

Once you have bought, you step off of that one way escalator of rising rents. Rents increase at a yearly rate about comparable to inflation in most cases, and rents never drop. I have never heard of a rent decrease except in areas that were so far gone they might as well have been war zones. You only borrowed $X when you bought, and unless you take cash out (which is under your control) you should never owe more money next year than the previous one.

So buying stops your situation from getting worse. What about making your situation better? First off, I need to observe that with rising rents, your situation will always get worse until you do buy. But buying really does make your situation better. Not immediately; there's always a hit for buying, and it always costs money to sell. But within a couple of years the average person will be above any reasonable return they can earn any other way, and the reason is leverage.

Fact one: you always need a place to live, and the options are to rent or to buy. Renting typically requires less cash flow, but returns nothing. Once you have bought, all that lovely appreciation belongs to you and nobody else but. Let's look at an actual scenario for San Diego, one of the highest priced places to buy.

When I originally wrote this, I had looked at one particular property that day with an asking price of $450,000. We're going to leave aside the issue that with the market as it was, $410,000 would be a really terrific offer, and use that $450,000 asking price. The most comparable rental in the area was $1700 per month. For people with dead average national median credit scores, I had 6.125% on a thirty year fixed rate loan for the first 80% of the loan, and 8.75% on the second mortgage. Yes, I'm assuming a 100% loan. Total loan costs, one point and approximately $3400 in closing costs. With sellers outnumbering buyers 36 to 1 at that point, it was an idiotic seller who wasn't willing to pay your closing costs. Your payments on the two mortgages are $2187 and $708, respectively. Call it $2896 with rounding. I assumed you're married, which means you got a $10200 standard deduction on your federal taxes for 2006. Furthermore, property taxes are about $470 per month, and homeowner's insurance costs about $110 per month at the high end for an HO-3 policy, the best there is. Total cost of housing: $3476 per month. Over twice your cost of renting, yes. But $400 of that goes straight into your own pocket, in the form of principal you're paying off from month one. Furthermore, $2960 per month is a tax deduction, from which you'll get a benefit of $(2960*12)-10,200 (standard deduction), or slightly more than $25,500 per year, from which someone in the 28% tax bracket will see a tax reduction of about $7145, returning another $595 per month to your pocket. $3476-$400-$595=$2481 net costs per month to own that property. Less the $1700 rent, works out to $781 extra you're spending. Furthermore, if you turn right around and sell it, you're going to be out about 7% of that sale price. Assuming it's the same $450,000, that's $31,500 you're down.

However, property values don't stop rising just because the renters of the world would like them to. Let's assume you're going to make a slightly below average for this area 5% per year in absolute terms - not inflation adjusted. Most of California has been averaging seven percent per year for the long term, over cycles and cycles of pricing. The CMA for the first property I bought, at the peak of the last cycle fifteen years ago says $320,000, an 8.8 percent per year average increase. So 5% is definitely on the low side. Let's assume you have a twin who continues to rent, and invests that $781 per month, tax free, while you take it and buy a property. Actually, let's go ahead and give your twin the full net cash differential of $1143 per month.

One year later, he's got about $14,400, while your property is worth $472,500. You've got about $27,000 in equity. On paper, you're ahead of him, but remember that real estate isn't liquid and there are always selling expenses. You're really still down by about $20,000 as opposed to your twin. Darn! Just when you had a really good brag going. But wait! Now your twin's rent is raised to $1768 - right in line with 4% inflation. But your mortgage costs are fixed.

Run it out another year. Your twin has about $29,700 in that account. Looking pretty good, right? Well, you've now got a value of a little over $496,000 and you have about $56,000 in equity. You're not really ahead yet, but deducting the 7% costs of selling net you about $461,400. You've made over $11,000, net, not counting the equity you paid down! But your twin has almost $30,000. Why is renting for suckers, you ask?

