Free Money Finance

Owners of Second Homes: Beware of New Tax Laws

The following is a guest post from Marotta Asset Management.

If you own two homes, sell the one you are living in and move into your second home as soon as possible. Tax changes taking effect on January 1 will make owning a second home much less attractive in 2009. As a result, the already depressed market for vacation homes will deflate even more.

Previously, any capital gains on your primary residence were excluded up to $250,000 for singles and $500,000 for couples. A primary residence was defined as any home you had lived in for two of the previous five years. The "prior rule" gave seniors moving to a new residence three years to make the move permanent. During that time they could still sell their original residence and take advantage of the exclusion.

It also allowed seniors who had a vacation home to move there and sell their primary residence. After two years their vacation home qualified as their primary residence. Young grandparents approaching retirement could buy a retirement home as a vacation destination while they were still working. After retirement they had time to sell their original home and in two years gain a full exclusion for their new residence.

With the new rule, primary residence is not something you can qualify for. Rather it is just a percentage of the time you live there.

The new law eliminates the capital gains exclusion, prorated on the amount of time a home was not your primary residence. After January 1, every day you aren't living in a home starts adding to the percentage of capital gains tax you will ultimately be obliged to pay.

Also, capital gains are no longer waived on a primary residence unless it has always been your primary residence. Starting in 2009, the percentage of time a home is not your primary residence will be the same number used to calculate the amount of capital gains that won't be waived. For example, if you own a house for ten years and have only lived in it for five, you will have to pay taxes on half of the capital gains when you sell it.

These are the same capital gains that President-elect Obama promised during his campaign to raise from 15% to 28% on the most productive citizens. Some states (e.g., California) tax capital gains at ordinary income tax rates, adding an additional 9.3%. So people who make significant contributions to society could easily be facing taxes of 37.3% on gains that are mostly inflation.

This isn't just a problem for the wealthy. You can be pushed into the top 1% of income tax payments simply by selling a house in California. Middle-class couples routinely get hit with unexpected taxes selling a home with capital gains well over the $500,000 exclusion. Because it is not a onetime exclusion, couples who have stayed in the same house for 40 years get socked with the tax, whereas couples who move every decade have multiple chances to realize smaller gains that are under the limits. People who move frequently shouldn't be rewarded with a tax break.

Here's another factor to consider: Home appreciation is mostly inflation. Taxing government-created inflation as so-called gains isn't fair. Even according to the official inflation numbers reported by the government, the equivalent of a million-dollar home today was a $179,154 home in 1970. Calling the $820,846 inflation a capital "gain" is ludicrous.

Class envy is equally mindless. Capital gains on real estate affect your finances even if you don't own a second home. The housing market isn't segmented into primary and secondary residences. What depresses the values on second houses depresses the value of all homes.

The second-house class is the very group that could have helped shore up today's slumping housing market. Speculators who would have bought real estate at the current depressed prices will find this option far less attractive in 2009. Instead the new law will encourage them to sell their current residence (taking the full deduction) and move into their second home. Then their second home will become their sole and primary residence, and they won't have to deal with future nonexempt capital gains taxes. Ask your financial advisor about the potential costs of continuing to own two homes. If you delay, you may be holding an unused vacation home until you die just to avoid this new tax burden. And as a result, your heirs will inherit the house with a step-up in cost basis.

Because of the law, thousands of additional homes will be added to the market, softening the demand for housing even further. It is as though a shortage of people are buying real estate and we've passed a one-per-customer tax incentive law. There is no reason to discourage what no one is willing to buy. The new legislation will probably push home values to new lows during 2009.

Why the law was changed is unclear. The old law was difficult to abuse. Those who were rapidly turning over real estate could not take advantage of the law. If someone tried to flip 25 homes, it would take 50 years. The new law doesn't make any sense, but if it did make sense, it probably would not be Congress.

The new law won't bring in much additional revenue either. But it will complicate record keeping and tax returns for anyone selling a home they have not lived in continuously. As a result of these disincentives, buying or selling vacation homes will become less desirable.

This legislation graphically illustrates the deadweight costs of taxation. Rarely is the concept so clear. The law will remove much of the value of vacation homes from the economy without collecting much additional tax revenue. All pain, no gain. It teaches us a sad lesson about the destructive power of taxation.

Vacation homes represent an expense that can easily be let go in challenging economic times. Many families own a vacation home during the season of children or young grandchildren. After that, the travails of maintenance and repairs outweigh their pleasure in the home. Management companies remove much of the headache but make the economics even more problematic.

In times of rising home values, the investment in a home at least kept up with inflation, but with the new laws the government will tax you on that inflation. As a result of these changes, consider simply renting a vacation home and letting someone else pay the capital gains tax.

Is 'Intentional Foreclosure' Ethical?

Here's a question a reader asked Bankrate:

I bought a home two years ago that's now worth $120,000 less than I paid for it. Ouch! What's more, the bank won't touch a refinance. But I do have about $80,000 in savings. If I used it for a down payment to buy another home, then let the other go into foreclosure, could the bank come after the equity in the more recently bought home? Yes, it's a shady thing to do, but I feel it's my only option.

The response goes on to talk about what's ethical in personal finance and how it pertains to this situation. I won't give you their answer -- I thought it would be fun for all of us to give our thoughts on it instead. So, if someone is underwater on their home yet has money they could use to keep making the payments, is it ethical for them to let the house be foreclosed on and use their assets to buy another one?

Also, for a real-life example of how this might happen, check out The Foreclosure Crisis Hits Close to Home, Part 2.

10 Most Expensive Homes in the World

If you want to see the 10 most expensive homes in the world, you can check them out here. And it looks like those that are for sale will be hit by the same financial realities the rest of us are facing.

What I Learned from Almost Buying a House

As most of you know, our recent house purchase didn't go through. But we did get right up to closing (within a couple days) before an inspection revealed something we just couldn't live with. Anyway, I thought I'd share a few of my insights from the process that you all might find interesting/helpful. Here goes:

• We got a very low mortgage rate by pitting two different lenders against each other (one a bank and one a mortgage broker). I knew both guys and was upfront with them throughout our process that we would 1. give them both an option to bid on the mortgage and 2. select the lowest bidder. I went back and forth a couple times -- with them lowering rates (initially) then closing costs and other criteria (like them escrowing for taxes -- something I didn't want) -- before one cried "uncle." Kind of like the same process I used when buying a car.

