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My husband and I are on title and loan to a piece of property with 4 homes on it. We want to add 3 people to title. Can we do this if they are not on the loan? Also, any advice as to where I can find information as to how to hold title? Each party wants their percentage to go to next of kin and not to the rest of us on title.
This is a property that my family all live on. Basically we all bought it but we couldn't put all of them on loan for various reasons. We do have a sort of "operating agreement" going for maintenance and stuff like that, so I just want to know if they can be added to title so it's all official.
There are significant perils in this, especially since you're the only one on the loan. I can envision half a dozen scenarios where you end up liable for the loan even though you no longer own the property, or end up only owning a smaller piece of the property. Nobody likes to consider ending up in court opposite a family member, but family members are much more likely a legal adversary than complete strangers. This stuff happens every day. Partition suits aren't exactly uncommon. I suspect a certain number of them may even be manufactured, because a multi-residence property may be more valuable as multiple legally separate lots.
Quitclaiming is easy, and requires no permission from anyone, but you really need to understand the consequences of what you intend to do before you do it. Furthermore, there's more than one way to hold title, each of which means different things. Joint Tenants, Tenants in Common, trust, corporation, partnership, etcetera. You need to choose a form of ownership that protects you, while still serving your needs.
I'd seriously suggest getting a partnership or corporation agreement executed first, and quitclaiming that way, but you really need to pay a real estate attorney for some advice, first, and you'll be better off following their advice than mine.
Not that I'm a big fan of lawyers. But the hour of time you pay for now will likely save you at least a million dollars down the road, from the type of property you're talking about. Ounce of prevention and all that.
It's a well known fact that not all factors in real estate are equally important, and not all property investments perform equally well. A critical part of successfully choosing the right property, whether it's for investment or personal use, lies in realizing that some things about a given property are completely under your control once you purchase, some things are only controllable by large groups of people acting in concert, and a few things can't be changed at all.
There are graduations among the three, in fact, it's more or less a continuous spectrum from picking up a piece of trash to weather and earth movement. Just because you can't control it doesn't mean you can't take it into account before you decide on where to spend your money. Once you've bought, of course, you're stuck with what events happen to have an effect upon that given location. Just because there hasn't been an earthquake there in 6000 years of recorded history doesn't mean it's impossible for there to be an earthquake. But if the area has a history of earthquakes, fires, landslides, you name it, or even just a known susceptibility, you're wise to take it into account. This extends into human controlled areas as well. Never been so much as loitering within ten miles? Nice, but that doesn't stop the head of the local mob from buying the house next door to yours later on, or the FBI from renting it for their Witness Protection Program (and no, that's one neither you nor I am likely to find out unless and until gunfire starts, but that doesn't stop the crooks looking for those witnesses!). One of the aspects of this being a free country is that bad people are pretty much equally free to go where they want unless they're actually in confinement somewhere.
There are, however, all sorts of known factors about a property that you can consider, and a good agent can really hep you with. Sometimes it's a matter of capability (whether you can), sometimes of knowledge, sometimes of willingness, and sometimes, of visualization, whether you can really visualize the place with the changes made.
Knowing that difference is money.
Serious money, especially in a high cost area like mine. Knowing what you can change and what is beyond your control. Knowing what stuff costs, in general, is a really valuable piece of knowledge for an agent, and whether it's likely to be worth the money you spend.
Some stuff, like trash in the yard, paint on the walls, and carpet on the floors, is so easy to change it doesn't hardly register. Yes, good carpet costs thousands of dollars, but it's worth every penny at sale time. Paint is cheaper. Window coverings, All of this is superficial, and can be changed easily, but unless you're an experienced agent you would not believe how many times I've heard arguments against purchasing a property that amount to "I don't want to have to spend $4000 to save $40,000!" Then they go out and buy another property for that $40,000 more, and stillspend that $4000 - or more - changing out the already good looking stuff that was already there for other good looking stuff, when they could have saved $40,000 off the purchase price by simply realizing they were going to replace it anyway, and buying the property that was trashed. I don't care how often I've seen it. It still blows my mind, every time. And if you're looking to sell, by all that's holy, you'll make a lot more dealing with it yourself than giving Martha Stewart Jr. a carpet allowance. The idea is that you want as much of Martha's money in your pocket as possible! With an allowance, you not only pay several times over in the sales price, you're also volunteering to pay some of the money you do get right out again!
Appliances. Why in the nine billion names of god are some buyers so particular about the appliances? The vast majority of appliances are personal property and are going to go away with the current owner. Who cares if the refrigerator is avocado green now? It's going away. If the owners do leave it, I know places that will pay you money for the privilege of hauling away functional appliances, and then you can put your burnt orange one in its place. Even if the appliances are attractive, unless they're built into the property, they're going away. It's not like it's going to be hard finding a flat black or stainless steel replacement. But when you're selling, it really is a good way to sucker more money out of people, and unless you build it in or agree to leave it in the sales contract - a concession the buyers will pay dearly for - you get to take them with you! How cool is that?
Surfaces are a little harder, but I do not understand why people are willing to reward current previous owners who built in things like granite counter tops or travertine floors. Actually, I do. It's all part and parcel of that same desire that Mr. and Ms. Middle Class want to have their home be beautiful, so they'll spend $50,000 more to buy the property that's beautiful now, and then they'll come along and replace all that beautiful stuff with equally beautiful stuff that's more in line with their taste. But granite counter tops, travertine floors, etcetera aren't all that expensive to put in (why do you think they're so popular with developers now?) and they do age. If you stay in the property twenty years, you're going to want to put in new ones before you sell. But guess what? You paid all of that opportunity cost, and interest on all of that cost, all of these years, and now you're having to install new ones just to come close to breaking even on what you've already spent. Smart Investors are looking for the properties where they can get those bumps up in value themselves by putting them in and flipping the property off to Mr. and Ms. Middle Class.
Similar to all the preceding examples, lighting is a relatively cheap investment that pays off. Lots of nice bright soft lumens. Some people will pay big bucks without realizing why, not to mention that light bulbs are both cheap and easy to change and the wiring lasts basically forever, so you can fix it up after you own it, enjoy it all those years you live in it, and still get the bump up in value when you go to sell. Providing, of course, you or your agent has the presence of mind to recognize the opportunity, and you don't insist on having it already in place.
Not quite so easy are windows for natural light. It's very hard to go wrong with too many windows, or too big. Nonetheless, you have to be careful not to sabotage your structural support. And of course, you're cutting through walls. This isn't cheap; but it is often worth the money. Just like electrical lights. It'll make lots of folks willing to spend big bucks without understanding why.
This contrasts to bad or old wiring. It just won't hold the load modern dwellings need to, or doesn't have enough outlets. Back in the 1930s, one outlet per room was plenty. These days, code requires one per eight linear feet of wall in new housing. The house I grew up in had a thirty five amp master fuse. That may not be enough for a linen closet, nowadays, but those houses are still out there. It isn't cheap to upgrade their wiring, but if you've got to do it, overkill isn't much more expensive. If you're running all new wiring and putting in new breakers and new outlets, the cost differential to make it way more robust than absolutely necessary is perhaps 1%. Instead of 500 amp service, consider at least doubling that. As long as you're putting in one outlet every eight linear feet, make it a four or six plug outlet (with wiring robust enough to match). Point of fact, investors who flip rarely upgrade wiring - it doesn't pay off in sales price. But if you need to do it in order to make your family comfortable, overdo it. It doesn't cost any more per hour for an electrician to run bigger wires, install bigger breakers, or put in a bigger socket. So you spend $1 extra per outlet - if it keeps you from having to do it again. There's been a steady increase in the amount of electrical load for the average house over the last eighty years or so. I wouldn't bet on that changing any time soon, and when you go to sell in twenty or thirty years, the electrical situation will still make buyers happy. Unless that house falls down around your ears in the meantime, you'll be glad you did. Here's another thing I don't understand: People will act like it's no big deal to upgrade the electrical service, even though it's much more costly than any of the stuff you've already read about. Maybe because they don't understand what's involved, or maybe because it's not obvious on the surface, but a house where the electrical grid will handle your requirements is easily worth $30,000 or more than one that won't - because if it won't, guess who's spending that money?
