Mortgage Loans from Relatives

Occasionally, when dealing with close relatives who might also become heirs, signing a note and handling the paperwork properly may seem like a needless effort but it could mean the difference in being able to take a legitimate interest deduction.

Home mortgage interest is deductible only if the loan is a secured debt which involves the buyer signing an instrument like a mortgage or deed of trust that makes the ownership of the home security for the debt. That instrument must then be recorded or otherwise perfected according to state or local law and the home, in case of default, must be able to satisfy the debt.

In a family situation, a parent, grandparent or other relative may decide to loan a buyer the money to purchase a home because they have it available and it isn’t earning much in certificates of deposit. They offer to loan it for a rate equal to what a conventional lender is charging but without the fees.

While it may appear to be a win-win situation, there could be problems if things are not done correctly. Even if the borrower makes the payments, they are not entitled to an interest deduction unless three criteria are met: 1) sign a debt instrument specifying the terms 2) securing and record the debt properly and 3) the home is sufficient collateral for the loan.

It would be prudent to consult with an attorney before you sign the final settlement papers to be comfortable that both buyer and the lender-relative are complying with IRS regulations. For more information, see IRS Publication 936 – Home Mortgage Interest.

Proof of Purchase

People who experience a property loss are usually asked by their insurance company for proof of purchase which can come in the form of a receipt or current inventory of their personal belongings.

Even the most organized people might find it challenging to find receipts for all the valuables in their home. If the inventory isn’t up-to-date, a homeowner might forget to add some items to the claim and may not recognize the omission for long after the claim is settled.

The inventory can serve as a guide to make sure a homeowner gets compensated for all the loss.

Photographs and videos can be adequate proof that the items belonged to the insured. A series of pictures of the different rooms, closets, cabinets and drawers are helpful. When video is used, consider commenting as it is shot and be sure to go slow enough and close enough to things becoming recorded.

For your convenience, download a Home Inventory, complete it, and save a copy off premise. Good places for your inventory could be a safety deposit box or digitally, in the cloud if you have server-based storage available like Dropbox.

Boomers Are Staying In-Place

There seems to have been an accepted progression for homeowners going from starter home, to gradually moving into one’s dream home, then, downsizing after becoming an empty nester and finally, into a retirement home. However, Marianne Cusato’s 2016 Aging-in-Place Report indicates that many older Americans don’t plan on following that pattern.

61% of homeowners above the age of 55 intend on staying in their homes indefinitely. 2/3 of them believe that the home’s layout will serve their needs without having to make aging-related improvements.

Some of the reasons being cited for staying in place are:

• 66% say their home is conveniently located
• 38% say they live close to their family
• 68% say they feel independent in their home
• 54% say they are familiar with their neighborhood
• 66% say the feel safe in their home

Typical renovations that might be considered for their current home are things like grab bars in the tub or shower, shower seats, taller toilets, handheld showerheads and additional handrails on stairways.

It seems that the report’s conclusion is that regardless of a homeowner’s age, they want to thrive in their home. The same emotional reasons that causes a person to want to buy a home are the things that cause them to hold onto them if is practical.

Attracting Buyers

There is a common body of knowledge among real estate professionals that indicates that the longer a home is on the market, the lower the price will be. Many sellers discount this belief in the beginning because they feel confident their home will sell quickly.

Lowering the price is the most obvious thing that can be done to encourage buyers but it might be good to look at what builders do. Builders offer a variety of incentives such as upgrades, seller-paid closing costs, interest rate buy downs, washers, dryers, refrigerators or big screen TVs.

Interestingly, much of the resale market doesn’t employ these techniques. According to the latest NAR Home Buyers and Sellers Profile, 64% of sellers did not offer any incentives at all.

21% of sellers offer a home warranty. 16% of sellers offered assistance with closing costs and 6% offered credit toward remodeling or repairs. 

The attached chart indicates that while 80% of sellers were not willing to offer incentives in the beginning of their marketing period, as weeks passes and their home hasn’t sold, closer to half did add incentives.

The ideal outcome is to maximize proceeds in the shortest time possible with the fewest unexpected issues. This involves having a firm understanding of current, local market conditions and crafting a marketing plan that will insure results.

There is so much at stake, the value of a trusted real estate professional is essential.