• Closing costs are HIGHLY negotiable (especially if you have lenders competing). Ours started at $3,500 or so and ended at $1,200 when all was said and done. For more specifics, see these two articles: Many closing costs negotiable and New York again tops 2008 closing costs study.

• When we had our inspections (two actually -- one general inspection and one plumbing specific), I followed around the inspectors and took a ton of notes. They not only told me what shape everything was in, but how many things worked. I had a laundry list of "to-dos" when I was done, but there wasn't anything really big in the initial inspections (the issue we couldn't live with was discovered later through a water inspection the seller was required to perform.)

• My credit score had actually gone up since May when it was 799. I got scores from three different reporting services and they were 813, 798, and 821. No wonder we got the highest discount on our homeowner's insurance.

• Real estate agents want you to close on the home NO MATTER WHAT -- even if doing so isn't in your best interest. When the "issue" arrived, our agent suggested we go ahead and close on the house and write in that they would fix it in 30 days. Yep, you read that correctly. Unbelievable. When I pointed out that there was a good chance they couldn't fix it to our satisfaction and if we closed now we'd lose our negotiating leverage and could be stuck with a house we didn't like, she seemed to blow that off -- the thought of a huge commission seemed to keep her pushing for a sale. But we were steadfast and held our ground. Lesson: you're on your own when buying a house. Never forget that even your own realtor can be as much "against" you (or your best interests at least) as anyone else.

• Our house was on the market for one month at a fair to aggressive price. We had two people interested: one willing to pay half price and one that wanted to rent the place for three years. I guess it could be worse. The people who want to buy our home have had zero people look at theirs in the few months it's been on the market.

U.S. Homeowners in Denial

Check this out -- from US News:

This quarter, 49 percent of homeowners said they think their own home's value has increased or stayed the same over the past year. However, nearly three-quarters (74 percent) of homes have lost value in the past 12 months, according to preliminary analysis of Zillow's Q3 Real Estate Market Reports, which will be released Nov. 12.

I guess it doesn't really matter if you aren't selling your home, but from watching the real estate market for two years in my area I can tell you that most sellers haven't yet realized that their home is worth far less than they think it is.

Paying Down Your Mortgage Makes a Comeback

As an add on to our discussion yesterday on how to pay off a mortgage -- check out these thoughts from the NY Times:

Homeowners with an aversion to debt are sometimes tempted to pay down their mortgages before they come due. That can be a misguided approach, some financial counselors say, if borrowers can instead put that money into relatively safe investments that produce a higher rate of return than the interest rate they are paying on their mortgages.

In the current financial environment, however, prepaying on a mortgage might make sense.

With the securities markets plunging early this month, there have been few well-paying safe harbors for investors, making early mortgage payments more enticing than might otherwise be the case.

As has always been true, paying off a debt is a guaranteed return on your money. With the market the way it's been lately, nothing's guaranteed in the short run (though in the long run odds are it will be a good performer.)

As you all probably know, I paid off my mortgage using a specific formula for buying a house. The move to pay off our mortgage, something that once looked ridiculous to many when evaluated on a financial basis alone, now looks like it was a pretty good move, doesn't it? ;-)

For those of you interested, I've written about the tradeoffs of investing versus prepaying your mortgage (a couple times.)

I'm interested in hearing from you. Anyone out there who used to be in favor of investing over mortgage/debt prepayment now shifted their position (at least in the short term)?

How to Pay Off Your Mortgage

Crosswalk has some tips on paying off your mortgage as follows:

• Principle #1: Your Contingency Fund trumps paying ahead on your debts.
• Principle #2: Your mortgage should be the last debt you pay off.
• Principle #3: Investing in your mortgage or the stock market depends on other factors.
• Principle #4: Do not enroll in your lender’s formal bi-weekly payment plan.

My thoughts on these:

1. #1 and #2 really go together in my mind. My order of saving/debt payment would be: emergency fund, 401k up to the point where matching stops, credit card debt repayment, paying off other debts, saving/investing for other future needs, paying off your mortgage. This is how we did it, though we didn't have any other debt than our mortgage when we started the process of paying it off.

2. We didn't have to choose between saving/investing and paying off our mortgage -- we did both. We had created such a gap between our income and our expenses that we had enough to achieve all our objectives at once (though, of course, it is always nice to save even more.)

3. We NEVER enrolled in a lender program. Why would we? It's something that costs money that we can do (and did) on our own for free. Waste of money for us (and for most people -- maybe it's good for those who are not disciplined to carry it off themselves?).

4. A key to paying off your mortgage early is my formula for buying a house.

Why I Won't Rent Out My Home

Here's a piece that advocates renting out your home if you can't sell it. The story gives all the positive arguments for renting and dismisses most of the negatives (or only covers them briefly). But it does say the following:

One big drawback [to renting] is the potential for bad renters—but if homeowners SCREEN very well they won't necessarily have this issue. Another is the potential for the renter to skip out on rent. Homeowners also face the possibility of running into a "perpetual tenant" who knows how to work the system. Such a tenant might, for example, pay a deposit and then live in the house for 60 days rent free while the landlord files eviction paperwork. The stress of having to fix frequent issues—particularly in an older house—can be another drawback. (That's why it's a smart idea to have a handyman that lives close to the property that you can regularly call on.)

Here's why I won't rent:

• Don't want the time hassle -- finding a tenant, repairing needs someone else has, getting payments, etc.

• Don't want anyone living in one of my biggest assets -- Even if I know them, I'm not comfortable turning my house over to them.

• Too big of a risk -- Even if you do all the screening you can, you can still end up with a huge problem.

• Laws favor renters -- If something goes bad, many of the laws are tilted way in the favor of the renter. It's often so bad that the owner has very few options for getting out a bad tenant. And even if they do, damage is likely to occur prior to final eviction.

A home two doors down from us hadn't sold in two years (the owners are crazy -- asking for a price that would have been a stretch three years ago -- so no wonder it's sat there) and a few months ago they rented it out. The family moved in, paid the rent, did NOT pay any utilities, messed up the landscape, damaged the inside of the home (from what I heard, they worked on their car's engine in the living room -- believe it or not!), and then left in the middle of one night -- leaving the owners with a damaged property and holding the bag for the utility costs. Sure, the owners had the security deposit, but there was no way it covered all they lost, not to mention the time and effort to get things fixed.