Towards the high end of the subspectrum involving personal control, you're pretty much stuck with the architecture. Put another room on that doesn't match, and people will start describing the house as "ramshackle". Houses where everything matches get more than houses where there are obvious mismatches. Short of hiring a bulldozer and starting over, your architecture is your architecture. Ditto basic construction. If it started with adobe, you'd do well to stay with adobe. If you don't like adobe, don't buy adobe.
Right at the extreme of personal control is the lot you're buying. Unless you can persuade one of your neighbors to sell, it is what it is. Don't count on that happening.
Getting into things you can't control, but can influence, is the homeowner's association. If there's a homeowner's association, you can influence it by getting involved. You can't control it by yourself, and you can't make it go away, except by not buying where there's a HOA. Learn the rules, and learn the neighborhood, before you buy. If your rules aren't something you can abide by, be certain Mrs. Grundy is going to do her best to harass you into doing so. This starts at letters and goes through fines, and might even include foreclosure. If your neighbors are at war with each other before you buy, that's likely to continue indefinitely afterwards. Just because there's no war right now doesn't mean one won't start the instant you buy. The more recently it was built, and the higher end the property, the more likely it is there will be a HOA. If you buy where there's an HOA, it's more likely one of my grandfathers will give birth to triplets than that HOA will go away (FYI: if being old and male in a species where it's the female who gestates and rarely to more than one child at a time isn't enough for you, my grandfathers are dead). HOAs really are a good guardian of property values, but they sure can make an ordinary person who just wants to enjoy their property miserable.
You can't do a darned thing as an individual about the surrounding property, or the neighborhood. If all around you are 3 bedroom 1.75 bath properties that sell for $400,000, that's the mean your property will tend towards and be judged by. In some areas, $400,000 is a mansion. Around here, it's nothing nearly so grand. You may be able to get a little more if you've got a fourth bedroom, or an extra large lot, but a 6 bedroom 4 bath place will not be worth twice as much, simply because of the surroundings. In fact, it's unlikely you'll get more than 25% extra, that being a relevant appraisal standard. Even if someone agrees to pay it (they won't), lenders won't lend based upon it. That property is a misplaced improvement. It's fine if you just happen to like the neighborhood, but don't expect that your house will sell for twice as much because it's twice as big or twice as nice. Three words: Not. Gonna. Happen. Keep this in mind when you're buying or upgrading your property, also. On the flip side, this can help properties that are below that neighborhood average. Everything around them pulls them up. But it also means that there's a sharp limit to the improvements that are worthwhile.
Traffic, whether you're on a busy street or a busy corner, parks, shopping and other neighborhood amenities, you can consider to be essentially fixed characteristics. No one individual controls them. Even if you get yourself elected mayor, you'll find yourself checked by the power of the rest of the government. There's nothing you can do to advantage yourself without disadvantaging someone else, and if you want the most primal scream of most suburban dwellers, talk to them about lowering property values. It sends people completely around the bend, mental health wise. Sometimes you get lucky and something good happens. Sometimes you get unlucky and the opposite occurs. But it's not under the control of any one person. Know this ahead of time. Acknowledge it to yourself, and worship at the altar of accepting these things as they are. By the way, if I were selling, I'd make certain your prospective buyer is aware of upcoming issues that may negatively influence the neighborhood. Even if you didn't know, if they can make a case that you should have, that may be good enough to win in the courts. It depends upon the jurisdiction. Talk to a lawyer in your area to be certain.
Of course, the geography of the land you can consider as fixed. Weather also. Even if you own a large enough parcel to move your house to a better location on the lot, or even to level that hill that's threatening to slide down on top of you every time it rains, your return on that investment is not going to repay the cash it costs you. Earthquakes, wildfires, tornadoes, hurricanes, floods. You might was well consider that the price tag includes a certain probability per year of each.
Knowing, or learning, the difference between what you do and don't control, and what is and isn't profitable to upgrade, is a large part of the battle of finding a good property to invest in, whether you intend to flip in two months or whether you intend to live there for the rest of your life. A good agent, who's not dependent upon the tollbooth model of business, will be an immense help to the selection process or the sales process, and likely to make - or save - you enough money to pay their commission several times over, and more so if you include them in your planning process.
We live in (A California city). In a 2 bedroom 1 bath home on approximately a 20,000 Sq. ft. lot. It is easily worth 500K to 600K with a current mortgage of $116,000. The mortgage/Title is in the name of my father and his wife 90% and myself and my wife with a 10% interest.
My father who is 75 and retired wants to take out about $80,000 cash which would create a new loan of approximately $200,000. He currently has a very small income from investments and lives in a paid off home in (out of state).
He would like to gift this (California) home to us and we would like that also.
Based on your expertise what is the best way to transfer the property to my wife and I and at the same time obtain a cash out stated income loan. How will a lender expect this to be handled? Do we all qualify together and the lender then allows my father to transfer/gift title at the close of escrow?
I realize that whatever lender wants to make the loan they will want to have my wife and I qualified to be on title. Since we have a 10% interest I would assume that we could all be asked to show assets and income. This might be complicated. I am a realtor but I haven't made much money in the last two years because I've worked on a business startup currently breaking even with no income.
My wife has a terrific long term (16 yr) job with a law firm. Gross income $85,000. All of our expenses are very low and the last time I looked our credit was a 785 FICO score. When I do the front end ratio 28 with only my wife's income it appears to be no problem at all. When I do the backend it's a little more snug but definitely doable. I've racked up some credit card debt funding the startup business. I can pay it off but I would like to retain working capital handy for my business.
I believe a stated income loan would be the best way to go.
Here are the assets and documentation I would be willing to show, and the lenders exposure to the property.
1. We would have approx. a 36% LTV at the end of the transaction. 300k+ equity
2. Assets in a 401K of $200,000 +
3. Approx. $30,000 in savings accounts
4. Approx. $40,000 in negotiable stocks
5. I will of course provide credit reports.
6. Employment documentation for my wife only.
I believe my father and his wife have approximately $200,000 in mutual funds plus social security and she has a part time job doing a water district's billing.
This one is fairly complex on the surface. Issues that I see right off:
-documenting current interest
-structure of transaction
-Will your father be selling you some of his interest as part of this transaction?
-likely the cash out quitclaim issue
-Who is going to be primarily or completely responsible for new loan
-verification of rent/mortgage.
You say that you are already on title of record, and that the desired end state is to have you and your wife owning the property outright.
The best way to structure this is probably as an actual sale
transaction. Your father selling you and your wife a larger interest. Because this is a family transfer, you still would likely qualify to continue having it taxed based upon original acquisition price, but that needs to be checked, either through the county or your title insurance company for the transaction. You also need to scrutinize the current owner's policy of title insurance to see if it will continue coverage. There have been changes in the industry since the property was bought. If it doesn't, you're going to want to buy a new policy.
Now there is a standard policy with every lender I've ever done business with. If someone is brought onto title via quitclaim, you can't get cash out for six months after that date. This prevents several sorts of fraud. I am going to presume that you've been on title longer than six months.
Now, there are three ways that suggest themselves to structure this transaction. Each have their potential advantages and disadvantages. First though, we need to take a look at another issue.
In all real estate transactions, and for all loans, the method of evaluating the property is the so-called LCM, or "Lesser of Cost or Market," method. Market is what similar properties around yours have sold for within the past twelve months, and that is what it is, and is computed by the appraiser.
Cost is the purchase price. In refinances, there is usually no purchase to consider, because the value has changed since purchase. In purchases, there usually is.
Whichever of these two numbers is less determines the value of the property, as far as the lender is concerned. It doesn't matter if similar properties are selling for four million dollars - if you buy yours for one hundred thousand dollars, the lender will loan as if the value was $100,000. It can't be any higher than that, because the seller willingly sold to you for that amount. If the property was worth more, they would have required you to pay more.
For family transfers (and indeed, any related party) this presumption goes out the window. Parents do all kinds of stuff for their kids that they wouldn't do for anyone else, and vice versa. Lenders still won't loan money based upon a number above nominal purchase cost, however.