Go out one more year. Your twin's rent has gone to $1838 per month, but even so his investment account still has a tad over $46,000 in it. Looks like he's pulling away! Or is he? Your property value has gone to almost $521,000, and you only owe $434,000. You're up almost $87,000, and even allowing the standard 7% for costs of selling, you're would now have over $50,000 in your pocket, several thousand dollars more than your twin.

Every year from then on, you pull further ahead. After ten years, when his monthly rent is over $2500 per month, you've got $350,000 in equity, and even after the costs of selling, are over $100,000 ahead of your dimwitted twin.

Lest you think that if your twin started with $45,000 due to a ten percent down payment it would make a difference, the answer is not really. It cuts the lead, but not the essential facts. I could cut the rate on the second mortgage a bit, but let's leave it at 8.75% for the purposes of this exercise. True, after three years you're still lagging your twin in this scenario, as that investment account is $95,000, but only by a few hundred bucks. Your equity is $130,000, of which $94,300 would be left after the expenses of selling. After ten years, he's $80,000 behind you, net of the cost of selling.

Suppose you start with a full 20% down payment? You're still $55,000 net ahead of the game after ten years. Your twin started with $90,000 earning ten percent, but not only do you not have that expensive second mortgage, you've got $450,000 earning 5%, and it's all yours and then some. This is the concept of leverage. That loan turns out to have been a good thing, as it enabled you to leverage your down payment into a much larger appreciating asset. So you only earned half the return - it was on five times the principal! It translated into a much bigger number. By the way, your twin only has the edge on you in cash flow by about $120 per month at this point, and he's going to be negative next month.

Now the real estate market doesn't earn nice smooth returns like this. Neither does the stock market, or anything except maybe bank CDs or the money market, at a fraction of the return illustrated here. Furthermore, it reliably and unavoidably takes about three years to come out ahead on a real estate investment. There are the twenty percent per year markets, but those don't happen very often and never predictably. What I'm talking about are is making money in the slightly below average market years also. Note that you'll still make twenty percent in the years the market does. Sometimes you get lucky. But "time in" is so much more important than timing that they don't even play in the same league.

You don't have to be a genius, you don't have to have perfect credit, and you don't have to make a mint. You do have to pick properties that you can afford to make the payments on, and you do have to make the decision to accept a couple of tough years for cash flow. There just is no avoiding this hard fact. There are loans that promise otherwise, but they have bitten everyone I've ever met who tried them. Once you have made the decision to accept those lean times, however, the good times seem to flow from them for the rest of your life. The sooner you make the choice to accept them, the better off you will be.

Caveat Emptor

Original here

In the interests of fairness, I've also written a companion article, When You Should Not Buy Real Estate

This is one of those commercial gambits I keep seeing that has nothing intrinsically wrong with it, and yet it is most often a tactic employed by the more costly loan providers. In short, sharks and scam artists.

The basic come-on is this: Loan provider offers to pay for your appraisal if you do the loan with them. They often use such come ons as "free appraisal!"

TANSTAAFL. Repeat after me. TANSTAAFL. There Ain't No Such Thing As A Free Lunch. "Free" stuff has an ugly habit of being the most expensive there is, and this particular come-on is no exception. Offer you a few hundred with the left hand while picking multiple thousands out of your pocket with the right. If you want to be an educated consumer, engrave TANSTAAFL upon your soul.

What's going on here is that they are trying to make it look like you're getting something free. You're not. They may front the cash for the appraisal, but in all but a few cases you're going to get explicitly charged in the end. Even for those people whose final loan papers does not show an appraisal charge, they are charging it to you somewhere else. Odds are that they're charging it about ten times over somewhere else. Either in origination or yield spread, one way or another you are going to pay for this appraisal. Actually, you are likely going to pay for that appraisal several times over. People are strange about cash. Many folks, if told they don't have to lay out $300 to $500 for an appraisal, will choose loan providers where the proposed rate is 1/4 to one half a percent (or more!) higher than competing loans, with closing costs thousands of dollars higher. They are getting the cost of that appraisal all right. In this scenario, they're making half a point to one point more than anyone else on the same loan, plus all of the extra closing costs. That's if they're a broker. If they're a direct lender, the difference is between a point and a half and two and a half points, more if there's a prepayment penalty!