Our neighbors did all they could to screen their renter and it still worked out this way. Nope, I'm not going to take that risk.

The Easiest Way To Launch Into Real Estate Investing

The following is a guest post from Prosperity Junky.

If you have been reading Free Money Finance for some time you are very likely investing in the stock market in some capacity.  But, have you also considered real estate investing?  Maybe you have but not sure how to get started?  Here’s my story detailing the easiest way to start your real estate investment business. 

It all began with simply my desire to move to a different part of the city.  I had wanted to make this move for over two years but I had not found the right opportunity to make that happen.  This was difficult for two reasons.  First, I currently owned a house and I was planning to rent or sell that house before I could move.  Second, I obviously would need to find a new house to buy and it takes time to find the “right” house. 

Luckily, an acquaintance presented me with an offer I could not refuse.  In casual conversation he said he had received a job offer and he was going to leave his company.  When I heard that, I really didn’t think too much about it.  As I asked a little more about the new offer, he revealed that the new position was in a different part of the state and he would need to relocate.  Hmm…now I got a little more interested!  I had a rough idea of where he lived and I knew it was close to where I wanted to be.  Being the opportunist that I like to think I am, I asked, “When are you going to be moving?”  He said, “Well I have to start my new job within 4 weeks so I will be moving soon.”  Ding! Ding! Ding!  The bells of opportunity were ringing. 

I knew right away this guy was going to have a difficult time trying to sell his house.  His job offer came at a time that the housing market was in a slump.  Houses were not selling quickly.  In addition to that, his house was also in a fairly new community.  If you were in the market for a new house, you could buy a brand new house in this area for nearly the same price or less than he was going to list his house.  On top of that, if you bought a comparable new house you could customize it to your liking.  I also new this guy needed to sell his house quickly because he needed to start his job in four weeks.  We already knew it was going to be hard for him to sell his house.  However, it was going to be EXTREMELY difficult to sell his house within four weeks. 

It’s fair to say I had the negotiating advantage I needed.  Thankfully, this didn’t require much negotiating because I had very motivated seller.  We negotiated the deal and he agreed to the following:

1. He would sell me the house for only the amount he owed on his loan. 
2. Closing costs would be covered by me.
3. No real estate agents would be used for this transaction so that we could avoid any agent fees.  Everything was done through a title company.
4. The seller would leave his refrigerator and washer and dryer without cost to me.

This was all done in relatively short order.  Now I only had to figure out what to do with my existing house.  With the depressed housing market this was an optimal time to rent the house.  As it turns out, the seller needed a few extra weeks to get his things moved out of the house.  With this extra time, I decided to move forward with renting. 

I quickly listed my home for rent.  I based the monthly rent off corresponding rentals in the area and my monthly expense obligations.  I immediately had people interested in the property.  I spent about three weeks interviewing prospective tenants.  By the third week, I had selected a tenant and already received their deposit and a signed leased. 

Eight weeks after this whole process started, I closed on the new house and moved into my new home.  Two weeks later, the tenant moved into my previous home.  I was officially a real estate investor!

I did this successfully by making two very smart money moves:

1. I identified and negotiated the purchased a new house at a significant discount plus bonuses
2. I turned a primary residence into an investment with little effort

What were the keys to my success?

1. Money and Credit:  I had been living below my means for some time and my credit score was high so I was in a good position to purchase a new home when the opportunity was right.  Note: It doesn’t matter what investment opportunity comes your way, if you don’t have money or the financing to make it happen.
2. Discounted Property:  I successfully identified a golden opportunity to purchase a new home.  This included finding a home which met my criteria which was owned by a motivated seller.  Because of this, the property was purchases at a nearly 20% discount even after closing costs.  Note: With real estate investing you make your money during the purchase, not the sale.
3. Motivated Seller:  By finding a very motivated seller, it put me in a very strong position to negotiate a very attractive deal that I just couldn’t pass up.  This increases your ability to get the property at a significant discount.
4. Tenant Selection:  Although I found a tenant in short order, I was diligent in my selection process therefore I was able to select a responsible tenant who is taking care of my investment.  Note: Not selecting the right tenant can cost you a ton of money.
5. Attractive Financing:  Finally by renting what was initially a primary residence, I took advantage of a lower fixed interest rate than would typically be available when purchasing an investment property directly.  This helps to ensure that you can cash flow every month.

Real estate investing is not for everyone.  It takes patient and hard work.  However, it does provide some significant advantages over other types of investments.  If you decide it’s for you, turning your primary residence into an investment property can be the easiest way to launch your real estate investing business.

FMF readers - Are you investing in real estate?  How did you get started?

Another Extreme Makeover Home in Trouble

We've documented the many problems with various homes built as part of the TV show Extreme Makeover Home Edition (including this comment from an EMHE worker). Well, looks like another one is in trouble. The highlights:

Sadie Holmes thought it was a blessing when ABC's Extreme Makeover: Home Edition built her a 7,000-square-foot home and office for her charity in 2006.

Now she's struggling to keep her nonprofit afloat, and she may end up losing the $400,000 home if she can't pay a $29,000 county lien — placed on the property after months of code violations racked up.

Combined with the $3,000 a month she pays to rent a storage warehouse for her nonprofit Sadie Holmes Help Services, and the $6,600 a year in property taxes, Holmes said the gargantuan debt now threatens to overwhelm her.

"I'm grateful for this building," Holmes said, "but it's causing me too much stress and too much problems."

It's not clear if the home itself was the major problem (did upkeep, property taxes, etc. cost her so much that she was in trouble financially?) or if her actions (code violations and the associated fines) were her undoing. It's probably a combination of both, though it's also likely (based on some comments in the piece) that she wasn't doing all that well when she only had the home -- especially when you look at that comment of hers above.

Seems like our potential alternative to an EMHE house is looking like a better and better option with every passing day.

Should You Buy More House Than You Need?

The following is a very interesting guest post from Jumping On The Path To Prosperity. I'm sure many of you reading this will have some quite strong comments about what he's suggesting. ;-)

This is a fascinating question with a far more complex analysis required than appears on the surface.  Right up front you need to know that I am talking about your personal residence – not an investment property.  An investment property needs to be tied to the needs of your potential renter and the common mistake made by investors is to buy a place that fits the investor's style.  That is another blog.

