Fiscal Cliff Approval and Real Estate

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Real Estate Tax Provisos for 2013

 

Finally, “fiscal cliff” debate is over! For months now, it’s been impossible to turn on the TV or radio without getting an earful of breathless and mostly unwanted information.  Even though most of us now regard Congress as on a par with cockroaches, what happens there does have an impact on our lives. All the more reason for members of Congress to act like grownups, but that’s another topic…

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Real Estate Tax Deductions

Rushed through at the last minute, the “fiscal cliff” legislation contains a number of important provisions and none more important than those that relate to real estate.  Here are a few of the most salient.

  • Short sale taxation relief extended for another year until January 1, 2014
  • Deduction of mortgage insurance premium is retroactive to 2012 and extended to 2013 for incomes under $110,000
  • 10% tax credit [up to $500] for energy-saving home improvements retroactive to 2012 and through 2013.
  • Capital gains tax stays at 15% except for those earning over $400,000 [single filer] or $450,000 [joint] and then it’s 20%.
  • $250,000/$500,000 [single/married] exclusion on capital gain from sale of principal residence remains unchanged.
  • Estate taxes on first $5 million for individual and $10 million for family estates are ZERO.  Above those amounts, the rates are 35% and 40% respectively.

Effect of Real Estate Provisos of 2013

Given these provisos, it’s clear that real estate remains in a privileged position as far as federal taxes go. Not only do homeowners get a tax deduction  for the interest in their mortgage payments, which is unheard of in other developed countries, such as Australia and Canada, but we can deduct mortgage insurance premiums which are only applied if the equity in the home is less than 20%. By extending this tax deduction, Congress is implicitly encouraging home ownership among those who do not have the traditional 20% down payment. Is this a good thing? Considering the recent mortgage meltdown, maybe not.  It does help lenders and real estate professionals, though.

Homeowners also get to purchase equipment for their homes and then deduct some of the cost–just so long as it saves energy and fits the criteria.  Naturally, no one can argue that energy-saving is bad, but here the government supports homeowners and no one else.

Additionally, estate taxes on the first $5 or $10 million, depending, amount to nothing. This also supports homeowners since a large proportion of most estates of this size is made up of real estate holdings, both principal residence and investment properties. Again, the tax code is supporting home ownership and investment in property.

Last, but not least, the tax code encourages home ownership by not taxing any capital gain up to $250,000 or $500,000 respectively. This means that home owners can sell their homes frequently, pocket the gain or purchase a more expensive home, without worrying at all about taxes. This has been part of the tax code several decades, though the amounts have increased, and does encourage home ownership. In fact, it encourages or at least does not discourage serial home ownership.  Of course, this benefits those who change jobs and must change jobs, but it also benefits lenders and real estate professionals.

Extending the tax relief to those who short sale their homes is in a different category. So long as underwater homeowners face no tax penalties for short selling their homes,  they will usually prefer it to the foreclosure alternative. At the same time, short sales are a much faster way of  dealing with an inability or unwillingness to pay the mortgage in underwater homes.  Short sales help to clear the vast inventory of underwater property which has been clogging the system for the past few years making it difficult for the real estate industry to recover.

 

Is The Housing Crisis Over and Out?

Housing Is On The Upswing

The Good News

The worst of housing times may be slowly working its way into a dim memory as home buyers are returning to the marketplace. The national housing stats are suggesting that the terrible pain of the last six years may, at last, be coming to an end.  According to the National Association of Realtors [NAR], national home sales rose 3.4% in April for a total of 4.6 million homes sold  and the median home price for the nation rose to $177,400, a full 10% over last year. Of course, the  NAR has a vested interest in the health of the housing sector and its stats may be on the rosy side, as many commentators have pointed out. Still, 10% increase in value, even 5%, is terrific news.

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For more good news,  purchases of new homes rose almost 10% over last year. At the same time the purchase price of these new homes rose almost 5% to a national median of $235,700. Housing starts are up over 50% from their 2009 low.  So, it does seem as if there is some ground for optimism. Finally, the combination of  incredibly low mortgage rates and low home prices has begun to attract the public, still stunned from the worst economic downturn in decades.

Why Is This Happening?

