Some people put themselves in a housing pickle that causes them to incur additional house-selling costs. The pickle results from buying a new home before their current one is sold.
Most people can’t afford to own two homes at the same time; they need to get the cash out of their current home to buy a new one. Not surprisingly, the friendly lenders invented a way for people to get around this little inconvenience. It’s called a bridge loan, and if you qualify, this loan enables you to borrow against the equity in your current property, giving you the cash to buy your new home before your current house sells.
Bridge loans are a bad idea for a number of reasons. First, if you get stuck holding both houses for many months, you face a continuing cash drain from making two (or more) mortgage payments, property tax payments, and home insurance payments, as well as maintaining two houses. Second, the interest rate and fees on a bridge loan are quite high compared to a conventional mortgage. Finally, if housing prices head south, you may end up in deep financial trouble if you’re unable to sell your current house for enough money to pay the outstanding loans against it. Also, beware that if you take out a bridge loan on your existing home before you close the sale on your new home, the additional
expense may keep you from qualifying for the loan you expect to receive on your purchase property.
Bottom line: You should sell your current house before buying a new one.
Numerous resources are available for estimating the cost of living in a particular area:
The American Chamber of Commerce Research Association (ACCRA) publishes a quarterly cost-of-living index (online at ACCRA’s Cost of Living Index website, www.coli.org). It charges $7.95 for a two-city comparison (subsequent comparisons keeping one of the cities the same are reduced to $4.95 each).
PayScale.com (www.payscale.com/cost-of-living-calculator) and Salary.com
(swz.salary.com/CostOfLivingWizard/LayoutScripts/Coll_Start.aspx) offer free salary calculators that enable you to compare salaries between two different towns or cities.
Salary.com also has a nifty tool that allows you to value the benefits offered through a job (swz.salary.com/MyBenefits/LayoutScripts/Mbfl_Start.aspx).
The U.S. Department of Labor’s Bureau of Labor Statistics calculates the cost of living for major metropolitan areas, and you can access this free information online at
www.bls.gov/cpi/home.htm.
Cost-of-living indexes and surveys should be used only as a starting point and as general guidelines. They shouldn’t replace a thorough budgetary breakdown that addresses the specifics of your situation. Sure, the indexes may tell you that Louisville is generally a less expensive place to live than Boston, but they ignore the fact that, for example, you never needed a car in Boston because you could walk to work and take public transit almost everywhere else. Your job in Louisville may require you to buy a car, auto insurance, and fuel for commuting, not to mention more airplane trips to visit your family in the Northeast.
Avoiding relocation traps
As Joanne and Andy found, you shouldn’t act first (move and buy a new home) and ask questions later (see the section “Researching living costs and employment opportunities,” earlier in this chapter). Don’t base such a critical decision on assumptions and wishful thinking.
Here are the common pitfalls that ensnare those making relocation decisions, so you can avoid falling into them yourself:
Equating lower housing costs with a lower cost of living: This was one of the big mistakes Joanne and Andy made. The cost of housing probably accounts for no more than a third of your
spending. So if you don’t consider the other goods and services you spend money on, you neglect the lion’s share of your budget. Research all the major costs of living in an area before you commit to relocating to the area.
Not doing an apples-to-apples comparison of housing costs: Again, Joanne and Andy made this mistake. To a certain extent, you get what you pay for. Housing costs are lower in
communities with fewer amenities, inferior schools, poor commuting access, and so on. So if you’re looking at relocating to an area with much lower housing costs, you need to be skeptical instead of thinking that you’ve found the deal of the century. Ask yourself, “What does that area lack that my current area offers?”
Ignoring the overall opportunities in the local job market: Your next job is just that — your next job. You’re probably not going to stay in this job for decades on end. So when you’re contemplating moving to a new area, think bigger than just this “next” job. Unless you enjoy the cost and hassle of relocating frequently, consider your chances for finding your next couple of jobs in a given area. Although it’s impossible for some people to know what they’re going to want to do several years down the road, considering the job market for more than your current job can save you from relocating more than you need to or leaving behind an area you
otherwise like.
If you’re married, you also need to consider your spouse’s job prospects in your new
community. In Joanne and Andy’s case, they learned the hard way about the pitfalls of focusing on only one person’s job.
Taking the place where you live for granted: All too often you appreciate what you liked about a place more after you move away. Maybe, for example, you’re tired of the urban congestion and dream of the relaxed pace of a more rural community. After you make the move, however, you really start missing going to the theater and dining at cosmopolitan restaurants. Pretty soon you find yourself spending a great deal of money to escape the
“boondocks,” traveling back into the city to see musicals and eat Indian food.
Chapter 5
Determining Your House’s Value
IN THIS CHAPTER
Knowing the difference among cost, price, and value Determining your house’s resale value
Understanding a comparable market analysis
Finding out how real estate agent bidding wars ruin the pricing process
Step right up into the time machine, please. You’re about to be transported back to the day you began looking for your current home — the house hunt that culminated in the purchase of the home you now own. Ah, there you are, hesitantly wandering from one Sunday open house to the next with the classified ads in your hand and a puzzled look on your face.