Let's say you need a 4 bedroom / 3 bath home in the burbs.  Let's say the home that would fit your needs totally can be purchased for $300,000.00.  At the same time, let's say you can qualify and handle the payment on a $400,000.00 home.

The Dave Ramsey's of the world would probably tell you to rent and definitely not tell you to buy the $400,000.00 home.  My feelings would send you into the $400,000.00 home for a ton of reasons.

First reason is lifestyle.  I am going to guess you will be a lot more comfortable in the $400,000.00 home than the $300,000.00 home.  If you live in the home the typical 5-7 years, that is a big chunk of your life.  Why not enjoy it?

Economics and Financial Planning make the reason even more compelling.  That $300,000.00 home is likely to appreciate over $100,000.00 in five years (based on historical averages).  The $400,000.00 home is likely to appreciate over $135,000 during the same period.  The difference is $35,000.00 if you ignore all of the tax and lifestyle benefits.

Assuming you put the national average of less than 10% down – say 8% - and you had the seller pay the closing costs, you would have an additional cash outlay of $8,000.00.  That gives you a cash on cash return on investment of $35,000.00 over five years on an $8,000.00 investment!  That is a simple return of well over 400% in five years on an incredibly safe investment.  Further, I have not taken into account the tax benefits and the lifestyle benefits.

What other investment could you possible make that is safe and secure that would predictably yield that kind of cash on cash return on investment in five years.  Because of compounding, the numbers are actually more attractive and more predictable as you go down the road.

I am not suggesting that you get crazy.  I am not suggesting that you employ this strategy if you intend to die in the property and do not intend to use a refinance strategy.  I am suggesting that if you are like most families and are going to be in the property 5-7 years, pushing yourself a little bit will likely yield enormous returns.

Our House Purchase Didn't Go Through

I announced a couple weeks ago that we had bought a new house. That announcement was two weeks into our process -- well enough in that I thought it was a "done deal." It wasn't.

On Monday we received an inspection report the seller was responsible for (they were supposed to do it within 10 days of the purchase agreement being signed but they waited until the last minute) that had one item in particular that we couldn't live with. So we canceled the agreement and are staying put for now.

I'll blog more on the process and what we learned along the way -- when I find time to sort through it. For now, I just wanted to get you all up to speed on our situation.

And just so you know, while it is a bummer that we won't get the house we liked so much, we believe that everything happens for a reason and that what's ahead of us is even better than what we hoped to have at this new place.

The Foreclosure Crisis Hits Close to Home, Part 2

I've already told one story about how the current foreclosure crisis has hit close to home for us. Here's another one.

In the process of selling our current home, we were looking at comparative homes near ours that were for sale and ones that had sold -- so we could set the price for our place. One of the homes for sale was previously owned by good friends of ours, a wonderful, honest, trustworthy family that had moved to Colorado this past summer. They had previously had their home listed in the low 200's, but now it was down to $189k.

I said I was surprised that they had gone so low since I thought their plan was to see if they could get a higher price, even if it meant that they were letting it sit for awhile. Then I noticed some red lettering on the listing and asked our agent what that meant. She said, "Oh, that means the place is now owned by a bank. It was probably foreclosed on."

What? How could this happen -- and to good friends of ours? We had no idea!

And just to be clear, we still have no idea what has actually happened (my wife has talked to the other wife a couple times and nothing's been mentioned -- and my wife is hesitant to ask, for good reason). In fact, despite our agent's claim, they still have a neighborhood boy cutting their grass and the home is listed with the same agent, both of which might indicate that they still own the home. That said, if they did go into foreclosure, here's the likely scenario that played out:

• They knew they were going to move, so they had their home fixed up. They painted, put in new carpeting, and had some other major work done to make the house look as good as possible.

• They set the price they wanted to get out of the house -- not at the going market rate.

• While they waited for their home to sell (and assumed they'd get $XXX price for it), they bought a new place in Colorado. While we don't know the price on the new home, we do know the following specifics:

• It was a home in foreclosure.
• It wasn't finished. It still needed some drywall, etc. They had a relative in that area that was going to fix it up for them before they moved out.
• As such, they had to put a decent amount of money into the new place to get it livable.
• It had several bedrooms (six or seven, I believe) and 10 acres of land.
• Somehow we got the idea that the house was in the $500k price range (though this could be way off). What I do know is that they "stretched" to afford this place (the husband told me so a few weeks before they moved.)
• The land had stables, so they bought a couple horses and a few motorcycles/ATVs to really enjoy the place.

• Their home here didn't sell. It's an older home and the market is tough anyway -- and they wouldn't/couldn't move the price down much (though they did some.)

• It got to the point where they were underwater on the home and they simply walked away -- giving the home (and their debt) to the bank. This is speculation, but if the house is bank-owned now, it's the most plausible explanation of what happened.

So, in other words, they bought a new home and some goodies while their credit was good, then dumped the old house for the bank to handle. I'm sure it wrecked their credit (or will soon), but they already have their new loan secured -- so they're "fine."

If this is the case, I'm shocked in many different ways. Shocked that they were in such financial trouble, shocked that they bought such an expensive place given that they couldn't really afford it, shocked that they were dishonest and simply walked away from a financial commitment, and so on. I'm shocked, shocked, shocked!

I did a bit of Google research and it turns out that this practice (called "buy and bail") is rather common (see The Wall Street Journal, ABC News, About.com, and Yahoo). Still, I see it as pretty dishonest. And I'm shocked that people we knew so well and considered honorable did something like this.

We Bought a House

More on this in a couple weeks after we close and things settle down a bit, but just wanted to let you know that we bought a new house. We should be closing in two weeks or so and once it's a done deal, I'll start giving details on how we found the house after looking for two years, the home's specifics, the price negotiations, the inspection, selling our own house, etc. -- all the dirt.

For now, I thought I'd simply make the announcement. And for those of you who are the praying type, we'd certainly appreciate your prayers for a quick sale on our house. :-)

The Foreclosure Crisis Hits Close to Home

A couple weekends ago my son had a friend over to play. The friend's family was moving that day and they wanted him out of the way and we were happy to help. But there was something strange about the move.

To set the scene, we don't know the family well, but we know them "well enough." We see them at church, we sat with them at a dinner event last year, the kids have played together before (the son's been to our house a couple times), and my wife attends a ladies event with the other lady every week -- so they are more than acquaintances. And yet something seemed a bit unusual about their move to a new home. Here are the details as we knew them:

• They were moving into a new home (we had the impression that they were buying a new home, but it could be they are just renting it.)
• The new home is not ready yet (someone's still living there), so they're moving to an apartment for a couple months in the meantime.
• But they haven't sold their current house.