Furthermore, there have been a sufficient number of scams over the years that they will take additional measures to protect themselves. The presumption of willing buyer and willing seller is violated on both ends of these transactions, and many times it has been A selling the property to B for an overinflated price for the purpose of getting a loan and departing at midnight, leaving the lender holding the bag. Remember, I told you in this article here, is that because the dollar values are so large on real estate transactions, every single one is heavily scrutinized for fraud. There's a reason for that. These additional measures differ from lender to lender, and some lenders will not undertake related party transactions at all. When I'm getting loan quotes from lenders, if it's a related party transaction, then words to that effect are the first words out of my mouth. It saves a lot of time and effort.
Now, I mentioned there being three ways I can see that make sense to approach the transaction?
The first is a full price sale with upfront gift of equity. You buy the property for $600,000. They sell it to you for $600,000, but give you $340,000 in equity in addition to the $60,000 you already own. You get a loan for $200,000 (actually a bit more to pay for costs), the old loan gets paid off, your father gets his $80,000. This has the advantage of being a true picture of what's going on. The problems are that to the lender, this screams fraud. They're not likely to be too worried that its for below market value, but $340,000 is a lot of money. They are going to want to see evidence that there's not some loan going on under the table between you and your father, because that would affect whether or not you qualified for their loan. Furthermore, estate tax isn't completely dead yet and could be resurrected even if it does die, and this would have significant estate tax implications.
The second is full sale price with subsequent gifts of equity. Sell it for full price, from you and your wife as ten percent and your father and his wife as ninety, to you and your wife as twenty-five percent and your father and his wife as seventy-five. They can then give you a gift of forty thousand of equity each year. You can even combine this with the initial sale, making your interest thirty percent, which might make the loan easier. In this case, you are all four probably going to be on the new loan to get the best rates, as $200,000 is about thirty-three percent of $600,000 - a larger amount than the equity you and your wife currently have under this scenario. There is a further major difficulty with this lies in the possibility that the complete equity may not be gifted in your father's lifetime.
The third way is to sell the full property at a reduced sale price. Approximately $300,000 would probably be sufficient. Everything here is like the full price sale, but they're only giving you about $40,000 in equity upfront - which is within the IRS single year limits. The bank has less difficulty believing that (although they're still going to want a letter stating that it is a gift!). The downside is still that family transfer thing, and the fact that if you wanted to refinance within a year there would be appreciation issues on whether or not the bank would believe you.
All three ways have their bumps and walls which you very well might run into. Each lender has their own anti-fraud measures, and sometimes these run afoul of the best ways to structure it
Now, as to the loan itself, I have good news and bad news. I'm going to start with the bad. Verification of Rent/Mortgage is going to rear its ugly head no matter what you do. The bank is going to want to see some kind of evidence that you and your wife have been making rent or mortgage payments every month, and from all that I can see in the email, there's no evidence to support this. The only person who appears to be in a position to verify that is your dad - unless you've been writing the checks for the mortgage and can prove it. The lenders may or may not accept your father's word for it, and they are going to want evidence. If you're actually on the current mortgage, this would be extremely helpful.
The good news is that with an income of $85,000 per year which your wife alone makes and you should be able to document, you have a monthly income of about $7083. This means that the back end you'd qualify for on A paper, thirty year fixed rate basis, is about $3180 (about $2690 if we're talking about an A paper ARM). Picking a random A paper lender, I get about 6.25 percent rate thirty years fixed full documentation, which translates to a monthly principal and interest payment of a little less than $1232. With the yield curve inverted right now, the five year ARM is about the same rate, meaning there's no reason to do that instead.
Take $1232. Add $600 per month, which is about the worst case scenario for property taxes that I see (as I said earlier, you can probably preserve the current tax basis). Add another $150 per month for homeowner's insurance, which is a high estimate for most urban locales. This is still less than $2000 per month, leaving you almost $1200 of other allowable payments before you would not qualify full documentation. You can probably do stated income if you want, but that'd be giving the bank money that you don't need to.
Because of the multiple concerns, of which the most important are family transfer and verification of mortgage/rent, there are many reasons why the best way to approach this might change, but when you separate it all out, it certainly looks doable.
Caveat Emptor (and Vendor)
One of the occasional questions I get from people has to do with why the housing bubble got so big (or if you're one of those still in denial about it, how prices jumped so far so fast).
This has to do with several factors. Legislation made real estate investments more attractive. Interest rates got low, and nontraditional loans proliferated. People took their money out of the stock market, and wanted to invest it somewhere. The feeling that the housing market could never go anywhere but up. And I will address all of these issues in the coming paragraphs, but the largest factor is and was psychological. People were simultaneously scared that if they didn't buy now, they would be locked out of the American dream, and avaricious in anticipation of buying and flipping properties for multiple tens of thousands of dollars profit.
The first enabling factor happened in 1996. President Clinton sponsored legislation giving huge tax exemptions to the sale of personal residences. There were and are good arguments for doing so, nonetheless it had the effect of making real estate a more attractive investment. When a married couple can make up to $500,000 tax free over their basis every two years, that's a major incentive to start moving into a new house every two years in order to fix it up, or at least hope for a gain in fast growing areas. By itself, this was a minor factor initially, but by making real estate such an attractive investment (literally the best there is, considered in a vacuum), it started the bubble off. Since it hasn't been repealed yet and may never be, the value increase from this aren't really a bubble component, but the value increase for what was a one time systemic shift whetted appetites, even while the dot com boom (itself a fear and greed phenomenon) was going on.
The second enabling factor was that interest rates got low. This meant prices had the leeway to rise, as most people buy homes (and other property) based mostly upon the payment. When 30 year fixed rate loans go to 5 percent, the same payments buys a lot more house than it does at 7.5 percent. If you could have afforded a loan for $100,000 at 7.5 percent, you can afford a $130,000 loan at 5 percent. Instead of a $300,000 loan, you can afford $390,000 for the same payment. $500,000 becomes $650,000. Even though rates haven't been quite rock bottom for almost two years now, this helped start the phenomenon.
The third enabling factor was that people had gotten burned in the stock market as the dot com boom deflated, and the real estate market was doing well. With both sides of "fear and greed" working the equation, this amounted to quite a bit of incentive to chase returns in the real estate market. "I just took a bath in tech stocks, but look at how the real estate market is going!" This is known as chasing last year's returns, but large numbers of people do it. Consequently, quite a bit of personal wealth was dumped into the real estate market. This had negative consequences on the stock market, exacerbating that decline, and for the real estate market, dumping a couple trillion dollars into the demand side of the equation didn't exactly hurt real estate prices. Supply and demand are always working. The important trick is to separate fear and greed, which are real but have mostly short term effects, from real long term changes to the market.
Members of my professions, meanwhile, did absolutely nothing to slow the madness. Indeed, they added as much fuel to the fire as they could. As I have said elsewhere, buying a home really is a fantastic investment, all things being equal. It literally clobbers renting and investing over the long term, with those last four words being the critical part. There are limits, and most agents and loan officers went over them and three states beyond. Anybody who takes any real estate agent's unsupported word for investments and sustainability probably needs a guardian. Reality check: Here's a person who makes thousands of dollars if they tell you you can do something, and nothing if they tell you you can't, and has very little responsibility in the law for telling you lies. They're not financial advisers, after all. What do you think the average person will tell you in this position? (And before anybody sends me email or comments about the "superior ethics of Realtors®" they were just as bad statistically and worse morally, because they were holding themselves out as ethically superior, thus using the propaganda to allay legitimate concerns. I'll believe Realtors® offer some ethical advantage when I start seeing the Boards of Realtors® imposing some real disciplinary measures upon significant numbers of scumbags that the state regulators don't. Aside from advertising to build brand awareness, I haven't seen anything that the Boards of Realtors® contribute to the ethics of real estate practice.)
So there we are, with four factors doing everything they can to drive values up. This goes on for a little while, and now psychology starts becoming a real factor. "They're not making any more land!" making a scarcity argument. "Real Estate always goes up over the long term!", making a safety argument, and ignoring any number of past bubbles and downturns. Heck, I remember four previous ones in southern California! "You can always sell for a profit!", ignoring transaction costs, which are significant, and flat out misrepresenting liquidity. Real Estate can beat anything else, investment-wise, but it is certainly the least liquid class of investment that comes to my mind, as well as being sensitive to many factors beyond your control.