Furthermore, in that packet of papers you're asked to sign will almost certainly be a form where you agree to pay for the appraisal if the loan doesn't close. Practical effect: To hold you hostage at the end of the loan.

Appraisal standards that took effect in May 2009 require the lender to pay the appraiser. This is a good thing in that the appraiser who has done the work should expect to get paid, not stiffed for the bill when escrow doesn't close. However, the lenders have a choice: They can require a deposit for all loans, or they can jack up their profits per loan, effectively forcing those clients whose loans close to pay for the appraisals of those clients whose loans don't close.

Low cost loan providers do not pay for your appraisal. The loan providers who pay for the appraisal are paying not only for your appraisal, but the appraisal of all the people who cancel, and a good margin besides. Not to mention that this loan provider completely controls the appraisal, leaving them in control of what happens if you actually notice their huge fees when you go to sign loan documents, and decide you want to go somewhere else. This is one of the ways that loan providers avoid competing on price, by pretending to give you something for free. I say "pretend" because they are not giving you anything for free. I do not understand that normally competent adults who are well aware what "free" really means in other contexts will think it means they're getting a benefit. But just like the "buy one, get one free" offers that jack the price up threefold first, this is only a good bargain if the few hundred dollars it saves you stays saved, rather than giving you $400 with one hand while taking $6000 with the other, through higher loan rates and costs. Rate and cost trade-offs on real estate loans vary constantly. You can't know what the best bargain is right now unless you price it out right now.

Caveat Emptor

Original here


It really helps my perspective in a lot of ways to be both a Realtor and a loan officer. Just the other day, I had a loan only client where they were already under contract to buy a property when they contacted me. The basics of the situation was that the property was in a very urban area, built up about the time of World War I, that has seen considerable renewal in the last decade or so. I work there as an agent sometimes, but don't keep constantly informed on all the market activity in the area, so when I do get a buyer or seller client in that area, it does take me a bit of effort to get back up to speed on that micro-market.

Silly me, I trusted that the buyer's agent had done their job, and when I got the loan application, I sent the appraiser out. Yes, a stupid mistake, I know. The buyer's agent was raving about what a fantastic deal it was the whole time the appraiser was working. Then the appraiser e-mails me and said, "Value isn't there. Do you want to proceed?"

Well, beat me like a red-headed step child. I ran the comps, and there just wasn't any doubt. The property was at least 25% over-priced, at least as compared to what the appraisal will support. Keep in mind that lenders will only lend based upon the lower of purchase price or appraisal. This is good basic accounting practice going all the way back to Luca Pacioli, and those who would change this do not understand the underpinnings of our financial system nor do they understand loan underwriting.

So what do I do? First, I apologize to the client for not having run the comps in the first place. Then I explain the situation to him. Having the value fail to come in isn't the end of the world. He has a loan contingency in effect, so he has options.

First, he can just walk away. The loan can't be done on the terms of the purchase contract, giving him grounds to exit the contract without penalty. No harm, no foul. This is a good option to consider, especially if option 3 fails where it is usually the only viable remaining option that does not actively work against client interest.

Second, he can come up with the difference in cash or the equivalent, increasing his down payment so that all the lender has at stake is the same percentage of the appraisal amount. If it was an eighty percent loan on (for example) $200,000 (or $160,000), coming up with more cash can make it a eighty percent loan on $160,000 ($128,000), or higher percentage value loan on the same amount. This usually isn't a good option, but if the property really is worth that much to you, it might be worth considering if you can. Most residential buyers don't have this much extra cash lying around, but if you really would get something out of the deal that really is worth the money you are paying, it is an option worth considering.