See what's strange? Why move? Why not just stay in your current home until the new home is ready? My wife had asked the lady about the move and she (somehow) side-stepped what they were doing with their current house.

Anyway, when the son was over at our house, he said that they were moving, that he wasn't supposed to say why, but that he did know that they were "kicked out by bank." Immediately it was clear what was happening. They were being foreclosed on. We changed the subject quickly so our kids didn't catch on, but it was clear to both my wife and me what was happening. We had no idea.

Later we talked about it and will send them a house-warming present for their new home (a gift card to a local mass merchant where they can get whatever home stuff they need -- or, if they prefer, groceries) in hopes it will help them out a bit.

It's difficult to understand what happened. They'd lived in the home for a decade, so unless they did something that put them in a bad spot (like borrow again and again on the equity), then I can't see what happened. In other words, they didn't buy too much of a house hoping it would go up and they could refinance. No, this was just a regular purchase for them 10 years ago and they had done fine in the years since.

Of course when we look back on it, there were signs. The dad was laid off a few months ago (though we thought he had gotten a new job.) The mother was going back to school (to become an accountant, no less.) Anyway, it's a sad event all the way around.

All this reminds me of a book I recently received in the mail. Stop Foreclosure Now: The Complete Guide to Saving Your Home and Your Credit is supposed to do just that -- help you stop being foreclosed upon. If anyone out there is in the same situation as my son's friend's parents, you may want to check it out. It looks like a decent resource.

The Housing Crisis Is a Boon for Some

Check this out:

Jason Norton, a 27-year old contractor in the San Francisco Bay area, knows how to handle sophisticated remodeling projects. But these days, instead of installing granite countertops or spalike master bathrooms, he handles the lowest common denominator of contracting work: boarding up windows with plywood, hauling junk to the dump and visiting color-matching scanners at Home Depot and Lowe’s to identify which exterior color will best cover up graffiti.

Norton works for homeowners, but his clients aren’t the usual folks: They’re lenders and banks who have repossessed properties through foreclosure proceedings. With the credit markets in turmoil, home prices falling and foreclosures on the rise, the number of lender-owned homes is soaring.

Banks and lenders are in the business of making loans rather than managing property, so many have little or no staff to oversee the homes’ upkeep. Yet with foreclosures mounting, they have more property than ever before to manage.  That’s why “board-up” guys like Norton have no lack of work.

“The business has picked up quite a bit,” says Norton, who began taking on “board-up” jobs in 2006 and now handles five to 10 jobs a week. “Banks can’t just let the properties sit there.”

I guess in every problem there's always a silver lining for someone...

Why Dumping a Bad real Estate Agent May be a Good Idea

I recently received this comment on my post titled Is It Fair to Dump My Real Estate Agent?:

Just a quick follow up from my comment on 7/29 at 12:51.

My grandmother dumped her realtor. He was a jerk about it, telling her how he had put so much work into the listing during the 1.5 YEARS that he had control of it. Two weeks later after changing to a new real estate agent, she had two offers--one of them for full price, in cash.

We haven't decided what to do yet with our agent, but the results here seem to indicate that a good agent can make a HUGE difference versus a not-so-good one. Hmmmm.

Not Everyone in Housing Trouble is a Deadbeat

Recently had this comment left here on my post titled When You Owe More on Your House than It's Worth (a post I wrote two years ago):

Don't ASSUME that if someone is upside down it's because they were irresponsible and bought their place with a no-money-down loan. SOME of us put down 10 to 15 percent, even 20 percent, and are upside down because this market is really that bad. That is my situation. I bought a home for $270,000 that was appraised around $300,000. I put down 15 percent and the home value has dropped below that. Now my finances are tied in a depreciating asset.

Good point. Some people did it all by the book and still got burned. Of course it only becomes a problem if you have to sell, but still, I thought this comment was worth sharing.

Advice for Home Owners: Don't Over-Remodel (And Some Realistic Remodeling Numbers)

Consumer Reports has some advice for home owners: don't over-remodel your new place. Why? Because you're unlikely to get your money back from the investment. Their thoughts:

Homeowners can expect to get back less of the money they invest in renovations than they would have just a few years ago, according to a survey by Remodeling magazine. In 2005, 10 of 22 projects the magazine listed returned more than 90 cents on the dollar. In the past two years, no project did that well.

A few thoughts:

1. If you're planning on living in the home a long time, then I'd say go ahead with the remodels you want. As long as they aren't over-the-top and don't hurt resale value, you'll get some of your money back in simple enjoyment of the new features. The rest you'll get back when you sell the place.

2. If you can do part of the work yourself, help the guys you hire to do the work, plan your repairs in the off-season or somehow can get discounted rates on the work, you can save a good amount of money and make a better-than-average return on your investment.

In addition to the above, Consumer Reports lists several home improvements, what they should cost, and the value the homeowner can expect to recover. Since almost everyone didn't believe the numbers in my eight home improvements that pay off, you may want to check them out.

We Have a Buyer for Our Home

When I detailed what we might do with our home if we bought another one, here is one of the possibilities I offered up:

Sell it for an extremely low price to a needy family -- We know a few families that simply can't afford a nice home. One would even like to adopt but simply doesn't have the space in their home. Our house has more than enough room. If we sold them our home for, let's say $100,000 (hence the target figure in my net worth), they could afford that. Advantages: We get to help out a needy family AND we get some cash for the house. Disadvantages: It's not the best deal financially. Plus we'd need to REALLY spell out the rules (such as they'd have to live in the home a certain number of years or sell the house back to us for $X -- we don't want to sell to them simply to have them put it on the market and sell it for $130,000.) We'd probably need to get a lawyer involved.

Well, we aren't planning on giving the home away or taking that big of a hit, but we do have a buyer who's interested in buying our home at $20k-$30k below market value if they can sell their home. My wife and I talked about it, and we decided that if they do sell their home, we will sell our place to them. The husband works for a non-profit organization and they are a GREAT family. I don't know their finances, but they're probably near the high end of what they can afford. So when they asked if we'd consider selling them our home at $20k to $30k below market value, we said we would -- at the HIGHER discount number (a better deal for them.) It's not that big of a hit for us financially and it will be a blessing for them -- so everyone wins!

