Housing Appreciation: the dirty little secret
First, I'd like to thank Tim Ellis for inviting me to discuss housing and escrow topics on this blog as a guest. Being that many readers of this blog want to demystify home ownership and aspire to become homeowners in a meaningful way, my hope is that our collective experience (wife and I) will be a resource of good, relevant and neutral information regarding buying, selling, fixing up property and escrow issues, our profession. We do not sell property or earn commissions, not that there's anything wrong with that. The bulk of work sent our way is from Realtors and FSBO transactions.
About us: We have purchased three homes together since we were married, all fixers of various degrees. (ok, our first in Ballard was a tear down the size of a garage, but we had to start somewhere) We also have had the perspective of selling homes both as licensed Realtors a long long time ago and currently own Legacy Escrow Service, Inc. located in south Everett. My wife Lynlee and I met just after college where we attended at Seattle Pacific University. We have three kids and live way out in the sticks at a place the locals call Snohomish. There are a lot of trucks around here and cows and horses. My wife is much smarter than I am, but at least I don't do silly things like pick Cherries on the 2nd- to- top rung of a ladder and break ribs because the ladder kicks out and she falls down on the ladder, like she did this past Friday evening. She reminds me that she's really not talking in a sultry manner, it's just that she's having a tough time breathing.
Moving along, we were discussing today's work this evening at dinner and my wife reminded me of this oft forgotton but important topic. So, if you don't like it then throw tomatoes at her. On a serious note, this is a very interesting topic and does have serious implications. So let's get to it and debate it.
Housing Appreciation: the dirty little secret
Ok, fine you say. What's the big deal. What's the big deal??? Let's discuss the ramifications of this because it is quite remarkable. In a recent transaction at our office a home (numbers are for example only) was listed for $450,000. It was sold for $458,000. The seller was quite happy with just accepting a full price offer, but here comes a very enthusiastic buyer that is qualified to purchase the home, but like many buyers, is cash poor. So the buyer and seller agree to artificially increase the appreciation of the home via a sales price increase that covers the closing costs for the buyer. While this appears to be somewhat routine, the inertia from compounding price appreciation from this sale and others identical to it, creates a domino affect that is hard to stop. Think about this. If our firm has closed 75 of these transactions (and we have) in 2006 alone, imagine what the title companies who dominate the market must be closing, in each county (King, Pierce, Snohomish etc...). Now think all across the state. Now think all across the country. The numbers could be staggering.
Was the true market price of the home really nearly $460,000? The seller boasts that he got over the asking price and the neighbor down the street named Ted, says, "boy, since Roy got $460,000, I'm going to ask $465,000. The appraiser and/or comparative market analysis (CMA) from the local Realtor shows only the sold prices, not how they achieved the price. And, there we have it. All those homes that sold for over asking or were they? Not exactly.
When Ted the excited neighbor lists his house with Mary, the local Realtor, for $465,000, they expect a quick sale. Just as they thought, here comes Joe & Jill Buyer, and they do the same thing and ask for the seller to pay closing costs and they increase the sales price to $475,000. Tongue-in- cheek, Voilà! the appraisal comes in at exactly $475,000. And this cycle goes on and on.
A recent comment I placed on a post at the Seattle P-I Real Estate professionals blog discussed this very scenario and the reasoning why my wife and I pulled out of a multiple bid situation in the late Summer/early Fall of 2004.
Regards,
S-Crow
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10 comments:
This happened with me when I sold my Crown Hill home in 2004. The buyer wanted money back so he could cover the moving expenses into the house, I got an additional 15 grand or so. He also was doing 80/20 loans, one loan for the 80%, another short-term one for the 20% to avoid PMI...
It's ironic that the buyers lack of money is driving appreciation.