When you first started your search, you didn’t have a clue about how much any of the houses you toured were worth. Do you remember how the asking prices were meaningless sequences of numbers to you? If, for example, you saw a house being offered at $274,950, you didn’t know whether it was a steal at that price or grossly overpriced. The experience you had is common.
Everyone goes through that phase during the initial stage of the home-buying process.
A couple of months later you were confidently zipping in and out of open houses. You figured out property values by personally eyeballing as many houses as you could. Then you kept checking the status of the properties to see whether they’d sold and, if they had, at what price. You discovered that sale prices, not asking prices, establish a house’s value. Your hard work paid off. You
became a market-savvy, educated buyer.
Okay, buckle up for your return to the present. How do you think things will change when you become a seller? Surprise. Where property values are concerned, the rules of the game are
identical for buyers and sellers. Being an educated seller is just as important as being an educated buyer. You get educated exactly the same way — by touring houses comparable to yours that are currently for sale in your neighborhood.
Good news. You don’t have to spend every weekend between now and the sale of your house touring properties. If you choose to use the services of a good real estate agent, he can accelerate your learning curve by screening which houses you visit. After seeing no more than a dozen houses comparable to yours in size, age, condition, and location, you’ll be an educated seller. (You can spend the time you save gussying up your house for sale!) After you’ve made these tours, you can set a value on your own house, and this chapter aims to help you determine that price.
Defining Cost, Price, and Value
George Bernard Shaw is often credited with having wryly observed that England and the United States were two countries divided by a common language. Citizens of the two countries use the same words, but the words may have entirely different meanings in each country. For example, folks in Merry Old England buy bangers with pounds. “What an odd country,” Americans think.
“They purchase hot dogs with weights?”
You don’t have to go all the way to England for a verbal joust. A similar breakdown in
communication occurs here in the good ol’ USA whenever Americans use cost, price, and value interchangeably. This linguistic imprecision creates big problems during negotiations between homebuyers and house sellers.
The fact is: Neither cost nor price is the same as value. After you understand the meanings of these words and how they differ, you can say exactly what you mean and replace emotion with
objectivity during price negotiations. Outfacting buyers is always better than attempting to outargue them.
Value is elusive
Value is your opinion of your house’s worth to you based on the way you use it now and plan to use it in the future. Note that, in the preceding sentence, the words your and you each appear twice. Because your opinion is subjective, the features you value may not be the universal standard for all of humanity.
You may, for example, be of the strongly held opinion that the one and only acceptable house color is beet red. Your neighbor may feel just as resolutely that only sky blue houses are gorgeous and all other colors are ugly. No harm done, as long as everyone realizes that a big difference exists between opinions and facts.
Two factors greatly affect value:
Internal factors: Your personal (internal) situation has a fascinating way of changing over time. Suppose that 30 years ago, when you bought your present house, you put great value on a four-bedroom home with a fenced-in backyard. The house had to be located in a town with a terrific school system. Why? Because 30 years ago, you were the proud parent of two adorable kids.
Now your children are grown and have their own homes. They left you rattling around in your house like a tiny pea in a gigantic pod. Without kids, you don’t need the big house, huge yard, or terrific school system. The house didn’t change — what changed were the internal factors regarding your use for the house and, thus, its value to you. Divorce and retirement are other examples of internal factors that compel folks to buy or sell houses.
External factors: Circumstances outside your control that can affect property values also change for better or worse. If, for example, commute time to the big city where you work is cut from 1 hour to 30 minutes when mass transit rail service is extended into your area, your
house’s value increases. But if a toxic waste dump is discovered next to your house, the
house’s value takes a hit.
The law of supply and demand is another external factor that affects value. If more people want to buy houses than sell them, buyer competition drives up house prices. If, on the other hand, more people want to sell than buy, reduced demand results in lower property prices.
Cost is history
Cost measures past expenditures — for example, the amount you originally paid for your house.
But that was then, and this is now. The amount you paid long ago or the amount you spent fixing up the house after you bought it doesn’t mean a thing as far as your house’s present or future value is concerned.
For example, when home prices began skyrocketing in many areas of the country during the early 2000s, some buyers accused sellers of being greedy. “You paid $75,000 15 years ago. Now you’re asking $250,000,” they said. “That’s a huge profit.”
“So what?” sellers replied. “If you don’t want to pay our modest asking price, move out of the way so the nice buyers standing behind you can present their offers.” In a hot sellers’ market, people who base their offering prices on the original price paid for a property waste everyone’s time.
The market can change radically in a few short years. By 2008–09 in the midst of the Great
Recession, prices had declined dramatically in many areas. Sellers would’ve been ecstatic to find buyers willing to pay them the amount they’d paid less than five years earlier when home prices peaked. In those areas, sellers who priced their houses based on the inflated purchase prices they’d paid years earlier learned a painful lesson: Your potential profit or loss as a seller doesn’t enter into the equation when determining your house’s present value.