For the millions still underwater and behind in outrageous payments, even thinking that the housing crisis may be on its way out is a cruel joke. Nevertheless, there are some solid reasons for an eventual and actual end to the housing crisis of the last few years.  Our U.S, labor market has been improving over the last two years ever so gradually, diminishing the ranks of the unemployed slightly month by month. Add to that enticing mortgage rates which remain at historic lows and it makes sense that home buyers with the wherewithal would begin to have enough confidence in their future prospects to make that big home purchase.

Rent vs. Buy

Rental rates have been rising throughout the country and renting has many advantages over owning a home. Nevertheless, rental rates are still much higher than the cost of owning a home in great swaths of the country. This is based on purchasing a home with 20% down and owning the same home for at least 5 years  Additionally,these stats take into consideration only the purchase price of the home,  not the ongoing costs of maintaining it.

Though for the most part  in Southern California rental rates are still cheaper than owning a home, the allure of home ownership is still a strong pull both for the younger, first-time buyers as well as older, more experienced ones. The many young people who have returned to live with Mom and Dad or those who have rented with roommates for several years are now yearning to live free–in their own homes.

Is The Crisis Finally Over?

Millions of homes are still underwater. Millions of homeowners are still faced with foreclosure or the prospect of short sale. With that in mind,  the housing crisis is certainly not over.  Despite the modest recovery in the U.S., now our global trading partners are starting to slow down or even crash themselves, especially the EU and the BRIC countries [Brazil, Russia, India, China], which had been keeping the economic engine stoked.  This country is recovering and we may manage to keep up the trend going mainly by satisfying pent-up internal demand, especially in housing.

 

Should I Buy Or Sell Now?

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It seems clear that now and for the rest of this year, it’s a good time to buy a home. Prices are still very low and mortgage rates are very low. Both of these factors are likely to extend through the end of the year and into 2013.

For those thinking of selling, it’s a more mixed picture. For those deeply underwater, home prices are unlikely to spike in the next few years, so better to bite the bullet and sell now.  For those who want to move up, this  seems to be the ideal time to make the move. And, of course, many have little choice in the matter: whether it’s through marriage, divorce, new babies or new jobs, selling is really the only option.

 

 

Is Your Real Estate Investment A Good Deal?

Mortgage rates are the lowest since World War II.  Property values have hit bottom in most locales. Many now see the stock market as corrupt and manipulated.  Besides gold, silver and precious metals, all already hitting record values, real estate has emerged as the best place for an investor to place money.  Investors in mutual funds are passive participants in the process. Real estate investment is usually active. How does the novice investor recognize a good deal?

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How To Value Real Estate

Traditionally, real estate investments generate value in two ways-through cash-flow and appreciation.  Simply put, cash flow is the amount flowing to the owner on a monthly basis after payment of the mortgage and all expenses. This calculation can and should be made before purchase. The second way to generate value, appreciation, is more tenuous as it refers to the future value of the property. No matter how good the deal, how wonderful the neighborhood or how solid the local economy, the future is always unknown, so appreciation cannot really be calculated, only assumed.  Never rely on appreciation alone in making a real estate investment. 

Calculating The Cash

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Cash Flow Calculation

That leaves cash flow. The serious buyer must always calculate the cash flow before jumping into any investment.  From my observation, though, it seems this crucial step is often skipped.  For simple cash flow, here’s what you need to consider.   The owner will also have to pay whatever is stipulated in the leases, such as water, trash, electricity, gas,  gardening, pool maintenance, snow removal, pest control and, possibly, property management and whatever other monthly expenses might accrue.  Subtract this from the rental income and that is Net Operating Income [NOI].

The purchase price minus the down payment equals the amount financed which, in turn, tells us the monthly mortgage payment.  For instance, on a $200,000 investment, the down payment might be 25% or $50,000, leaving a mortgage of $150,000 and a payment of  $1000, including taxes and insurance.   The NOI minus the mortgage payment is the monthly cash flow.

Cash On Cash Calculation

Another way to calculate a real estate investment is called the cash on cash return method. This time, the investor considers all the money invested in the property, including the down payment, to figure out exactly what is the return for every dollar invested.  the purchase price is still important, but more vital is the amount generated from the cash put out.

On a $200,000 investment, the down payments is typically 25% to 30% or $50,000 plus an additional  5% in closing costs, loan fees and rehab costs, another $10,000.  The total cash outlay is now $60,000 with a mortgage of $150,000.  Now, estimate that the rents generate $2000 monthly and the ongoing costs amount to about $500 [utilities, maintenance] leaving $1500 a month. This is the Net Operating Income. From that subtract the monthly mortgage cost of $1000 and that leave $500 a month, producing a cash flow of $6000 per year.