Our only problem: we don't have a place to move to. I've told them that we won't move without a place to go (we're not going into an apartment), so if they sell their home, we'll need to make some quick decisions. But that's a big "if" in this market. Houses aren't exactly selling like hotcakes around here.

But who would have ever thought we'd have a potential buyer before we bought ourselves? Guess the best laid plans often go up in smoke!

How to Pick a Good Real Estate Agent

After telling you all about the stupid way I picked our real estate agent, I thought it was worth quoting Consumer Reports and their thoughts on how to find and hire a good real estate agent. Their thoughts:

Interview more than one agent. Ask around for recommendations and meet with several possible candidates. They should clearly explain how they would market your property and should describe how they handle open houses and newspaper and Internet advertising. Ask whether there will be any advertising costs, transaction fees, or other incidentals that you will be expected to pay. Transaction fees in particular are negotiable. After you select an agent, make sure the marketing plan is part of the listing agreement, so if the plan is not followed, you will be able to cancel the listing and take your business to another agent.

Lesson learned. I still haven't decided what I'm going to do with our agent, though I'm leaning towards having a talk with her and giving her the rest of the year to help us find something. Then if we haven't made progress by then, I'll feel better about switching to another agent.

Key to Selling Your Home: Price It Right

In its September issue, Consumer Reports lists its opinion of what it takes to sell your house in this market. Their thoughts:

Price it right. Trying to make your house stand out by offering potential buyers enticements like a free vacation or a set of golf clubs is so last month. Today it's all about price. Homes sell most quickly if they are put on the market at a price that's just a bit lower than those of similar homes in the area.

Wow, what a stunning revelation. Price, huh? Who would have ever thought of that one? ;-)

I think the main problem with people getting real about price (listing their home at the market price, dropping price if it's not selling, etc.) is that many (most?) of them stretched to buy the home in the first place. Now, they HAVE to have a certain price on it or they're upside down. But they can't get that price because the market is way down. So they're stuck -- they can't afford to sell because they'd have to recognize their loss and they can't find a buyer because their price is too high. It's a tough place to be in.

We've done a couple things to make it easier on our finances to sell our home. They are:

• We bought a home far below what we could afford (and far below what the bank was willing to lend us, btw). We didn't stretch (in fact, we paid cash for the home, so there's no bank loan to worry about/deal with.)

• I reduced the value of the home in Quicken. I know it's kind of playing funny with the numbers, but over the past year I've taken the value of our home down waaaaaaay below market value. So when we sell now, even though it will be below what the house could have sold for a couple years ago, our selling price will be above what our finances say the home is worth. So when we sell in this depressed market, our net worth will actually increase! ;-)

Yes, selling a home these days can be dicey, as I've pointed out. But hopefully the steps above have made it easier for us to price our home reasonably and sell it as quickly as possible (when the time comes) so we can move on with our lives.

For more thoughts on real estate in this market, see these posts:

• Rule for Making Lowball Real Estate Offers

• Can You Afford Your Mortgage?

• Five Signs that a Property Might be Ripe for a Lowball Bid

• How to Tell If Your Home is Overpriced

How to Save Money on Real Estate Agent Fees

Consumer Reports tells us how to save money on real estate agent fees: negotiate. Their thoughts from a recent survey:

You can negotiate the [agent's] fee. The usual 6 percent commission that agents charge sellers has been standard for so long that many homeowners apparently don’t realize it’s negotiable. But 46 percent of the sellers in our poll attempted to negotiate a lower commission and roughly 71 percent of that group succeeded.

Better yet, paying a lower fee doesn't hurt your selling price:

We found that paying an agent a lower commission rarely had any effect on the sales price. And readers who paid commissions of 3 percent or less were just as happy with their brokers’ performance as those who paid 6 percent or more. People who paid extra, in fact, were more likely to say they had regrets about the selling process. The biggest regret? Nearly one-third said they should have been more assertive in negotiating their agent’s fee.

Furthermore, paying less doesn't result in bad service:

The industry generally defends the full 6 percent commission by saying it enables brokers to provide all the services home sellers need. And some of our survey respondents who paid lower commissions did get fewer services from their agents. But there wasn’t as big a gap as you might expect. For example, 81 percent who paid 3 percent or less said the agent provided a competitive market analysis of their home, compared with 87 percent of people who paid 6 percent or more. And those who paid a lower commission were somewhat less likely to have agent-sponsored open houses (54 vs. 59 percent).

So much for paying your realtor a HIGHER fee, huh?

If interested, you can compare what you get for a 3% commission versus a 6% commission. It's not much different.

We've negotiated with our agent to charge us 1% to sell our house if we buy our new house using her. On our end, the 1% covers her handling all of the paperwork (which is worth it), though we know we'll need to do most of the marketing ourselves. The 1% gets us on the multi-list though, which seems to be about 90% of the "marketing" that most agents do.

Anyone Ever Heard of This Tradition?

We're having our house spruced up a bit with some paint. It was a last painted eight years ago and with all those Michigan winters since, it needs a bit of touch up.

One thing we're deciding is what color to paint the door. It was red when we got the home, we painted it hunter green, but now we're wonder what color works best.

Anyway, as we discussed the door colors, we also talked about an "old tradition" that we didn't know was really a tradition or just something we heard around but that wasn't true. Here it is:

When people pay off their mortgage, they paint their front door red.

I searched the web and found lots of speculation on this tradition, but nothing definitive. Anyone out there heard of this before and/or can you find something that says it's either a real tradition or not?

How I Plan to Buy One House and Sell Another

Recently, a reader had this question for me:

FMF, does buying your new house w/cash include the money from selling your current home?

I always wondered how that act is juggled. If you wait to move into your new home before selling your old home, do you carry a mortgage for a few months? If so, will paying it off quickly violate some terms with the bank? Or is the buying+selling just commonly brought as close together as possible?

This is a good question, but one that's not easily answered because of so many moving parts -- whether we buy or sell first, how long before we buy sell, what time of year we buy/sell, and so on. So there are many different ways this could eventually pan out (including us not moving at all), but I'll share my thoughts on two different scenarios -- one if we buy first and one if we sell first.