My gut says that the appraisers are under too much timing pressure to sniff out the details and, even if they do, at best they are going to get the confirmation of the sale from a Realtor that may or may not be motivated to disclose what the "real" transaction price was. They might call the buyers and sellers to find out, but again, the timing pressures are too much to warrant a detailed confirmation effort. A residential appraiser that wants to make good money has got to be turning out at least one, closer to two or three, appraisals a day. That is a helluva lot of calling.
When we bought a house last year, we wanted a $1,500 rebate for a couple of minor fixes. We paid list price and got the rebate back against closing costs. The relocation company that was handling the transaction did not reimburse the sellers for this rebate--therefore, when the double escrow closed, two different sales prices came up, $1500 apart.
A workaround for this, were it to become a problem (which it might be) would be to publish the closing statements in the same way that excise tax affidavits are a part of public record.
A ton of people refinancing also roll the closing costs into the loan amount.
This isn't necessarily a bad strategy and you don't have to be a 100% financer/sub-prime borrower to have it make sense. For example, if you originally had a $400,000 loan at 7%, and then rates drop to 6% in a year. You have only paid down (say) $5k in principal, so you can refinance for $397k or $395k and put out $2k in cash. Seems reasonable enough (since it's only been a year from your last set of closing costs) to make the decision that while refinancing is smart, you don't need to further deplete your cash position right now.
While the $395k has a slightly lower monthly payment, it will take something like 10 years before paying the closing costs up-front is equal in cash outlay. That's a long time. Preserving a little extra cash is often worth it to cover any emergency situations that come up (to avoid going into any other kind of debt - further exacerbating the cost of paying the closing costs in cash).
To me this is the same with the issue of whether to pay points or not. Unless you can assure you'll be in the house almost 10 years it's definitely not worth it. It usually takes 5 years before the cash outlay is the same and another 5 years before you've really started "earning money" for your decision.
Personally, I don't think this contributes that much to ongoing price appreciation. I don't buy the argument that a price that goes from $350k to $355k ($350k price + $5k closing costs) leads the next person to market their house at $365k, then $375k and so on. That market's not that simple, unless you're a bull who believes the market will only go up :-)
At any rate, is there any inherent problem with ths practice? Sellers get a little more cash? Is that bad? If housing prices depreciate, people might still roll in closing costs.
There is, I agree, a larger problem with most people doing 80/20 loans, or paying 50% of their gross to PITI, etc. - closing costs are but a teensy tinsy part of that overall problem. Which could perhaps be made smaller if we eliminated all this BS paperwork the escrow and title companies force us to pay for and instead had a standard Internet-based way of closing :-)
jcricket-
good points regarding the efficacy to refinance when considering all costs and length of stay in the home.
To clarify, the transactions we are closing where the property sale price was jacked up solely for the purpose of the seller to pay the buyers closing costs, clearly influences future sales prices.
For example, if my neighbors rambler sold for $390K, that's THE sold price and THE new benchmark for others to justify their list prices with similar homes. It was listed for $380K. The buyer/seller agree to sell the house for $390K to pay for the buyers closing costs. My home is essentially the same and we used the comp of our neighbors to justify a $390K list price. And, so do the Realtors and appraisers.
This is classic appreciation with an asterisk ("*"). And there is no way most consumers would learn of this practice without S-Crow or others disclosing it.
There is nothing wrong, illegal or unethical about this practice. But it does influence market prices, upward.
That explains a lot... my neighbor just sold his condo for 220K and the asking price was 209K. I think it's a single mom who bought it, so I can see how she'd have a lack of disposable cash.
"I mean, how much looser can the lending get?"
Please don't ask - I'd be scared to see the answer . . .
S Crow....thank you.
Your insights from an "insider" position are always very interesting and much appreciated.
DeflationGuy said..."The end of the credit bubble can not be that far away. I mean, how much looser can the lending get?"
Well it could be worse. Imagine being scared to walk by a bank for the fear that you will be mugged, taken into the vault, and forced to sign up for a toxic loan on some POS at gunpoint.
Whoah- If it's illegal, it should be reported, no?
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