Divide that $6000 by $60,000 to get the cash on cash return. In this case, it is 10%. Considering that leaving money in a CD will generate less than 1% these days and even the stock market less than 5%, that’s an excellent return on money invested. But, real estate investment is an inherently risky investment, so the returns should be decent.

Banks Are Still Cheating!

After all the hullaballoo last fall over the “robo-signing” scandal, you would think that banks had learned their lesson. You wouldn’t expect to see a big bank still forging documents so it could foreclose, would you? You would be wrong.  GMAC, one of the biggest of the big mortgage lenders/servicers, was recently caught-again!-doing that very thing.

Here’s what happened. The bank wanted to foreclose on a property in New York and, as often happens in these days of mortgage-backed securities, tranches and what have you,  did not have the requisite documents. Usually in a case like this, the bank goes to the original lender and asks permission to recreate the original documents. Even that sounds pretty murky. We consumers are required to have documentation for everything or–too bad for you–no dice. In this case for GMAC, though, it was even worse because the original lender, notorious subprime mortgage-maker Ameriquest, had gone out of business in 2007.

So, GMAC, not to be deterred, started seeking ways to craft the documents anyway. The problem, as stated by its own “Document Execution Team” head, Jeffrey Stephan, was that the bank did not have signing authority.  Several months passed and no solution appeared to help GMAC out of this legal “snag.”  Then, suddenly, GMAC had an answer. It filed a document with New York City authorities  stating  the delinquent Ameriquest loan had been assigned to it “effective” August 2005. The document was dated July 7, 2010, three years after Ameriquest had ceased to exist and was signed by Stephan, who was identified as a “Limited Signing Officer” for Ameriquest Mortgage Company. Soon after, GMAC filed for foreclosure.

Was it legal? No way was this little trick legal as it did not have signing authority from the defunct Ameriquest. In fact, it’s own paperwork giving itself authority was dated in 2010. Oops!

Guess what, GMAC? In New York it’s a felony to file paperwork “with intent to deceive”.  Already we know that GMAC was at the forefront of the fradulent “robo-signers” and, apparently, has not taken its lesson to heart because, according to ProPublica which discovered this particular case, this is just one of hundreds, if not thousands of similar work-ups arranged by GMAC so it can proceed to foreclosure, regulations and laws be damned.

Snagged in the act, so to speak, GMAC has not yet been able to foreclose on this home where the owner still resides. And, since apparently no one did much homework at the time of the demise of these sub-prime lenders, this will continue to plague not only GMAC, but also other mortgage servicers in their quest to foreclose.

How inconvenient it is that real estate laws exist! How much better if these silly little laws could be just wiped off the books and the banks allowed to do as they wish-foreclose without proper documentation.

That is the root of the cries for “less regulation”, “free market capitalism,” no “job-killing rules” and the like.   GMAC is not alone in its tricky interpretation of foreclosure laws.  Many banks have filed thousands of false foreclosures, knowing full well that few homeowners will contest them in court.  In fact, fewer than 4% of foreclosures are contested, though the stakes are very high for homeowners.   Recently, in Vermont a judge threw out a pending foreclosure from GMAC, based on a flawed signature emanating from the aforementioned Stephan who has admitted to signing up to 400 foreclosure notices a day, precipitating the foreclosure scandal.

Is Buying A Home Still Worth It Today?

You know the picture–rose-covered cottage, while picket fence, yard for frolicking dog and kids. Is this still what we want? More and more polls and surveys are saying-No, we’d rather rent.   Does that mean for now or permanently? This is the question for which not only the public, but every segment of the real estate industry craves an answer.

Let’s take a look. Is it still worthwhile to own a home today? What are some of the advantages  of home ownership?