The third and usually the best option is to renegotiate the deal. The seller can't make the buyer stay in the contract if there's a loan contingency in effect. In fact, if the appraisal is done correctly, there just isn't a lot of wiggle room for the sellers. Another appraiser is going to come up with a very similar value. Therefore, the seller is not going to get more money out of the deal. They can decide they want to do what is necessary for this deal, or they can flail about for months hoping for another buyer who doesn't need a loan. If the appraisal is done correctly, it is in the seller's interest to renegotiate. Some won't, sitting in Denial, but it's not the constructive alternative. If the appraisal is only going to come in for $160,000, pretending it's a $200,000 property doesn't help the seller any more than over-pricing the property in any other context. Remember, lower of purchase price or appraised value. If the appraisal is only for $160,000, the loan can't be based on a value higher than $160,000. Whether the listing agent bought the listing or whether there really are aspects of the property unquantifiable in the appraisal, the fact of the matter is that most potential buyers need a loan and are therefore going to be stuck with that appraised value, and can't pay more than it indicates. Even the ones who can usually don't want to.

There really aren't any other options that do not actively work against the interest of the buyer. The seller wants it sold and it is in their interests to get it sold. Most business models of real estate are built around listings and catering to sellers. They do not consider the interests of buyers, which is why the traditional response of most agents has been to play games and commit fraud and conspire against the interests of the buyer rather than do the hard work their job requires. It's also a reason why you want a good buyer's agent if you are a buyer.

This isn't to say that appraisers are infallible, don't make mistakes, don't collude with buyers upon occasion, etcetera. Sellers and their agents need to do their own due diligence to find out if that appraisal is accurate or not. But if it is, sitting there in denial of the facts isn't going to help.

What is not a constructive option is to beat up the appraiser or get another one. Assuming the appraisal is well done, the value is going to be close to what any other honest appraisal will come up with. The sales in the neighborhood are what they are. If there are better and higher comps, by all means ask the appraiser to take them into account. But if there aren't better and higher comps, it is neither in the buyer's interest nor the lender's to over-pay for the property. Buyer's agents and loan officers who pressure an appraiser for higher values than are justified, and appraisers who cooperate, are committing FRAUD. I have nothing but contempt for any of them. Especially the buyer's agents, who are violating fiduciary duty on the most basic level.

The appropriate response, on an buyer's agent part, is to renegotiate or advise a client to walk away if the seller won't renegotiate. That's doing your job, serving your client, etcetera. If I can't find comps that persuade the appraiser to change the appraisal upwards, that appraiser has just saved my client a large amount of money they shouldn't have been spending. The appropriate reaction is gratitude, not anger that my deal is falling apart and I'm not going to get a commission check yet. Unfortunately, this is often not the reaction that appraisers and loan officers get in that situation. The most common reaction is trying to find a more compliant appraiser, one who is willing to stretch the truth, and pressuring the client to fire the loan officer who just proved they will guard the client interest more than the lazy alleged buyer's agent. Exactly how is that fiduciary duty to pursue a path which results in my client over-paying for the property?

If the property really is worth paying that much money, I shouldn't have any problem explaining to my client why it is worth that much money, appraisal or no. Yes, they've got to come up with more cash, but if the property isn't worth the purchase price, I shouldn't be pursuing a course that results in my client paying that price. Agents who do should be fired. Actually, I think they should lose their license, but consumers firing them is an acceptable minimum.

It is only the loan which enables anyone to pretend otherwise. But a dollar my client pays for via a loan is every bit as much real money as a dollar out of their checking account. Neither a client or an agent should treat $1 in purchase price any different in an "all cash" purchase than they should if the property is bought with a 100% loan and no money out of the client's pocket. For an agent to do otherwise is a sign of the worst kind of crook in the business. If a property is worth $X, it's worth every penny of it whether or not lenders will lend based upon the full purchase price. It may not be a property which this client can purchase, but it is still worth that money. The appropriate response for a buyer's agent is to attempt to renegotiate, and advise walking away if that is unsuccessful. It is not to violate their fiduciary duty as well as committing FRAUD by getting a bogus appraisal. If the buyer's agent is really determined to do their job correctly, they've just got a little bit more to do than they previously thought.