Couple this with a couple of years worth of twenty percent returns, and the feeding frenzy really kicks in. There starts being a real fear factor - people get afraid that if they do not buy now, they are never going to be able to afford a home. When prices rise by 50 percent in two years and wages rise by six, who can really blame them? Most people do not have the economic background to sit back and consider who buys houses, and what controls housing prices. So the mentality of "buy now or rent forever!" took hold, further exacerbating the rise. People were willing to do literally anything they could to qualify for a home, lest they be unable to qualify forever. And with the thinking detailed in previous paragraphs, they were told that "Even if you have to sell in a year, you'll still come away with a huge profit!" Yes, that's greed again, rearing its ugly head.
Into this situation stepped the lending community, particularly the sub-prime lending community. Starting about 1997, more and more lenders started being willing to loan 100 percent of the value of the home. "Hey, why risk your own money when the bank will lend theirs?" This drove market leverage to never before seen heights. Furthermore, in an effort to sustain volume, lenders started a trend of competing ever harder for the most marginal case. Stated Income, Interest Only, and short term hybrid ARMs proliferated (The most common sub-prime loan is only fixed for two years). Finally, lenders started pushing the Negative Amortization loans, for those borrowers who couldn't really make even the payments required on the short term interest only alternatives.
Lest anyone think otherwise, the community of real estate agents was fully on board with this. Always higher, and fast increasing, prices meant they made more money in commissions from selling the same number of homes, and the apparent virtues of real estate as an investment of the moment kept seducing those who did not know any better. Those few voices of sanity were drowned out, and many left the business. There just aren't that many people who really qualify to buy homes these days based upon the tradition metrics, even relaxed as they have become, and if you won't put them into something they can't afford, somebody else will. Furthermore, during this period, more and more real estate agents were starting to do their own loans, further isolating any voices of sanity in the loan community. Speak the truth that a client probably cannot afford a loan once, and the real estate agent will never bring you another client again, and will try everything they can to pry any clients they might have away from you. After all, you cost them a commission once. Interest only, and negative amortization loans further proliferate, as agents try to persuade prospective clients that they "really can afford those payments." Forty year loans start making a comeback, where they were all but extinct. Sub-prime underwriting standards are loosened until they ignore what happens when these hybrids adjust (or Option ARMs recast) and concern themselves only with the minimum starting payment. A larger and larger portion of purchasers is forced into the sub-prime market if they want to qualify. And still property values rose.
Or, more correctly, prices rose. The actual property value certainly wasn't growing that fast, only the common perception of value, aka price. People were getting away with these terrible loans, complete with prepayment penalties, because even though they weren't able to make their payments in many cases, prices were still increasing fast enough such that even if they sold relatively cheap, in order to unload the property in a hurry, and paid a prepayment penalty, they were still coming away with money, further aiding the illusion that there was no way not to make money. When workers are making more money buying a house and holding it for two years then selling than they are at their jobs, that's an incentive to keep doing it. That's an incentive for more and more people to get in on the act. And the feeding frenzy builds. Fear and Greed. When someone holds a house for two years and sells for a huge profit despite the fact that they did nothing to enhance the home's value, that has the appearance of easy money. When people start buying with the intention of short term flipping without doing any work (We call this "Hoping for a bigger fool"), and when they'd call to see if I knew of any such properties and hang up when I'd start telling them about properties that really were good investments but needed work, I knew the end was coming very soon.
The first group to holler "enough!" was not the lower income folks who were getting priced out of stuff even at the lowest end of the market. It might be what you'd expect, but it wasn't the case. My theory is that those people simply don't know any better, and didn't think they could afford to wait. It was the better paid, more economically savvy buyer at the higher end who first called "Bull****!" At least here locally, higher end McMansions and such were the first to start sitting on the market. These prospective buyers made plenty of money, and knew they weren't on the verge of being priced out completely. If they were right, they'd buy a better property when things fell apart. If they were wrong, such is life, and they could still afford something. Meantime, they were going to rent.
Lessons here: Always separate psychological factors from real market shifts. The general rule is that once they find something that appears to be working right now, the crowd always overreacts. Many times you will make more money in the long term by bucking the obvious trend, particularly if that trend is Fear and Greed driven.
If you are in an untenable position with your loan right now, whether because it's negative Amortization or interest only or just about to start adjusting: Either sell now for what you can get, refinance into something fixed for at least five years right now, or be resign yourself to disaster. With the yield curve inverted right now, there is practically no spread between the five year ARM and the thirty year fixed rate loan. Even someone who is as huge a fan of the 5/1 ARM as I am has to admit that, at the moment, the thirty year fixed rate loan is looking very attractive by comparison. When you get a much better guarantee of the rate not changing, for the same price, and the the loans are otherwise identical, what's not to like? As I've said before, you can survive and prosper when you're upside down on your home, as long as you have the right loan for it.
If you can make the real payments on such a loan, I would do it now while appraisers still have the ability to appraise your property for near peak values. If you lose the ability to appraise for near peak values, then you may well be a member of that rather large group in many parts of the country where the market will no longer bear a price greater than the loans on your property. When you owe more on the property than the market appraisal, then for all practical purposes you are stuck in your current loan. If it adjusts, amortizes, or recasts, you're suddenly going to be making much larger payments. If you qualified under one of the less sustainable programs I noted earlier, when this happens you are going to be in a world of hurt, and probably unable to refinance. Most common result: Losing the home, credit ruined for years, and a 1099 from the lender that says "we lost money on you!", for which the IRS will demand taxes. If your loan is going to start asking for higher payments soon, and you can not refinance, or cannot afford to refinance, it's time to sell, right now.
Caveat Emptor (and Vendor)
I've been aware of this scam for some time, but with a larger than normal number of people in foreclosure or otherwise at the end of their rope, it's probably past time to cover this. It is a pure scam throughout, but it's legal as far as I know.
I'm not going to go into more details than I can avoid. The universe knows there's enough people pulling this right now, but the bad guys already know about it, so let's even the level of illumination a bit. Here's the general way it works. The owners in default, and there's no way they're going to bring the loan current, as the lender can require once the Notice of Default hits. They do not have the requisite cash. Along comes a blackguard masquerading as a white knight, and makes the homeowner a proposition: Sign the property over to me, and I'll bring it current, rent it back to you long enough for you to get back on your feet. Pay the rent on time for two years, and I'll sell it back to you. There may even be a small amount of cash involved, as compensation for your equity "in case" you end up unable to purchase it back.
People desperate to stay in their property will agree. They think they'll be saving their equity, their kids won't have to change schools, and nobody will have to know they were in foreclosure. Of these, only the fact that the kids will be able to stay in their schools a little longer might be true.
Here's what happens: These scams are usually structured as a sale subject to existing deeds of trust, with all of the problems entailed in that, but not always. A signs the property over to B. B now owns it. In the absence of a contract for future activity, B can do whatever the heck they want to with the property. Usually, B will try to talk A out of demanding any actual written contract, and a verbal contract isn't worth the paper it's printed on. Without such a contract, what's preventing B from evicting A is essentially B's goodwill.
But with a contract or without, B is usually motivated to keep A in the property by the fact that they're going to charge A an above market rent - usually enough to pay not only the mortgage, but a significant monthly profit for B. I had a guy come to me a couple months ago who had accepted such an arrangement. His monthly payments had gone from $3100 to almost $4300. Where else is B going to get that kind of rent for properties that normally rent around $2000? And, of course, A is going to maintain the property. After all, they still think it's theirs.
Now, if you can't make the payment now, let me ask you what makes you think you'll be able to afford a much higher payment? What makes you think you'll be able to pay it on time, as the contract, assuming there is one, demands in order to retain your right to re-purchase the property? It isn't going to happen. If you had that kind of spare cash, you would have brought the property current yourself. If you could afford the payment in the first place, you wouldn't be in this trouble. You probably wouldn't have been behind in the first place. But people will tell themselves all kinds of things, because "it's only temporary".
Now it's worth noting that for the ones of these structured as sales subject to existing deeds of trust, B is going to make a point of having some late payments on there. These hit A's credit rating. Chances of A being able to qualify for a better loan, that they can actually afford, when the two years are up? Zilch.