If we buy first, that would mean one of two things:

• We got a REALLY great deal on the home we're buying
• We will be buying next spring or early summer -- enough time to sell our home before the end of the summer

As you may recall, we made an offer on one home this spring but couldn't come to agreement with the seller. If we had reached a deal with them, we would have had plenty of time to sell our home this summer and have the buying and selling all wrapped up by October. How can I be so confident that we could sell our home in a few months? Because we plan to price it aggressively -- to move. Financially, we don't need to get a maximum sales price from it to make the finances work. We'd rather price it at or below the market and move quickly. Besides, holding two homes is not exactly something we want to do.

In this case, the numbers would look something like this:

• We'd buy a new home for $370,000
• We'd put $100,000 down
• We'd get a mortgage for the rest
• Once we sold our current home, we'd net $160,000 at the worst
• We'd put the $160,000 against the mortgage

At this point, we'd owe $110,000 on the new home. We have about that much in savings (above the $100k above), but that amount has the following in it:

• Savings for a new vehicle we'll need in a couple of years
• Our emergency fund
• Any extra funds we need to fix up the new house (paint, carpet, furniture, etc.)

Given these, we'd probably have $20k or so available to put down on the house, so we may do that or may not. Either way, we'd start making extra payments on the mortgage and hope to have it paid off in a couple years or so.

On the "sell our house first" side, we wouldn't sell unless we had a new place to move to (we're not moving to an apartment or rental home). We could get an offer anytime (we have friends interested in buying our house if they sell their home), and if we do we'd first go back to a home we like and see if we can make a deal to buy it. If we can, we'd set up the buying and selling to happen near the same time. If we can't, we'll either need to figure out something with the new buyer or simply pass on their offer until we can find something we do like. If we were able to work all this out, the finances would be similar to those detailed above.

Buying a house and also having a home to sell is certainly a juggling act. But we've got our finances in a position that allows us some flexibility. In addition, we're using my formula for buying a home, so the new home won't be a financial burden. These two factors combine to make what's often a very difficult situation a relatively easy one to manage.

Is It Hard to Borrow Money for a House Today?

Here's a piece from CNN Money that talks about how difficult it is to buy a home these days. They start with this title and sub-line:

Need a mortgage now? Bring lots of cash. Between higher fees and larger down payment requirements, buyers have to pony up more money than ever these days just to land a loan.

Then they get into details:

Are you ready to buy a house in this crazy market? Better bring a boatload of money to the closing.

In a brutal real estate market where all the players want to hedge against the tremendous risks, down payment requirements and up-front fees have soared, shutting many potential home buyers out of the market.

"I have as many people calling me for financing as ever," said George Hanzimanolis, a Pennsylvania mortgage broker, "but I'm putting less than half of them into loans."

That's happening all over the country, and may slow the housing market's recovery. Indeed, in a Realtor.com survey released today, potential home buyers said high down payments were the second biggest obstacle, after high home prices, to buying a home.

Wow. Sounds like a disaster, huh? How can anyone buy a home these days -- it just seems so daunting. But then we get into the details. Check this out:

These days, home buyers almost always have to make a substantial down payment, at least 5%, according to Rich Wordman, president of the Florida Association of Mortgage Brokers. The days of no-down loans are over.

Ok, so when did 5% become "a substantial down payment"? Answer: it didn't. This piece is simply an attempt to make a story out of nothing. I HATE it when writers do this -- and the money-advice press seems to do this quite often.

They go on to talk about higher rates, more fees, etc., but they lost me at the 5% point. If this is the frame of reference they're using, I'm not reading any more of their trash.

Now I will admit that it's true -- lenders are becoming more cautious. They've been burned and are trying to do all they can to make only solid loans. If you have your financial house in order and follow my formula for buying a house, you shouldn't have any problem. On the other hand, if you're stretching to buy a house you really can't afford, then you're probably going to have trouble. But you shouldn't really be buying a home like this anyway, so I look at it as a saving grace for many people (it will keep them from being their own worst enemies.)

Eight Home Improvements that Pay Off

Smart Money magazine lists eight home improvements that pay off. The piece includes suggestions, average costs, and the percentage of the costs you'll likely recoup. Their list:

• Replacing the roof, $18,042, 67%
• Replacing the siding, $9,910, 83%
• Turning the attic into a bedroom, $46,691, 77%
• Extra closet space, $1,250, 50%
• Remodeling the bathroom, $59,435, 75%
• Minor kitchen upgrades, $21,185, 83%
• Installing an energy-efficient window, $325, 50%
• Minor landscaping, up to $1,000, 100%

A few thoughts on this list:

1. They must be talking about completely replacing the roof -- old shingles and wood off -- new wood and shingles on. Otherwise, it wouldn't cost nearly that much (unless the house is HUGE.) We had our house re-roofed a few years ago and it was somewhere in the $4k range.

2. The "turning an attic into a bedroom" seems like a clear winner to me. I'd do it in a heartbeat if we had a useable attic.

3. Wow. Kitchens and bathrooms are EXPENSIVE!!!

4. Landscaping gives a 100% payback. Good to know. This might be something we think about as we decide to sell our house.

We're not looking to do much to our home since we may be moving and have much of this covered, but for those of you thinking about home improvements and wanting a decent payback, this list serves as a good guide.

Follow Your Home Inspector Around

Here's a great comment a reader left on my post titled Six Problem Areas to Watch When Buying a Home. I commented that if we buy a new house I want to be sure and follow the inspector around and ask him questions. A reader responded as follows:

You definitely want to follow the inspector around. If you find a good one (get referrals) then they will point out things that will come in handy later. They may not necessarily be problem areas but things worth knowing. For example, when we bought our house last year, our inspector told us such things as: that the roof was fine but predicted how it would eventually wear down and what signs to look for to show that it was breaking down, the insulation level in the attic that was up to code but could be improved (and happy to report that it since has been!), improvements that could be made in the drainage system to take it from acceptable to top notch, and so on. In other words, you want an inspector that won't just verify that things work as they should, but will help you understand how they can work better.

Also, I'd shop around. Call at least three companies. It's hard, but if it's possible try to talk to the inspector directly to see if you can get a sense for how open they are. Your realtor should be able to give you a list, but you should also find out from friends or family who is (or isn't) recommended. When you call, make sure you find out exactly what they do and don't do beforehand. On ours, he didn't go all the way through the attic, just looked through the access panel. Same with the roof, he went on the first level but not all the way to the very top (he used binoculars for that). He also wouldn't turn the sprinklers on as there was still a slight chance of a freeze. We found that this was all pretty standard, but make sure you press them to what they will, and more importantly, what they won't do. They'll usually do those other things, but of course for more money, if those things are areas that you are concerned with, and it helps to know that up front.