    • Having a home is a great tax deduction. Yeah, sure, but that’s a pretty boring reason to go to all the trouble of buying a house unless you’re an accountant. Next.
    • Having a home saves money.  This is what we were all led to believe. All the money spent on the mortgage, repairs, lawn care would all translate into increased equity. Not lately. Do you believe that in the long run home values will go up again? If so, then this could still be true. I, for one, do believe that, eventually, values will go up, but I don’t know when or by how much. This one is kind of shaky.
    • Having a home is a creative outlet.  Well, this one is definitely true. Need to remodel your kitchen or bathroom, do an addition or just paint a bedroom? If you own the home, you get to do it your way even if that includes purple ceilings and green and orange striped walls or no walls at all. Your way is the right way if you own the home. This can be really fun.
    • Having a home is a learning experience. You got that one right, for sure. You will learn all about interesting things like unstopping a  toilet, repairing a leaky roof, getting the doorbell to work, putting up ceiling fans, and installing drywall. This will make you a better, more well-rounded person to boot.
    • Having a home confers prestige. Ever give your address in a store and the clerk asks you: is that an apartment of a house? How proud you will be to say-It’s a house! And, it’s yours.
    • Having a home gives you freedom.  Oh, I know you’re going to quibble and whine how you’re  tied to a giant monkey on your back. But, really, now you can turn the TV or stereo up as loud as you want. You can cook kippers and not worry about the smell. You can smoke if you want. [I hope you don’t want.]

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  • Having a home is good for animals. So many times when you were renting, you couldn’t have a dog or even a cat, sometimes even Iggy the Iguana was persona non grata. Now, you can have a dog or even two dogs, plus a cat(s), rabbits,chickens, snakes, lizards and a whole menagerie as long as you care for them properly. It’s all up to you.
  • Having a home  allows  vegetable and flower gardens. For many, this is a huge plus. If you don’t have your own yard, you have to pay through the nose for organic produce which you can raise at home for peanuts. Plus, roses are beautiful.

Notice how this one is  a double-edged sword, of course, just like many of the reasons for owning a home. Raising flowers or vegetables is a lot of back-breaking work. You have to try it to find out how satisfying it is. Training a dog takes time and attention. Caring for animals costs money and takes time. Most of us find the rewards are worth it kind of like raising kids. Often, the work involved in owning a home is as back-breaking as gardening. You have to want it. Apparently, we still do as 7 out of 10 renters say they are looking forward to buying a house someday.

Housing Takes Another Hit

Just when we think it’s getting better, the news comes out that we are in for a double-dip in housing prices. Last year in 2010 things were starting to look up in many municipalities as sales were brisk and housing prices were even starting to inch up again. This year, though, the situation has turned from hopeful to grim. Now it appears that the price increases of last year were mainly due to the home buyers’ housing credit extended by the U.S. Congress to buoy the market. Buoy it they did, but now we’re in for a let-down. In September of 2010 as the last of the home buyer credit buyers closed on their properties, housing started to slide. Of course, it’s natural for sales of homes to slide  after Halloween and throughout the winter, especially in cold-weather states, but this year’s slide began earlier and lasted longer.

Compounding the problem was the “robo-signing” scandal which halted foreclosures for several months last fall. Regular sales and short sales continued to pile up as inventory on a stagnant market, then the banks resumed their foreclosures. Foreclosures hit at perhaps a more rapid rate as banks rushed to close out their books at the end of the year. Now, at the end of February, here in Southern California we have not only a huge inventory, but I would even characterize it as a glut of properties clogging up the market.

Another issue adding to the misery is the difficulty borrowers are having obtaining financing. After the bailout, as we all know, banks, instead of spreading the wealth around as was intended, instead simply stopped lending.  Belatedly  realizing their folly during the bubble years, banks, always ponderously slow and bureaucratic, finally reacted–by clamping down on lending! Too late, banks. It has been estimated that half the population now has bad credit due to the recession in one form another, either a short sale, foreclosure, bankruptcy, late payments on credit cards  or, at a minimum, too much debt.  Lenders now will not lend to these people

For an analysis of what the near future holds for lending, check out my Pasadena Short Sale Blog. Hint: it’s another downer.

All of these factors have played a part in the current housing glut and consequent stasis. The inevitable result will be–yet lower prices as banks, short sellers and those who must sell for one reason or another, all compete with one another for the few buyers out there.  Already this year, analysts have indicated that the scant 2.25% gain in L.A. housing last year has been wiped out. Some experts are predicting that we are in for another dip of approximately 15%. I am not in the prognostication business, but I can say that it’s not looking good.