Even if they're not structured as sales subject to existing deeds of trust, the chances of A being able to qualify to buy the property back at the end of those two years are basically zero. There's going to be a late payment somewhere. "Sorry, but you're in default upon the contract terms." They can take the contract and a decent lawyer to court, and paint themselves as being a saint who kept A in the property, tried to give them the opportunity to buy it back, and was rewarded with default on the rental agreement and this lawsuit. Chances are that A ends up paying for B's lawyer, as well as their own. Even if A somehow manages to make all the rental payments on time and in full, they are now even more broke than before. No cash for closing costs, or anything else. Particularly in the sort of lending market we have now and expect to be having for the next several years, A is not going to qualify for the loan they need in order to repurchase the property.
What does the blackguard who pretends they're a white knight get out of all this? Well, they won't do it for properties without a good bit of equity. So for an investment of a few thousand dollars to bring the loan current, they get a property with 10% equity at a minimum, and usually more. They get a positive cash flow from having it rented above market for up to two years. And if A should somehow manage to leap all the hurdles to repurchase the property, that repurchase contract will give them back every penny they invested with cash to spare. And for the vast majority where A is unable to repurchase the property according to the terms of the contract, I'll bet that they get a good chunk of change, not only out of the equity built in to the deal, but also out of the differences between the market now and the market two years from now.
For being in denial, and unwilling to face the fact that they can no longer afford the property, A loses basically all of the equity they have built up. They would have lost some of it anyway, as it's not free to sell a property and in this market, you're unlikely to get top dollar for anything. But this ends up costing them more - tens of thousands more.
If you get into a situation where you're looking at losing the property, and someone pretending to be a white knight rides up and offers you this kind of deal, you're better off selling outright in pretty much every case. Yes, you've just lost the property. But you would have lost it anyway, together with basically every penny of equity if you accept one of these deals. How is that better than being responsible and realistic enough to accept the situation as it is, and sell on the regular market for the best deal you can get?
I have to admit I'm uncomfortable with it and don't like it. As a buyer's agent, here I am getting paid by someone who not only is not my client, but whose interests are aligned, in most issues, opposite to my clients. They want the highest possible price, my client wants the lowest. They want out of the property without spending money on repairs if possible, my client wants the necessary repairs made. The list goes on and on. About the only issue on which the two sides are in agreement is that they want the transaction to happen. Yet it has become essentially universal for the seller to pay the buyer's agent. Indeed, this is basically the only fig leaf protecting Dual Agency. If the money to pay the listing agent came from the buyers, they'd have to ask themselves "whose interest is this agent looking out for?" with the result being that dual agency would die overnight, and if staking dual agency through the heart doesn't appeal to you, you're unlikely to be on the consumer's side. Not to mention the myth of "Discount price, full service" would die just as quickly, on both buyer's and seller's sides of the transaction. There are protections in place to make it both legal and ethical, but getting paid by the seller when I'm acting on behalf of the buyers still makes me profoundly uncomfortable, and that's aside from facilitating these urban legends.
That said, let's consider why it happened, what it would take to make it change, and what the cost of that change would be.
The first paragraph makes obvious the benefits if no sellers were to pay buyer's agents - if what the seller paid out in agency fees was reserved solely to the listing agent, usually contingent upon a successful sale. No "Co-operating Broker" percentage. Not to mention the fact that the seller would come away with a larger percentage of the value of their property. Instead of seven to eight percent, the cost of selling the property would fall to between four and five percent. Not paying the buyer's agent sure looks like a win for the sellers, and one would think explaining that it would be part of an agent's fiduciary responsibility to explain, right?
But the reason that it is in any given seller's best interest is almost as obvious. Ask any agent and any loan officer what the number one obstacle to buyers being able to buy a given property is buyer cash. Okay, there are those unethical persons who will tell you that the problem is qualifying people for property beyond their means, but I'm talking about people who want to buy properties they can otherwise afford. Once they get the loan and the property, they will be able to afford the payments - the real payments on a sustainable loan - and keep up the property and all of the other stuff that essentially goes with "happily ever after". The number one constraint upon people wanting to purchase property they really can afford is cash in their pockets (or equivalently, bank account). The cash for the down payment, the closing costs of the loan, and everything else involved. It takes a long time to save that money, over and above the daily expenses of living. Some people find it difficult; others, impossible. Add the buyer's agent commission to that, and that sets the bar of cash they need to save that much higher.
The seller has the built up equity in their property, from the loan they've been paying on and usually, the increase in property value, and if that property commands a higher sales price, this equity is greater, and therein lies the reason for them being willing to pay the buyer's agent. This willingness means that the pool of potential buyers doesn't need so much cash, which means that more potential buyers are able to afford this property. The more potential buyers able to potentially afford the property, the higher the likely sales price. The greater the economic demand, the higher the price, holding the supply constant, and there is only one such property. In fact, this increase in the sales price is typically much larger than the cash they pay, thus furnishing incentive for the sellers to be willing to pay the buyer's agent as part of paying their own. By shrinking the necessary pool of cash the buyer needs to a smaller percentage of the purchase price, they increase the potential selling price by more than they cash they put out. Furthermore, if everyone else is willing to pay this money and they aren't, by making it harder to purchase their property than the competing ones, they shrink their pool of potential buyers, thus costing them more in eventual sales price than they are likely to recover. If my clients have just enough cash for closing costs plus down payment, they're not prospects for that property, because if they had to write the check for the buyer's agent, they fall short. One alternative is to lump the buyer's agent commission into a seller paid allowance for closing costs, but the six percent aggregate limit that most lenders draw in the sand for that can make it a real constraint. Considered on an individual basis, it's better to simply agree it's your responsibility in the listing agreement, thus removing the money from that allowance.
Indeed, an argument can be made that offering a high incentive (locally, 3% or more) to a buyer's agent is one of the better ways to get the property sold. Not only do many buyer's agents shop that way explicitly, but if they have an exclusive contract that says 3% (as many do, because their clients aren't educated enough to know what a crock exclusive buyer's agency agreements are in the first place, but they'll also willingly trust the chain agent as to what is "standard"). If the Cooperating Broker's percentage is lower than what it shows on the buyer's agency agreement, that buyer will need to come up with more cash to pay their agent, from out of their limited pool of available cash. When that buyer's agent is in a position to demand 3% whatever property their victim buys, even if they didn't find it and weren't involved, that means properties paying less than that aren't contenders for this buyer's business, unless they've got so much available cash that it just isn't a constraint, and that is rare. A better buyer's agent puts a lower number on a nonexclusive contract, and if they get more, that's certainly fine with them, but because they have a non-exclusive contract, they don't get anything if the buyers become disenchanted with them and stop working with them. This gives a buyer's agent with a non-exclusive contract the incentive to find the property that's a real value to the clients as quickly as possible. I care far less about whether I'm getting two or three percent or something in between on a particular property, than I do about finding the property my clients want that's within their budget. My incentive is to make the clients as happy as possible so that I do get paid, because if I don't, I won't. But the buyer's agent with an exclusive contract that pays three percent has a different set of incentives, which is another reason I advise strongly against signing exclusive buyer's agency agreements, and the existence of such creatures is the reason why it may be a good idea for sellers to offer a higher percentage to a buyer's agent. (There is no consumer oriented reason to keep the amount of the Cooperating Broker's percentage secret, and I strongly support making it part of the general public's available information, which it currently is not on the local MLS.)
So sellers offer it because it shrinks the percentage of purchase price that buyers need to have, competing for buyer business as well as expanding the pool of possible buyers theoretically able to consider this property, both of which increase the purchase price more than enough to balance the money they spend. If by paying someone three percent, I increase my take by five percent or more (and the numbers I've seen indicate that the seller's increased take is about ten percent of gross price, which translates to almost seven percent more money in their pocket), that's money any rational person will spend. On a $100,000 property, you spend $3000, get that money back and another $7000 besides - wouldn't you do that? Doesn't happen on every transaction, but those are the statistical averages. It might not be that much in your particular case - but it could as easily be more as less. If the dice were loaded on your behalf like this in Las Vegas, and that the expected value of a $3000 bet was $10,000, most of those reading this would quit their jobs and move there (at least until the casinos went bankrupt).