Unfortunately, it's been a really long time since any of the main institutions of real estate were serious about the client interest part of professional standards. Neither the various Associations of Realtors nor anyone else really gives a rat's. What most of them teach is getting a transaction done, and treating the loan and the appraisal as obstacles to that, rather than protections for clients. There is an enormous inertia of lazy thinking in the real estate profession, and it's been hosing clients for decades. But just because you can manipulate the system to persuade a lender to believe that a property is worth lending $X on doesn't mean the property is worth that purchase price, and lenders are starting to defend their interests, something I'm very happy to see.

It isn't pleasant for a buyer's agent to re-open negotiations. It's still my job when this happens, and if the listing agent is any kind of professional, they're going to respect me for it. Nor is getting angry a constructive response from a listing agent. As a listing agent, I can try and find better comps, I can persuade the buyer why the property really is worth that much money despite the appraisal, or I can do what I almost certainly should have done in the first place: Go back to my selling client and explain why the property is over-priced and why they should sell it for less. A listing agent who can't or won't act appropriately in this situation isn't worth the dog feces stuck to the bottom of their shoe, much less a fat commission check. They are sabotaging their client, and should be treated accordingly.

This issue is endemic to Dual Agency, where the agent is supposed to be representing the best interests of both buyer and seller. What actually happens is they want to protect their double slice of an inflated pie by getting it sold at the inflated price, so dual agents are strongly motivated to pretend that the accurate appraisal is a lowball. As a buyer, the idea of protecting your interests generally doesn't even cross their mind in this situation.

Do you see what the common element is here, and the common problem? It's agents who didn't do their job right, whether they "bought" the listing by indicating an unrealistic price, or said it was a good bargain when it isn't. Not only did they commit one of those two egregious violations of client interest, when it is rubbed in their face, they are compounding that mistake by refusing to own up to it and deal with the consequences. It's difficult to own up to mistakes, but it's also something a professional has to do. Agents who refuse to do so should find themselves unemployed and penniless. It's too bad that by the time a consumer has discovered this issue, they are already damaged by these malfeasant twits. Unfortunately, it's very hard to get rid of these sort of agents and the inducements really aren't there for other agents who do serve their clients best interest to make the complaints that would, in a perfect world, result in the incompetent ones losing their license. All the more reason why consumers need to do due diligence in the first place and ask the agent the hard questions before they sign on the dotted line.

The guy I talked about at the start of the article? Despite the evidence I furnished of the comparable sales, his agent is either sitting in Denial or FRAUD. There isn't a lot of wiggle room here. They dropped the application with me when I took the position that the appraiser was correct. They couldn't dispute the reasoning, so they went in search of someone who will agree with them despite the evidence. The property still shows as being in escrow. The only way that value is going to come in for a value that allows that transaction to close as written is via a fraudulent appraisal that's going to result in the client paying too much for the property. But evidently, this agent has decided that's where his interests lie. So it does happen. It will happen to you if you're not careful about your choice of agent. The good news is that with lenders defending their interests more strongly now, this kind of agent is going to find themselves increasingly out in the cold when it comes to actually getting the transaction done. And about the only good thing about the new appraisal standards is that they have made that kind of "appraisal shopping" more difficult (Not impossible, but a little more difficult).

Caveat Emptor

Original article here

Buyer's Markets

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One of the phenomena that I have encountered is fear of the market in buyers. They are concerned if prices are falling, and that they will lose some or all of their investment if they buy.

Well, the first thing to understand is that buyer's markets are not the time for "flippers". You are not going to buy the property and make a profit after the expenses of selling in three or six months. That's a seller's market. In hot seller's markets, most prospective buyers were using the f-word. In buyer's markets, those people who were buying to flip are caught flat-footed by a market that has turned, like deaf kids in a game of musical chairs. The signs were there, but they were just a little too greedy.