Rent or Buy - You Pay for the House You Occupy

The ironic thing about people who think they can’t afford to buy a home for themselves, end up buying the home for their landlord. There are several facts that support this notion.

Mortgages, whether held by an owner-occupant or an investor, are usually amortized so that each payment reduces the principal amount owed so that the loan will be repaid totally over the term. A tenant is inadvertently retiring the landlord’s mortgage with his monthly rent.

In most cases, the mortgage payment including taxes and insurance will be lower than the rent tenants are paying. Some experts are saying that we may never again experience the incredibly low mortgage interest rates currently available.

Renting precludes a person from enjoying the advantage a home has as a leveraged investment. When the borrowed funds cost less than the investment is returning, the rate of return on the down payment grows much faster. As you can see from the chart, a 2% appreciation on a home could result in big returns on the down payment. In most cases, there are very few or no alternative investments that offer homeowners similar returns.

Even if a buyer agrees with all of these things but doesn’t have the down payment or cannot qualify for a loan, they still need to investigate further. To find out exactly what types of loans are available and the specific down payment required which can be a whole lot less than 20%, they need to consult with an experienced, trusted loan professional (an Internet lender or a “BIG” bank may not be the best choice.) Call for a recommendation.

Facts or Myths

• “It’s impossible to get low down payment loans.” – MYTH!
  FHA down payments are 3.5% and VA is 0%. In some areas, there may be some 0% down payment USDA loans available. FNMA and Freddie Mac have 3% down payment programs.
  
  
• “It takes perfect credit to get a loan.” - MYTH!
  There is a relationship of better rates to better credit but many issues on a credit report can be explained or corrected. The way to know for sure is to speak to a reliable lender.
   
• “If I’ve had a bankruptcy or foreclosure, I can’t qualify.” - MYTH!
  Credit history following a bankruptcy or foreclosure is very important and there can be extenuating circumstances. It only takes a few moments with a reliable lending professional to find out if your individual situation will allow you to qualify for a new mortgage.
  
  
• “Getting pre-approved is expensive.” - MTYH!
  Usually, the only expense to getting pre-approved is the cost of the credit report which could be around $35. The advantage is that you will know that you qualify for a particular mortgage amount.
  
  
• “I should wait to qualify until I find a home.” - MYTH!
  It can take weeks to qualify for a mortgage especially if there are issues that need to be corrected. The best interest rates are only available for the highest credit scores. It is to your advantage to start the qualifying process early in your home search.
  
  
• “All lenders are the same.” - MYTH!
  Reliable lending professionals will explain the entire process before collecting fees, quote fees up-front, have competitive products, do what is necessary to get the loan approved and close at the locked rate and terms. Ask for recommendations from recent borrowers.
  
  
• “Adjustable Rate Mortgages are more expensive than fixed rate mortgages.” - MYTH!
  Adjustable Rate Mortgages can be less expensive than fixed rate mortgages if the buyer’s circumstances warrant it. If a buyer is only going to be in a home for a few years before selling, it can be determined if an ARM loan will result in the lowest way to finance the property. There are many variables and you need to be aware of them before deciding which type of loan to finance your home purchase.
  

Buyers and Sellers need solid information to make good decisions. Call us with your questions or to get a recommendation of a reliable lender who can give you the real facts.

Can 0.5% Really Equal 5%?

Since the election, rates have started going up and it will have a direct effect on the cost of housing. There is a rule of thumb that a ½% change in interest is approximately equal to 5% change in price.

As the interest rates go up, it will cost you more to live in the very same home or to keep the payment the same, you’ll have to buy a lower priced home.

Before rates rise too much, it may be the best time to buy a home whether you’re going to use it for your principal residence or a rental property. Low interest rates and lower prices make housing more affordable.

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Time May Be Running Out

During the Great Recession, some homeowners elected to rent their home rather than sell it for less than it was worth.

IRS tax code allows for a temporary rental of a principal residence without losing the exclusion of capital gain based on some specific time limits. During the five year period ending on the date of the sale, the taxpayer must have:

• Owned the home for at least two years
• Lived in the home as their main home for at least two years
• Ownership and use do not have to be continuous nor occur at the same time

If a home has been rented for more than three years, the owner  will not have lived in it for two of the last five years. So the challenge for homeowners with gain in a rented principal residence that they don’t want to have to recognize is to sell and close the transaction prior to the crucial date.