We've seen what a winner this bet is, in the aggregate, and therefore why rational sellers who are allowed the option will opt to do offer a cooperating broker's percentage, which essentially goes to pay the buyer's agent. The economic incentives under the market therefore reduce it to something like one more tragedy of the commons, although unlike the classic example, it doesn't really hurt anyone directly, it just shifts the market price upwards. The only way to change it is therefore to pass a law prohibiting it. Leaving aside the mechanics of such a law and considerations of whether people could find loopholes in such a law (they would), and consider such a law as being proposed. Consider such a theoretical law as perfectly written and trivial to enforce, such that nobody could successfully get around it. I know that this is ridiculous (as should any adult), but let's pretend to believe this fairy tale for just long enough to tear it apart even under ideal circumstances. What happens? Well the market is priced to include the shift upwards in prices that sellers paying buyer's agents causes. It's just a one time shift, but we've already had the up, so now we'd get the down. Obviously, it would further damage current owners who would like to sell, and make prices more affordable to those who want to buy. Okay, so far we have a 1:1 correspondence between who gets helped and who gets hurt, and even, arguably, a $1:$1 ratio in hurt versus help. For every potential buyer who qualifies on the basis of income but no longer has the necessary cash in hand for a down payment, closing costs and a buyer's agent, to boot, we now have someone new qualify who has the money for the down payment, etcetera, and can now qualify on the basis of income. Like I said, direct effects help someone for every person they hurt. Before we leave direct effects, we might ask about how likely people are to vote to harm people who bought into the current system of homeownership based upon the status quo, in order to benefit an equal number of people who aren't - or aren't yet - part of that system at all. That equation doesn't play well very often in the United States.
Now let's consider the indirect effects. You see, people who want to sell and people who want to buy aren't the only ones affected. People who own, but want to hang on to their current properties will also be hurt. When prices fall 10%, everyone with less than 10% equity is suddenly upside-down, with all of the problems that brings. In the current market, the chances of them being able to obtain refinancing are essentially nonexistent. Maybe you're been paying attention to the news recently, maybe you haven't. There's an awful lot of people who want to hang on to their properties right now, and are having a very hard time. Just because I don't think the one proposal that's been made to bail them out directly is a good idea, doesn't mean I want to actively sabotage their efforts. This would flush all but a vanishingly small percentage of them out of their homes and back into rentals.
Furthermore, there's a ripple effect across the rest of the loan to value spectrum. People who now have significantly less equity find it harder to refinance, and end up with higher rates, higher cost of money, etcetera. When prices shift downwards by ten percent, someone who had ten percent equity suddenly has none, making their loan much more difficult and costly. Someone who had eighty percent loan to value is now essentially at ninety. Someone who was at seventy is now almost to eighty, and indeed, a a 77 percent loan to value ratio is an eighty percent loan. It's not until you get below sixty-three percent of current value (which becomes seventy once values have shifted downwards), that the differences become small enough to ignore. In a significant number of those cases, this is going to make enough of a difference such that these owners will not be able to refinance even though they need to, or they'll have to accept loans they can't really make the payments on. Whichever is the case, they lose the property. How many people who bought in the last few years have a loan to value ratio below 63%? Not a whole lot, it turns out. Even when value increases would have more than caused that level of equity, they've taken out equity lines to pay for improvements, cashed out for toys, or even in order to put the down payment on more real estate. Maybe they shouldn't have done that. It's not my place to make that kind of judgment. I'm only going to say that they did so having no reason to believe the status quo would change, and intentionally shifting it even further on them is moving the goalposts, and to the extent it causes current homeowners to fall short of their goals of meeting their financial obligations and lose their homes, is vile.
All this leads up to the killer reason: As I noted a little while ago, residential real estate in the United States is valued at about 25.3 trillion dollars. Let it be devalued by ten percent, and that's 2 trillion, 530 billion dollars in real wealth, just gone. I could freak out enough people just by talking about the thirty billion, or roughly $100 for every man, woman, and child in the United States, but that's only the third decimal place of the loss, in this particular case. Accounting phantom consisting of numbers on paper or not, this is real money, every bit as real as that $100 in your checking account. Every penny that vanishes means that someone doesn't have it to invest in the economy. Whether it's an individual, a corporation, a lender, or what have you, it means that suddenly the last year or so of economic expansion goes poof!. This two and a half trillion dollars vanishing has second and third order consequences, each dislocation causing more troubles further down the line. The global depression of the 1930s had much milder causes, even considered proportionately. You want to know who gets hurt? The little guy and the emerging entrepreneur, who would have been responsible for most of tomorrow's growth. Old Money comes out fine, by and large. The depression was an inconvenience to the Astors and the DuPonts, to be sure, but that inconvenience didn't much effect their personal lifestyle. It economically killed a generation of innovators in addition to causing well documented economic misery among those who were less well off.
So now you know why the sellers pay the buyer's agents, you know why it is in the individual seller's best interest that it be so, what it would take to change this, and what the results of such a change would be. I still don't like it, but changing it would cause more damage, and more immediate damage, than allowing the status quo to continue.
Hi, Dan! I just came across your website and you strike me as the type of guy who has answers for our situation:
My husband and I built our home 2.5 years ago. We took out a second mortgage last year which brought us up to financing basically 100% of the value of our home. We owe a total of about $305,000 on the home, and even though it was appraised for around $305-310K. if we sell, we have been told we won't get a price anywhere near that, because it is not in a development.
Do you have any suggestions, comments, opinions...which could help us out. We would really like to relocate closer to my brother out in the DELETED area-but we seem to be stuck right where we are given the circumstances-are we?
Gee, around here custom homes usually command a premium over cookie cutters, other things being equal. Not necessarily a huge premium, but a premium.
Nonetheless, I'm hesitant to second guess the agents on the scene when I have zero personal knowledge of your local market. You basically have four options: Stay where you are, rent it out, default, or sell.
You don't state whether you are having difficulty affording the payments, or whether you've got one sort or another of unsustainable mortgage. If you're not having difficulty affording the payments and you're in a sustainable loan, there's no need to do anything. If you're at or close to 100% financing, and you need to refinance, you're looking at right around 6.25%, plus PMI of about 1% until your equity improves. It would be better if lenders were giving second mortgages above 90% financing, but that's not happening right now. I'm going to presume that all refinanced, you're looking at a mortgage balance of $310,000, which may be a little low. Payment works out to $1909 on a thirty year fixed rate loan, fully amortized, plus PMI of $258. If your income situation isn't cramped, you may be able to get "interest only" for five years (or longer!) at a slightly higher rate. If you do an interest only loan, that would be a payment of about $1680. although you need to be aware before you do it that it is a calculated risk. I don't know your market, but mine is preparing to recover and I don't see anywhere not recovering within five years. Nonetheless, getting an interest only loan sets up a deadline for doing something again, and your market isn't under your control or anyone else's. I think it's a reasonable bet given that you already own the property, but it remains a gamble.
Another word on the viability of refinancing: It hinges upon your ability to either get an appraisal that covers the amount of the new loan balance, or to come up with the difference in cash. It is theoretically possible to finance more than the value of the property, but the rate and terms of those loans are ugly. If you're looking to refinance because you can't afford your mortgage, refinancing more than the value of the property is unlikely to make it more affordable. It's probably better to consider another option.
You could rent the property out. I don't know what rentals are like in your area, but if you can get enough rent to cover the monthly expenses (mortgage, taxes, insurance, and an allowance for upkeep and management), that becomes a possibility. If you can cover the difference, that's fine, also. Remember, I think the markets are going to do well once they've digested the hairball caused by the speculative practices of buying with unsustainable mortgages. If you're short $200 per month and in five years you can sell for $50,000 more, that's an investment I'd make. The question, unanswerable by anyone at this point in time, is where your local market will be in five years. $50,000 is about 16% of $310,000. Here in San Diego, I'd leap at that - I think we're going to see that within three years or less, as opposed to current prices. In your area, I don't know. In either case, it's a risk, and you need someone who knows more about your market than I do to advise you on the probabilities.
You could just default. I'm not recommending it. It's a bad option, but it is there. If you want to buy, or even rent, after your relocation, your credit will be hosed. I don't know your state law on deficiency judgments, but that's a concern. Under this same heading is deed in lieu of foreclosure, with most of the same problems. The reason people are willing to grant credit is that we're legal adults, and supposedly responsible. If you give them evidence that you're not, you may not pay for it in dollars directly, but you will pay for it, and typically the interest rate is usurious.