Nonetheless, a buyer's market is the best time to buy for everyone else, and here's why: Inventory. Turnover Rate. Market Saturation. Supply and Demand. Instead of being the kings of the world, sellers have now turned into the beggars. Imagine you're in an environment where there are 30 people of the opposite sex for every one of yours. I'm assuming you're interested in the opposite sex, but even if you're not, you should be able to understand the implications. That one woman with 30 men to choose from is going to be able to get just about anything and everything she wants. Even the woman who would be completely ignored in other circumstances is going to have multiple, attractive suitors. Alternatively, the one man with 30 women to choose from is going to end up pretty darned happy about the situation, even if he is short, fat, ugly, middle aged and balding. If you're buying to hold, stop thinking in terms of short term cash, and start thinking in terms of affordability. Your money buys more in a buyer's market. Over the course of ten years - or however long you keep it - the market will change many times. Inflation and many other factors will wax and wane in influence. Stop thinking in terms of cash, start thinking in terms of other commodities. The property you bought for the equivalent of 100,000 pounds of hamburger at market trough is a better bargain than the same property for the equivalent of 150,000 pounds of hamburger at market peak.

To return to the dance metaphor, the sellers in buyer's markets don't really have the option of choosing other sellers, as it doesn't help them. They have real estate, they want cash. Just like how that short fat ugly balding middle aged guy does pretty well for himself when there are 30 women for every guy, so does the buyer who has cash, or can get it via their power to get a loan.

Prices are likely to drop for a while in buyer's markets, but in seller's markets where prices are rising, you don't have a high ratio of sellers to buyers, and the market could turn at any time. If you wait for the market to turn around before you put in a bid, you will be much less sought after, with the consequence that you will spend more in real terms. In buyer's markets, the power of the market puts buyers in control of the transaction. If this seller isn't quite desperate enough to do what you want them to, the one down the street or around the corner is. Like the 30 men to every woman scenario, if this man isn't able or willing to meet the woman's full wish list, she can move on to someone who is.

Buyer's markets don't usually last long. The last one was less than a year, and only about two months that buyers had peak power. If you buy for a little more than market bottom, so what? The only time value of the property is important is when you sell and when you refinance, and I've already told you this is not a flipper's market. But once other potential buyers get the idea that there are bargains to be had, they will come out of the woodwork, and the vast majority of your purchasing power will be gone when the ratio of sellers to buyers drops to four to one. And soon after that, they turn back into seller's markets. When that happens, watch the prices - and the profits - shoot back up.

Miss the window for whatever reason, and you'll pay for it later. Any market is always most lucrative when everybody else wants to do the exact opposite of what you're doing. Pick and choose your properties with care, and you will do very well when the market turns, whether that is next month or next year. In buyer's markets, you have your pick of sellers, and your pick of their properties, and the leisure to consider. When the ratio of sellers to buyers drops, it gets much harder to find these kinds of bargains, and much harder to get in before someone else has locked it in by getting an accepted offer.

Caveat Emptor

Original here

I don't do rental agency, but I do I work with people to get them to the point where they are ready to buy. I recently got this email from a single mother I'm trying to get into a position to buy

Hi Dan,

An opportunity came up for a 4 bedroom house to rent. It's actually a "too good to be true" opportunity. The rent is only $1400 (only $150 more than what I am paying already) and it is in DELETED. I would still be able to save some money to buy a house plus we would be comfortable in the process. Anyways, I was hoping you could read the response from the owner and tell me what you think. I was also hoping you had a way of checking to make sure this house isn't in foreclosure. That would be a nightmare. To move into a house and then get evicted or worse.

As always thank you for your time and generosity.

The email is below. I'm sure you'll agree it has all the hallmarks of those Nigerian 419 scammer emails.