Price is the here and now
You put an asking price on your house. Buyers put an offering price in their contract. You and the buyers negotiate back and forth to establish your house’s purchase price. Today’s purchase price becomes tomorrow’s cost, and so it goes.
Cost is the past, price is the present, and value (like beauty) is in the eyes of the beholder.
Neither the price you paid for your house eons ago when you bought it nor the amount you want to get for it today matters to buyers. Don’t waste valuable time on fantasy pricing.
Determining Fair Market Value (FMV)
Every house sells at the right price. That price is defined as its fair market value (FMV) — the price a buyer will pay and a seller will accept for the house — given that neither buyer nor seller is under duress. Duress comes from life changes, such as divorce or sudden job transfer, which put either the buyers or sellers under pressure to perform quickly. If appraisers know that a sale
was made under duress, they raise or lower the sale price accordingly to more accurately reflect the house’s true FMV.
FMV is a zillion times more powerful than plain old value. As a seller, you have an opinion about the amount your house is worth. Buyers have a separate, not necessarily equal, and probably lower, opinion of your house’s value. Values are opinions, not facts. FMV, conversely, is fact. It becomes fact the moment you and the buyer agree on a mutually
acceptable price. Just as it takes two to tango, it takes you and a buyer to make FMV. Facts are bankable.
Need-based pricing isn’t FMV
Whenever the residential real estate market gets soft and squishy like a rotten tomato, many would- be sellers feel that FMV isn’t fair at all. “Why doesn’t our house sell?” they ask. “Why can’t we get our asking price? It’s not fair.”
Don’t confuse “fair” with equitable or favorable. Despite its amiable name, FMV is brutally
impartial and sometimes even cruel. Need is not an integral component of FMV. FMV doesn’t give a hoot about any of the following:
How much money you need because you overpaid for your house when you bought it How much money you need to replace the money you spent fixing up your house after you bought it
How much money you need to pay off your mortgage or home-equity loan How much money you need from the sale to buy your next home
Here’s why need doesn’t determine FMV. Suppose two identical houses located right next door to one another are listed for sale at the same time. One house was purchased by Marcia for $30,000 in 1990. You made a $60,000 cash down payment when you bought the other house for $300,000 two years ago. As luck would have it, property values declined a year after you bought your house.
You clearly need more money from the sale than Marcia. After all, you paid ten times as much for your house. What’s more, Marcia paid off her loan five years ago. You, on the other hand, owe the bank big bucks on your mortgage.
Because the houses are identical in size, age, condition, and location, they have the same FMV.
Under the circumstances, the fact that they both sold for $285,000 isn’t surprising. Marcia got a nice nest egg for her retirement. You barely cleared enough from the deal to pay off your mortgage and other expenses of sale. Fair? Marcia thinks so. You don’t.
FMV is utterly unbiased. It’s the amount your house is worth in the market today — not the
amount you or the buyers would like it to be.
Median prices aren’t FMV
Organizations such as the National Association of Realtors, the Chamber of Commerce, and
private research firms gather data on house sales activity in a specific geographic region, such as a city, county, or state. They use this information to prepare reports on housing topics, such as the average cost of houses in an area and the increase or decline in regional house sales on a yearly or monthly basis.
One of the most widely quoted housing statistics is the median sale price, which is simply the midpoint in a range of all house sales in an area during a specified reporting period, such as a month or a year. Half the sales during the reporting period are above the median, and half fall below it.
The median-priced house, in other words, is the one exactly in the middle of the prices of all the houses that sold during the specified reporting period. For example, the median sale price of an existing single-family house in the United States was about $265,000 in 2017 — meaning half the houses in the U.S. sold for more than $265,000 and the other half sold for less than $265,000. (In case you’re interested, the median sale price was just $118,000 in 1996 when the first edition of Home Buying Kit For Dummies went to press.) Unfortunately, all you know about this
hypothetical median-priced American house is its price.
You don’t know how many bedrooms or baths the mythical median-priced house contains. Nor do you know how many square feet of interior living space the house offers, how old it is, whether it has a garage or a yard, or how well maintained it is. You don’t even know where in the United States this elusive median-priced house is located.
As a homeowner, you can use median sale price statistics to measure general property value trends. For example, suppose your local Chamber of Commerce says the median sale price of a house in your area was $200,000 five years ago when you bought your house, and it’s $240,000 today. Based on that information, you can safely say that median sale prices have increased 20 percent over the past five years.
Just because the median sale price of a house in your area went up 20 percent doesn’t mean the house you paid $250,000 for five years ago is worth $300,000 today. Median sale price statistics aren’t any more accurate for determining your house’s value than median income statistics are for calculating your paycheck.
You need much more precise information to establish the FMV of the house you’re about to sell.
Using a Comparable Market Analysis
The best way to accurately determine your house’s FMV is by using a written comparable market analysis (CMA) to see how your house compares to other houses like yours that have either sold