Or you could sell, most likely a short payoff assuming what you've been told is correct. It costs money to sell a property, more so in a buyer's market. Figure it'll cost you about 8 percent of whatever the gross sale price is to get the property sold. Using this as the basis for an estimate, even if you sold for $310,000, that'd only net you about $285,000, so you'd be short roughly $25,000. If the lender forgives the difference, you'll likely get a 1099 love note adding it to your taxable income. If they don't, you could be sitting on a deficiency judgment for the difference. I don't know your state's law, but around here, if someone was liable for the difference, I'd suggest saving the legal fees by agreeing to sign a promissory note. If you fight, you're likely to be wasting the money as well as digging yourself in deeper. They're going to win, and they'll almost certainly get to add their legal fees to what you owe. So unless you really like subsidizing the legal profession, if you're in the situation, I'd suggest considering agreeing to pay without a judgment. Talk to a lawyer in your state about what the law says about your situation, of course, as spending the money for a half hour of a lawyer's time is likely to be considerably less than $25,000 plus interest.
Now if you accept such a promissory note, I actually have no idea what the rate will be, but even if it's 18 percent, you're still talking about owing only about a twelfth of what you do now. I'm not saying it'll be easy, but you can pay it off in a few years, and it's probably cheaper than the costs of defaulting, even though it does hit your debt to income ratio. People choose defaulting and bankruptcy because it's easier now, but when you go through the total costs rather than just the immediate cash, you're likely to come to a different answer.
The answer is yes.
As with everything else pertaining to real estate, there are potential upsides and downsides. First of all, lenders in short sale situations often demand agents reduce their commission, so the agents are not likely to start from a discounted or low end commission. If it takes $12,000 to break even on a full service transaction, and you have to reduce your pay to make the sale happen, you're going to want more than $12,000 before the reduction. Discounters usually demand their money up front, but discounters aren't selling many properties in this sort of market. Along these same lines, it's a good idea to offer a larger than average commission to the buyer's agent. The average buyer's agent sees a short sale, and they say a transaction that takes twice as long as average, and that they have to accept reduced commission for while handling a whole lot of additional concerns. It makes the loan officer juggle rate locks and possibly submit multiple sets of paperwork. It makes the escrow officer juggle the entire transaction schedule, usually several times. Sometimes, the transaction approval with the seller's lender takes so long that an inspection or appraisal has to be re-done in order to satisfy the buyer's lender. It's tempting to just consider the property next door or down the street, even if it may not be such a bargain. With short sales, everybody marches to the beat of the seller's lender, which means I (as the buyer's agent or loan officer) have a whole slew of things that can go wrong beyond my ability to control, any of which results in my client ending up unhappy by costing them more money. Unhappy clients are poison to my business, no matter how great the deal they actually got was. Furthermore, I'm a lot more willing to not worry about my pocketbook than many other agents.
The person who drives this whole process, and makes it happen or fails to make it happen, is the listing agent. So if I see anything that tells me that listing agent is a bozo, or doesn't have their act together, I'm going to recommend that my buyer clients pass on the property, and I'm going to tell them precisely why. Pricing, staging, marketing, it's all got to have the fingerprints of a professional. If that listing agent has overpriced the property, if they have allowed the owner to leave excessive clutter, if they're saying things about the property that are not borne out when I go to view the property, I'm going to spell it out to my buyer clients why it's a bad idea to make an offer. I won't even look at "For Sale By Owner" properties trying to execute a short sale. I know, from experience, that I'm wasting my time, and my buyer client's as well. Lender approval of the short sale is not going to happen without an expert who is motivated to get the best possible price. You, as the owner, don't want to turn off either the buyers or their agents. So you want a listing agent that's demonstrably up to the task.
Now just because the lender accepts a short payoff in satisfaction of the debt, doesn't mean that all is forgiven. In some circumstances, they may go so far as to eat the loss entirely. I'm not certain I've ever seen such a case. They may report the loan as being paid satisfactorily to the credit bureaus, avoiding further hits to your credit, but they've just taken a loss. They want to deduct that loss from the earnings, as tax law permits them to do. But in order to do this with the IRS, they pretty much need to send the borrower they forgave a form 1099, reporting income from forgiveness of debt. Since this is taxable income under current law, expect to pay income taxes on the shortfall. President Bush has suggested a temporary halt to this practice, but to the best of my knowledge it has not yet been enacted by Congress.
For those agents who promise that the lender will forgive your debt completely, it really isn't under their control. You're trying to get the lender to forgive many thousands of dollars in money you owe them, plus you want them not to hit you with a debt forgiveness 1099, so they end up paying the taxes as well? Remember that not going through the entire foreclosure process is a benefit to the current owner as well as the lender, and there may be the possibility of a deficiency judgment as well. I'd be extremely skeptical of any promise to get you out of both or all three. If someone comes to me for a short sale, I can promise to try, but I can't promise to deliver. Nor can anyone else - it's not under our control. That's a cold hard fact.
So even though you're not really paying the listing or buyer's agent directly, as you would be in most normal transactions, you can expect to end up paying the tax upon whatever it is they end up making. After all, $10,000 paid to the listing agent and $10,000 paid the the buyer's agent means $20,000 that didn't go to your lender. As I've said before, that lender is going to want to see real evidence of poverty before they accept the short payoff. Getting short payoffs approved is not about "it's difficult!" or "I don't wanna!", it's about showing that there isn't any way that nets the lender more money. If it looks like they'll lose less if they foreclose, expect the lender to go the foreclosure route. They're not going to accept a short sale just because it would be uncomfortable for you, financially. You are (or actually, your listing agent is) going to have to persuade them that all of the other alternatives result in them losing more money than approving the short sale.
Agent commissions mean you'll owe more money in taxes, or deficiency judgment (if applicable) than without an agent, but that's only considered in isolation. If they convince a buyer's agent to show it to their client, if that results in a client being willing to make a larger offer, or an earlier one, if they negotiate the offering price upwards, and most especially if they get the lender to quickly approve a short payoff rather than dragging it out, or going through that whole dismal foreclosure process, all of these mean you ended up owing less money than you would have without that agent - precisely analogous to any number of research studies and studies that show that people who pay full service agents end up with more money in their pocket, even after paying the agent. It's very easy to look at the HUD-1 and ask yourself what an agent could possibly have done that's worth 3 percent of the sales price. There's no way to show or track, on an individual sale basis, the added value that the agent brought to the transaction. Those numbers just don't show up on the individual HUD-1, because there's nothing that documents them. On the other hand, they've been documented any number of times in the aggregate. The bottom line is that if the lender ends up losing less money, you end up with less in the way of potential tax liabilities, less in the way of judgments against you, and less damage to your long term financial picture, not to mention that the lender comes away better and the agent gets paid. If that's not the perfect picture of win-win-win, what is?
One last thing before I close: this presumes you have some reason why you need to sell the property. The local market being what it is, I am straightforwardly advising people not to list their property for sale right now if they have an alternative. It may be a great time to buy, but it's a rotten time to sell. If you can afford the payments, if you don't need out from under the mortgage as quickly as possible - in short, if your situation is sustainable - there's no need to do anything, and you'll be able to sell on better terms when there aren't forty sellers per buyer in the market.
A high percentage of buyers out there have no idea of how qualified they really are themselves. They have no clue as to any of the major factors in determining credit-worthiness. To be fair, there are dozens, if not hundreds, of little details that can kill a loan dead. This is one of the significant advantages to dealing with a loan brokerage instead of a direct lender, because if a loan killing detail strikes, a brokerage doesn't have to start all over from square one. Pretty much all the paperwork is still usable, I just have to submit it to a new lender that can do the loan. But so long as a very few things about the buyer's situation are acceptable, I'm confident that a loan can be done.
Nonetheless, with a large minority of clueless loan officers out there, and still others who will keep stringing people along as long as they can, hoping to get an approval that's just not going to happen, sellers are understandably concerned. It costs serious money to carry a property, and an unqualified buyer stringing a seller out for three months before the transaction falls apart usually runs into five figures. That's what sellers are potentially looking at when they sign a purchase contract. RESPA strictly prohibits the practice of steering, many listing agents have absolutely no clue as to whether the buyer making the offer can possibly qualify for the necessary loan. A significant number of listing agents violate RESPA anyway by requiring the buyers deal with a given loan provider. The way it was explained to me, even asking a buyer to get qualified with a specific provider and no other obligation counts as steering. Even as a buyer's agent, I can't so much as hint that there's any obligation to do the loan with me - all I can do is offer better terms. Carrots only, never sticks.