Already from 2006-2008 many cities in five states, California, Nevada, Arizona and Florida and Michigan, according to Federal Housing Finance Agency data, have lost significant value in housing. Starting with Stockton, which lost 75% of its housing value in those two years, the dreadful list continues with Modesto at negative 73%, Vallejo negative 64%, Salinas at negative 60%. These are horrible numbers. Imagine losing 75% of the value of your home in just two years through no fault of your own!

The roll of California cities continues with Riverside-San Berdo-Ontario tied with Bakersfield  at negative 47%, Fresno at negative 45%, Sacramento area at 44%, Oxnard-Thousand Oaks at 41%, Santa-Barbara-Santa Maria-Goleta tied with Santa Rosa at negative 40%. The l ist goes on-Oakland area -38%, Santa Ana-Anaheim-Irvine -36%,LA-Long Beach-Glendale -32, San Luis Obispo-Paso Robles -29% and even Santa Cruz-Watsonville lost 29% in two years.

That just us. Of course, Vegas lost 54% of its value in those years and is still hemorrhaging. Reno-Sparks lost 41%; Phoenix-Mesa-Glendale was down 31% and is still falling. Then, like California only worse because it has a less diversified economy, is Florida which was and still is a disaster zone. Cape Coral-Fort Myers lost 60% of its value, followed by Naples-Marco Island at 54%  negative, Ft. Lauderdale -45%, West Palm Beach-Boca Raton down 45% and on and on.

That was the story three years ago. Much as we would like to say it’s getting better, really, it’s not over yet.

 

After December, The Avalanche?

Louis XIV of France, styled the Sun King, famously opined, “Apres moi, le deluge.”  After me, the flood. He was right, of course, for his excesses so infuriated the people that his successor was guillotined and his monarchy overthrown in the French Revolution.

SoCal Plunge In Foreclosure Filings

Something similar seems to be brewing in Southern California and maybe even nationwide as lenders ratchet up their foreclosure filings after the “robo-signing” lull. Though foreclosures dropped dramatically in SoCal this fall, so, too, did all home sales. The reasons seem to be many: the end of the home buyer tax credit, stubbornly high unemployment and the generally still-moribund economy. In fact, sales are down a full 16% from November of 2009. This at the same time foreclosure filings fell 14% from the previous November after a 22% decline in October for a two-month total 36% decline. Nationwide, the filings fell 21%.

December is traditionally a slow month in real estate as consumers focus on retail buying, parties and holiday travel plans. Typically, though, also in December  smart investors are out there snapping up last-minute bargains of the now-extremely motivated sellers still on the market. Competition is almost always much less, to put it mildly, and sellers are determined to close out their books for year’s end.  This year seems to be different as even investors are holding back.

That may be because the huge drop in  foreclosure filings this fall has ominous repercussions for home prices in the new year. With the foreclosure freeze over, informed observers now expect to see the banks ratchet up their foreclosures with a vengeance, restarting filings begun in October and November and barreling ahead with new ones in January. Executives from RealtyTrac, a real estate data collection firm, speculate that the housing recovery could be set back three months, if not more, as the foreclosures pile up. In fact, we can expect ” an avalanche” of foreclosures shortly.

SoCal Home Prices

The most immediate effect of an avalanche of foreclosed properties on the market will be to further depress prices in Southern California which had started a slight upward movement. Los Angeles County home prices had dropped 1.2% over November 2009 to a median of $325,000. Riverside and San Bernardino Counties, the hardest hit by the bursting of the real estate bubble, lost 2.5% and 5.0% respectively to medians of $195,000 and $152,000. But, that is a huge improvement over the 30% and 40% drops of previous years. Other SoCal counties actually gained in value. Orange County eked out a .6% improvement for a $435,000 median home price. San Diego topped the charts with a 3.1% improvement over last year to a median of  $335,000 with Ventura County just behind at 2.7% uptick to a median of $375,000.

Future: More Underwater Homes

These hard-earned gains will soon be lost as the promised avalanche of foreclosures hits the market. Perhaps sales will pick up as buyers and investors are lured back into the game. But, bargain-hunting fun aside,  another price drop for already distressed homeowners will plunge yet more homeowners underwater.  That, in turn, spirals down into more foreclosures and more equity loss in future.

Like Louis XIV, banks see this as well as anyone, yet still refuse to modify loans in any serious way. Like Louis, they see, but, obviously, don’t give a damn as long as they get their bonuses. Short-term is the only term.