Assume a person was selling a property which had been rented for 2 ½ years but had previously been their home for over two years. To qualify for the exclusion of capital gain, the home needs to be ready to sell, priced correctly, sold and closed within six months.

All of the gain may not qualify for the exclusion if depreciation has been taken for the period that it was rented. Depreciation is recaptured at a 25% tax rate.

A $200,000 gain in a home could have a $30,000 tax liability. Minimizing or eliminating unnecessary taxes is a legitimate concern and timing is important.

Selling a home for the most money is one thing; maximizing your proceeds is another. For more information, see IRS publication 523 and an example on the IRS website and consult a tax professional. 

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What's That Smell?

Homeowners may be totally unaware that their home has an unpleasant odor. It can be unrecognizable to them but immediately apparent to visitors on entering the home.

Candles, aerosol spray or even chocolate chip cookies can’t get rid of the smell. To eliminate the odor, the source of the smell first has to be removed and then, the affected areas can be treated.

Cigarette smoke is particularly offensive to people.  It is very common for buyers to refuse to even consider looking at a home where smoking is allowed. This odor permeates the air in a home and soaks into carpets, furniture, drapes, clothing and even the building materials like drywall and cabinets.

Pets may be considered part of the family but it is still a problem when the animals are not adequately house-broken. Urine isn’t just absorbed by the carpet but also the padding and in some cases, the subflooring. Sometimes, walls and floors have to be treated and sealed before painting and new floor covering can be installed.

If a casual friend doesn’t want to hurt your feelings about the jeans you’re wearing, you can bet the ranch that they won’t tell you about the odors in your home. You’ll need to rely on your closest friends to tell you the truth or maybe your mother-in-law.

Early Burnout Could be Good

Most of us understand the expression "burning the candle at both ends" to mean working so hard that you burn yourself out. Normally, that wouldn’t be a good idea unless it is intentional.

If the candle is your mortgage and the strategy is to get it paid off early, being “burned out” would be a good thing. One end of the candle would be your regular mortgage payments and the other end would represent additional principal contributions.

Since the Great Recession, lenders have been reporting a higher than normal number of borrowers getting shorter term mortgages not only when they purchase the home originally but when they refinance them also. It seems like the mindset of America’s homeowner has shifted a little from the belief that they will always have a house payment.

The extra $100, $200 or $500 in your checking account isn’t earning interest. Additional principal contributions with your regular payments on a fixed rate mortgage will save interest, build equity and shorten the term of the mortgage.

Wealth management is about making financially wise choices. If having your home paid for by retirement age is one of your goals, making extra contributions regularly could get you there. Use this Equity Accelerator to see how it will affect your loan.

More Equity...More Options

The more equity in your home, the more options you have. Since equity is determined by the difference between value and what is owed on a property, when homes lost value during the Great Recession, homeowners’ equity decreased.

Negative equity occurs when the value is less than the mortgage owed. According to CoreLogic, 91% of all mortgaged properties have equity and only 4.4 million properties remain in negative equity at the end of the second quarter in 2015.

A homeowner, who qualifies, can release part of their equity by refinancing the existing loan and taking out additional cash or by getting a home equity loan. The benefits include:

• To get a lower rate on your current mortgage
• To finance capital improvements on your home
• To payoff higher interest rate debt such as credit cards or student loans
• To purchase items that would not have deductible interest like personal cars, boats, etc.

It could be as simple as waiting for positive home equity so owners can move to another home without having to pay out-of-pocket expenses to sell their home.

At least consider a shorter one

Affordability and stability are reasons homebuyers choose a 30-year fixed rate mortgage. It makes the payment lower than a 15-year mortgage and the principal and interest portion of the payment will be constant for 30 years.

A common belief among homeowners for decades was that they would always have mortgage payment. The Great Recession has caused many individuals to rethink that concept and make plans to get their home paid for sooner.

For people who can afford it, shorter term mortgages will provide a lower interest rate and build equity faster. A 3.09% 15-year fixed-rate mortgage compared to a 3.87% 30-year loan will have a $562.42 higher payment.

The equity would be $66,903.04 greater on the 15-year term at the end of seven years. Even after you consider the higher payment on the shorter term, the equity difference is still almost $20,000 greater.

