Profiting in the New World of Real Estate
Three years ago, the real estate world was such that people were regularly having their cake and eating it too.
Exhibit A: Edmund L. Andrews, an economics reporter and author of the forthcoming book “Busted: Life Inside the Great Mortgage Meltdown.” (W.W. Norton)
In a recent New York Times Magazine article adapted from his forthcoming book, Andrews details a financial life spun out of control by an apparent desire to live a lifestyle he admits he could not afford. As a New York Times economics reporter now reduced to baring the dollars and cents details of a life lived wrong (probably to help pay off his $50,000-plus credit card debt, or make his $3,700 monthly mortgage payment), it’s hard to imagine a better poster child for the dangers of easy credit.
It isn’t that I don’t feel for Andrews and the millions of other Americans who were told that they could continue to treat their home equity like piggy banks just waiting to be smashed. In fact, my heart breaks to hear their stories and imagine how much pressure Andrews must have been under to have signed a book contract requiring him to write a financial confessional detailing his every expense, debt, and fight with his wife.
But whether you write a debt confessional or take on a second (or third) part-time job to pay the bills is beside the point. What happened to Andrews and millions of other homeowners who borrowed more than they could afford to pay off is supposed to be impossible in the new world of real estate.
The new world of real estate looks a lot like the very old world of real estate two decades ago: Today, if you want to buy a piece of real estate, you’ll need some “skin in the game,” otherwise known as cash.
You’ll need cash for the down payment, cash in reserves in case something goes wrong with the property or you lose your job, and enough cash coming in each month to more than meet your housing expenses, including the mortgage, real estate taxes, and homeowners’ insurance premium.
Wages, tax returns, bank account deposits, and other assets will have to be verified. The home’s value will have to be appraised by an appraiser who is supposedly no longer controlled by the lender. You’ll have to prove you are who you say you are.
This new world of real estate is supposed to keep people from borrowing more than they can afford to spend. It’s supposed to protect the fragile relationship lenders have with their borrowers, and it’s supposed to protect taxpayers from having to bail out Wall Street and Main Street in the future.
Will it work? Maybe. There are already forces at work to circumvent these new/old safeguards that have been put into place.
For example as a general rule, if you want to buy a house with an FHA loan, you’ll need to put down 3.5 percent of the purchase price in cash. If you want to buy a house with a conventional lender, you’ll need at least 5 percent for the down payment. If you want to buy an investment property, you’ll need to put down at least 25 percent in cash.
Coming up with a cash down payment has always been the biggest obstacle to homeownership. (Fannie Mae and Freddie Mac have documented this in numerous studies over the years.)
What if you don’t have enough cash but still want to buy a house? Never mind. The brightest minds around the country have been trying to come up with a way to allow you to use your $8,000 first-time home buyer tax credit as your down payment, with a complicated (and presumably expensive) bridge loan.
A federal program designed to allow you to do this was announced and rescinded within a week. It would have allowed you to get a bridge loan to tap the $8,000 tax credit which wouldn’t otherwise arrive until you filed your 2009 tax return.
As of May 21st, fourteen states, including California, Colorado, Delaware, Idaho, Kentucky, Missouri, New Jersey, New Mexico, Ohio, Pennsylvania, Tennessee, Texas, Georgia, and Utah now offer some sort of state tax credit that either gets additional cash into the hands of buyers (and not just first-time buyers), and/or find a way for first-time buyers to use the $8,000 tax credit as a down payment.
In California, for example, there is a tax credit of 5 percent of the purchase price (up to $10,000) on the purchase of a new home. You don’t have to be a first-time buyer; you just have to live in the house as your primary residence for at least the first two years. You get $3,333 per year over three years, and there is no repayment requirement as long as you live in the property for two years without renting it out or selling. If you’re a first-time buyer, your federal $8,000 first-time buyer tax credit comes on top of that for a whopping $18,000 in free cash.
(Is it any wonder sales in California are perking up?)
The program in Delaware is structured as a second mortgage, with up to $10,000 available to be used as a down payment or closing costs. The mortgage interest rate on the loan is 8 percent. In Georgia, the program is structured as a second mortgage, with the tax credit stretched out over three years, but is available to all home buyers.
Whether you buy a home in California, Delaware or one of the states that have already passed this kind of law or are thinking about it, you’re going to be able to do it without having the kind of “skin in the game” everyone says is necessary to avoid an extension – or a repeat of the housing crisis.
As a Realtor said to me via Twitter, “not being able 2 use 8k credit 4 down payment is a GOOD thing. If one has not saved $8k, they should not buy house.”
Amen to that.
May 21, 2009
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