The correct way to handle it, of course, is with agreements for deposit forfeiture in certain circumstances. I don't list a lot of properties, and I'm certainly not going to point out something that isn't in my client's best possible interest when I'm agenting for a buyer. I'll tell the listing agent that something seems like steering, and is therefore unacceptable, but I'm not about to suggest terms that could result in my client losing their deposit.
Some agents go overboard with deposit forfeiture provisions, and in a buyer's market like we have locally right now, being too aggressive with those is a good way to lose potential buyers. People are stupid enough to sign up for negative amortization loan that wastes thousands of dollars per year for precisely this reason - they understand money in terms of cash and payments. That deposit is cash, cash they usually spent a significant period of their life setting aside out of earnings. They understandably have a problem with potentially losing it. Even affluent and well qualified buyers may not want to accept the risks, which in a market like this is a good way to miss out on the best buyers, if not upon selling the property entirely.
There's no way to know whether a loan is going to fund until it does. Pre-approval means nothing. In fact, lenders can pull funding back until documents are recorded. There is no guarantee that anyone except an underwriter can make that a loan will fund. Nobody can guarantee a loan except a loan underwriter. Period.
On the other hand, there is a compromise solution. You can't find out if the loan officer is a bozo except after the fact, but you can find out if there's no way in heck that loan can be done. The borrower information you need to know is: Approximate Credit Score (FICO), How much they make, What their other monthly payments total, and whether they have any derogatory notations in the last two years, most notably payments 30 days late or more. You already know what the purchase price and down payment are. With this information, a decent brokerage loan officer should be able to tell if a loan is possible. If the other side is doing a stated income loan, job title can substitute for actual income information. Within a twenty point band is close enough on the FICO score (e.g. 660 to 680), with differences in higher credit scores mattering less. There really isn't a whole lot of difference, even today, between a 721 and an 800, for purposes of whether they'll qualify. There isn't that much difference between 681 and 719. Below 500, of course, regulated lenders can't do business and we're talking hard money only. But the loan market changes over time. If you're not a loan officer dealing with twenty lenders or more, you're going to have some real issues keeping on top of it yourself. Yes, this is privacy act information, but let's consider this: That property owner is risking an amount that's likely to run into five figures when they sign a purchase contract, because that's how much they're likely to be out if the buyer can't perform. It's reasonable to agree to give them a certain amount of information. For instance, a copy of the credit report with social security and account numbers blacked out. W2s or 1099s with anything sensitive that the seller doesn't need to know removed. Bank statements, ditto. The buyers and their agents can combine to make a copy, remove sensitive information sellers don't need, and then give the sellers a copy of the copy. It is to be admitted that many credit providers are prohibiting this now, because they want to sell another copy of that credit report to the buyers, but methods exist to satisfy them.
I realize that these loan officers want something for their trouble, which is one of the two reasons why steering happens (kickbacks, even more illegal, being the other). Steering is nonetheless illegal. An agent whose counter my clients walked away from a few days ago got really defensive about it, but getting defensive doesn't change the fact that you are violating the law by asking the clients to so much as contact any one specific loan provider. If my clients had wanted to go through the hassle, they could have cost that clown his license. Most people don't want to go through the hassle, but all it takes is one who is.
If you know these very few pieces of information, you can figure out things like debt to income ratio and loan to value ratio. You can know if a loan is going to be able to be done. If the buyer chooses a bozo of a loan officer, that's their prerogative, however unfortunate it may be for you. It doesn't change the fact that they could have qualified, which is all any loan officer can really tell you anyway. Matter of fact, a large proportion of the loan officers that agents try to steer towards are bozos. I recently had one agent try to steer my client to a loan provider who had blown a trivially easy loan for a previous client, who would likely have cleared $100,000 profit after fixing the property up, but instead ended up losing his deposit. I get angry about things like that. As I wrote earlier, just because the buyer is my client for the purchase doesn't mean I can force them to do the loan with me. If I can't force them to do the loan - or even put in an application - with me, what gives some lazy (expletive) of a listing agent the idea that they can? Especially when they don't owe the buyer fiduciary duty and I do? Only in as hard a seller's market as we had a couple of years ago is there any prayer of getting your way in that. Buyers with a competent agent now are either going to walk, or use the fact that you violated RESPA as leverage against you. Whichever it is, you've violated your fiduciary duty to your client.
I purchased a house in DELETED with two friends. Unbeknownst to us, one of them was in a legal domestic partnership relationship that she withheld from us (we knew about the relationship, just not about the legal part). We each had to sign these Domestic Partnership Addendums to our loan application. She did not indicate she had a domestic partnership relationship through that form. She and her partner split. The partner filed for dissolution in November and in her paperwork has named our property as joint property. Our "friend" has denied that her partner has any legal right to the property.
Apart from this mess, this house partner ...DELETED... has been a terror since we got the house. I have offered to buy her out three times since DELETED. THEN I found out she lied about her Domestic Partner situation.
Can I force her off the deed for fraud (since she clearly lied about the DP situation?) OR, can I force her to either get her partner to sign a Quitclaim Deed (or something like that) and, if she can't, then she has to remove herself from the Deed of Trust?
My feeling is that she intentionally committed fraud and therefore the Deed of Trust is either invalid or her part of it is. AND I dont feel like I should have to "buy" her out since she lied.
Please tell me you have an answer!!!
The best answer I can give is that this looks like a matter for an attorney. There's a lot of complexity to your situation, and my knowledge is limited. That said, I'll be glad to share my understanding of the issues.
You have run straight into an issue that bites folks all of the time. My understanding of the domestic partnership arrangement is that it is legally the equivalent of marriage with the exception of a couple of issues of which real estate title is not one. This makes your situation basically the same one as has been biting victims of gold-digging spouses for as long as their has been marriage and law and ownership.
You talk about the Trust Deed and Domestic Partner Addendums. However, those are between the lender and each of you individually, not between your group of partners. The main questions are, "In what manner do you hold title?" together with, "What sort of a business partnership do you have?"
For most people, the default title arrangement is "Joint Tenants with Rights of Survivorship." What this means is that you're all equal, undivided partners. If one of you gets married or domestically partnered, that new member becomes an equal partner. Nice for them. Not so nice for you.
This is a situation where "tenants in common" would likely serve the interests of business partners better. Tenants in common can hold other shares of ownership besides precisely equal. So if they put up only ten percent of the money, they can own ten percent, whereas if they put up ninety percent of the money, they can be ninety percent partners - or whatever arrangement you all agree to. If they get married or become domestically partnered, the spouse or partner only gets a portion of their share under the tenants in common arrangement.
In the case of a trust, it's whatever the trust agreement says. If you have a partnership agreement amongst yourselves, even better, because it can give explicit recourse for situations like this. Corporate ownership has its advantages as well. There are situations where each of these is appropriate. It all depends upon whats important to each of the partners and appropriate to the situation.
That said, whatever you've got is what you're stuck with. You can't go back to the beginning and change the situation now. You've found out first-hand about why the various forms of ownership came into being. If everyone was always a reasonable responsible adult, there would be no need for the alternative forms of ownership to have evolved. Even if you've got nothing written, though, dueling attorneys is a horrible way to settle the matter. It's likely to be a lot more efficient to sit down with a mediator and see if you can come to an agreement everyone can agree upon. When everyone's paying a couple hundred dollars per hour for an attorney, any advantage they might have gotten gets eroded quickly, and it's not very long before everyone emerges poorer for the experience.
At last resort, you do appear to be effectively the victim of fraud and should be able to use that as some leverage, although my understanding is that the law would mostly treat it as an additional side issue rather than the central fact of the matter. But when attorneys and the courts get involved, there aren't any easy answers, and the whole thing leaves your control when you submit it to the law. The plain fact of the matter is that it might be smart or fair to do a lot of things, yet it's unlikely you're going to be able to force anyone to do anything. Even if your partners from the nether regions are completely insane, you're likely to come out better overall if you can come to some sort of mutual agreement you can all live with, rather than paying attorneys and missing work for court. One more example of why, in real estate, an ounce of prevention is usually worth a lot more than a pound of cure.