Hi Thanks for the email. I DELETED owns the house and also it is situated and also want you to know that it was due to my transfer that makes me and my family to leave the house and also want to give it out for rent and looking for a responsible person that can take a very good care of it as we are not after the money for the rent but want it to be clean all the time and the possible tenant will see the house as his or her own. We have left the US and we are currently in the West Africa for a program called 'World Conference Against Racism Youth Summit, Empowering youth for combating racism, HIV/AIDS, Poverty and Lack of Education, the program is taking place in three major countries in Africa which is Sudan, Ghana and Nigeria. It as been a very sad and bad moment for me, the present condition that I found myself is very hard for me to explain. If you will be the right tenant to our house, we will get the keys and documents of the house sent to you via courier services as soon as all terms are settled.

HOUSE ADDRESSES : DELETED. 4 Bedroom, 2 Bath, 2 Car attached garage. Nicely upgraded house on a Cul-De-Sac in quiet Santee neighborhood. Remodeled kitchen with Granite countertops, Refrigerator, Microwave, Dishwasher, and Gas Range included. Remodeled master bathroom and fireplace with marble tile. Mirror closets in all bedrooms. Laminate wood and tile floors, carpet in the bedrooms. Central A/C. Large backyard with a nice view of the mountains and city lights. Close to shopping centers and schools.

All types of pet allowed and Additional monthly charge of $80 for pets.....You can drive down there to take a look at it and also Available now!.

I will be online through out to get back to you as soon as you are able to get back to me. I would want to know how soon you would want to move in, as I will be taking a 2 month upfront payment which mean the first and second third months you will be staying in the house including some utilities (Electricity, Water, Internet and Garbage). I am asking for $1400 and I believe we should be able to help ourselves. I am accepting $1400 including utilities because I want you to take a very good care of the house while I am away.

I am looking forward to hear from you ASAP so that i can forward you an application to fill out and discuss on how to get the house rent over to you so that I can get the keys and papers sent to you via FedEx or ups e.t.c, also are you ready to rent it now or when? Await your reply. I will be willing to send the inside view of the building if you demands for it.

I could let you remain in the house till I come back if you are a good tenant and
you can reach me on DELETED PHONE NUMBER.

Thanks and God bless you..

My response:

The name given is the name of the actual owner of record. There is no Notice of Default flag in that portion of the public records I have access to via MLS (it's been known to be mistaken, but is most of the time it's spot on).

With that said, I don't practice rental agency, but my understanding is the maximum they can collect up front is the deposit plus one month rent.

Furthermore, a situation like this where they are "out of the country" is rife with potential for fraud. There is a lot of rental fraud out there right now. Run "rental fraud" and "landlord fraud" through a search engine for articles. It's just as easy for scammers to look up who the owner of record is as it is for anyone else. They also can get the information from legitimate ads. My advice to you is to ask for their local agent, make sure they have agency authority (the document is easily understandable) and are licensed and bonded, and deal with that agent.

Otherwise, you could very easily find yourself in a situation where you have wired several thousand dollars to a scammer in another country. This situation and the email you got rings all of the alarm bells of any 419 scam. It could be legitimate, but everything I am reading tells me BEWARE!

Yes, you might lose a sweet deal. But you also have thousands of dollars at risk in a situation rife with opportunity for fraud. This is not a subject where I am really competent to advise.

The lady emailed me back

Hi Dan,

There have been a lot of conflicting stories since I wrote you earlier today. Last night we drove by the house and it was obvious that someone is living there. I received a second email from the "owner" telling me that the house is vacant. I drove by there tonight and got up the nerve to knock on the door. The new tenants were living there and had been living there since March 1. I think what happened was someone saw the original posting on Craigs List, used that info to create a dummy listing. This is truly heinous. I'm glad I'm smarter than the crook that is doing this scam. I'm going to back to Craigs List and report them before they cheat someone out of thousands of dollars.

Happy ending for this one, but every day people get taken by scams like this one. Your protection against this (when the owner is not local enough to meet and show the property themselves) is to use a licensed bonded rental agency. Yes, insisting upon this protection might possibly mean that you miss out on a really sterling rental deal, but it's far more likely to mean that you miss out on wiring several thousand dollars to a scammer you'll never be able to track down when it turns out they had no authority to rent the property.

Caveat Emptor

Original article here

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