Some good tips in here. I'm assembling a list of questions I plan to ask the inspector if/when we ever get a new house and I'll share those with all of you at some point.

The Pros and Cons of Paying Cash for a House

As most of you know, my wife and I have owned our home without a mortgage for over a decade now. I'm a believer in paying it off as soon as possible as long as your other savings are covered first. But I know others who could pay off their homes but don't think it's a good idea and prefer to invest instead of paying off their home. It's quite a debate in personal finance circles and there's simply not one, clear choice that works best for everyone.

I've never seen a detailed list of the pros and cons of paying off your house (I'm sure it exists, I just don't remember seeing one) until I ran into this piece from Wise Bread. Here's a summary of what they listed as the pros:

• You do not need a credit history.
• Risk free savings.
• You actually own your house.
• You are not leveraged.
• You can often negotiate a better deal.

And the cons they list:

• Less liquidity.
• You are not leveraged.
• No tax advantage.

They end with a list of the situations when it makes sense to pay cash:

• The amount of cash you spend does not consist of a significant portion of your liquid assets.
• The interest rate on a mortgage is higher than what you can earn on your other investments.
• The amount of savings you get from an all cash deal versus a loan deal is significant.
• You do not want to deal with a credit agency in any manner.

The one I'd add: you prefer to have no debts.

For us, our home does not make up a significant portion of our liquid assets. We have a house that's far below what we could afford and our investments have grown nicely throughout the years. We also prefer not to owe any money to anyone. These two issues are the main reasons we don't have a mortgage.

That said, we probably could do better by investing (though over the past 10 years, it looks like our decision to pay off the mortgage was a good one), but for the reasons above, we'll stick with being mortgage free for now.

Things MAY change for awhile if we buy a new home. Since we're thinking of trading up, we may have a mortgage for a few years depending on what we buy, what we get for our current home, when we buy, etc. We're currently saving at a good rate per month for the new house, and if we don't buy something this year, it's likely that between what we'll have saved and the sale of our current house, we'll be able to pay cash for the new place. Only time will tell.

Is It Fair to Dump My Real Estate Agent?

Here's an issue I'd like to hear your thoughts on: is it fair for me to dump my real estate agent? I'll give you a bit of background and some of my thoughts, then you can weigh in with your opinion.

The Beginning

Two springs ago (March 2007) when we began thinking seriously about buying a new home, I asked friends, family, co-workers and the like for their recommendations on good real estate agents. I got back one response (I guess finding a good agent is harder than most people think). A trusted friend told me that one guy was the best agent he'd ever worked with (my friend worked as a loan officer at a bank.) He said the guy knew our target area and he sold tons of homes. I checked him out a bit online and true enough, he was among the top sellers on his firm's (fairly large) list of agents. (I think he was in the "gold club" or some such designation.)

We asked this agent to our house for an interview to see if he was the real deal. He wasn't. The best I can say about him was that he was less than impressive. He was poorly dressed, had bad interpersonal skills, and seemed somewhat shady. We decided to pass.

We also considered the agent who sold us our home. We liked him a lot on the buying side, but eventually passed on him as well since we thought he wasn't aggressive enough (and we wanted someone who could sell our house too). So we decided to stay on our own for a bit.

Our Current Agent

A month or so later, we met our current agent completely by accident. We called her up to see a property she had listed. We met her at the home and she and my wife hit it off quickly. The agent offered to show us any houses we wanted to see in the future.  So the next time we wanted to look at homes, we called her and she set it up. She also eventually set us up on her website so I could get email updates from the MLS -- giving me lists of homes that fit our criteria. As we received updates on these homes, we'd call her up and she would show them to us. This process kept repeating itself for months, throughout the summer. Then, after taking the winter off, we picked up the process again this spring and have been looking since.

Our Agent's Positives

There are many positives to our agent including the following:

• She's always nice, cheerful, and friendly.

• She's very available and willing to see homes on our schedule (she's probably shown us 40 homes in the past 16 months).

• She has a decent website that sends me the info I want (though it is a bit clunky)

Our Agent's Negatives

Unfortunately, our agent has some negatives as well:

• She's a weak negotiator/representative for us. If we'd had a good, competent agent, I think we would have bought this house. Yeah, the seller was a stinker, but our agent did nothing to work the deal with the other agent. He basically stared her down her and we made no progress. We might have even purchased this house if our agent had been a bit aggressive and worked to get the deal we wanted. Then again, maybe both deals weren't workable. But I do feel she's not really an advocate for us. Not that she doesn't want to be, I just don't think she has the skills for it.

• She's not pro-active. Basically, I'm finding the properties that fit my criteria and sending them to her to show us. She's not looking one bit for us. Yeah, she sets up the appointments, but she's not proactively contributing to our house search.

• She doesn't know very much about the real estate business. I've asked her basic questions and she hasn't known the answer. Worse yet, she'll simply say, "That's a good question!" and forget I asked it. I'd prefer, "I don't know. Let me find out the answer for you."

• She's not on the same page we're on. We've told her time and again what we're looking for and it's simply not sinking in.

My Fault

Ok, before I go any farther, let me state that I'm aware that the way we selected our agent (by accident) is probably the worst way of picking one. Stupid. Lazy. I know, I know, I know. I've kicked myself a million times for letting it happen. Just wanted to state that in case someone wanted to rant about it. ;-)

The Bottom Line

I've basically come to the conclusion that she's a poor agent and we're not served very well by her. And yet, I feel we owe her something since she's put so much time and effort into showing us all the homes. My current plan is to stick with her throughout the summer, then dump her if we don't find anything. This will have given her two selling seasons (April though September) to find something for us.

There is still a lot here that I didn't share due to space, but I at least wanted to put down the basics so you could get a decent overview of the situation. What do you think we should do?

The "Sad Rule" of Buying a Home

I've already detailed how wacky my house-buying experience has been, but here's one guideline I think works. I call it the "sad rule" and my agent stated it this way when we were discussing whether or not we should bid on/bid higher for some properties:

Think about it this way: would you be sad if someone else bought the house at this price? If so, you probably have a good fit for you at a fair price. If not, something's amiss and you shouldn't bid on it at this price.

Since