By choosing a 15-year loan, a borrower is committing to the higher payment for the term of the mortgage in exchange for a slightly lower interest rate. Another approach would be for the borrower to acquire a 30-year mortgage and make payments as if it were on a 15-year term. The slightly higher rate would allow the borrower the flexibility of not having to make the higher payment in the event he could not afford it on any particular month.

Discussion with your Insurance Agent

Insurance and homeowners go together like peanut butter and jelly. Lenders require fire insurance at a minimum for homes with a mortgage but many owners opt for a more comprehensive coverage with a homeowner’s policy.

However, comprehensive doesn’t mean that everything is covered. Filing a claim is not the time to learn that you don’t have the right coverage. Discuss the following issues with your insurance agent to get a better understanding of your policy and whether some adjustments might be in order.

• Flooding?
• Rising water? 
• Mold?
• Earthquakes?
• Pools?
• Termites?
• Certain kinds of pets or breeds of dogs?
• Limits on jewelry and cash?
• Deductible amount?

The whole concept behind buying insurance is to transfer the risk of loss that you cannot afford for an annual premium that you can. Price and coverage need to be considered when comparing policies. Call your agent and make sure you understand what you’re insured for and if there are alternatives available.

Real Cost of Housing

In this example, the down payment of $8,750 grows to almost $94,000 in seven years due to appreciation and amortization of the loan. Owning a home is one of the few investments available that allow these personal and financial benefits.

A variety of factors have led to a shortage of rental units, especially single family homes, and as a result, rents have been steadily increasing nationwide. In most markets, it is considerably less to own than to rent.

In some cases, the total house payment is less than the rent for a similar size and condition home which supports a purchase. However, when you factor in some of the financial benefits like principal reduction, appreciation and tax savings, the difference becomes even more dramatic.

Let’s look at an example of a $250,000 home with 3.5% down payment and a 4.50% mortgage for 30 years. We’ll assume a 3% annual appreciation, 25% federal tax bracket, $1,200 annual maintenance and current rent of $2,100 a month.

The total house payment with property taxes, insurance and mortgage insurance premium would be $1,834 a month. Once the principal reduction, appreciation, tax savings and maintenance have been considered, the net cost of housing is about $673 a month. It costs a tenant over $1,400 more a month to rent than to own which would amount to $17,000 in the first year alone. That’s almost twice as much as the down payment to get into the home.

One of the obstacles in the past five to seven years has been a borrower’s inability to qualify for a mortgage but new programs and relaxed requirements have allowed more people to be eligible for mortgages. The important step is to talk to a trusted mortgage professional very early in the home search process. Your REALTOR® can make recommendations based on experience from actual closed transactions.

Use the Rent vs. Own calculator to see what the benefits might be in your price range.

6 Reasons for Rentals

Rental homes have several distinct advantages compared to alternative investments. These advantages coupled with the opportunity for a higher yield make it a clear choice for some investors.

1. Most investments must be paid for in cash. Stocks can be purchased with 50% cash but if the value goes down, more cash has to be used to keep the margin at 50%. Rentals can readily be financed with only 20-25% down payment.
2. Most loans made for business or investment purposes are at a floating interest rate compared to the prevalent fixed-rate mortgage on non-owner occupied real estate.
3. Terms for investment loans if possible are generally six months to a year with a possible renewal but real estate commonly has long term loans up to 30 years.
4. Real estate has a long-term history of appreciation.
5. Real estate enjoys tax advantages like long-term capital gains treatment, cost recovery and tax deferred exchanges that are not available to many other types of investments.
6. Single family homes and similar properties give the investor a reasonable amount of control to make improvements and manage the property which are limited to simply determining when to buy and sell for other investments.

The ins and outs of stocks, bonds, mutual funds, commodities and other investments are unfamiliar with most people. It is obviously possible for anyone to invest in them but the lack of knowledge about how they work could make it more difficult to have a successful outcome. On the other hand, homeowners can use their experiences to select, manage and sell with much more confidence using a single family home for rental purposes.
To find out more about investing in rental properties, contact your real estate professional.

Your Best Investment

According to a Federal Reserve report on Consumer Finances, homeowners' net worth is 36 times greater than that of renters. Building on that study, the National Association of REALTORS® believes that by the end of 2015, the factor will grow to 41 times greater.

There can be several factors that contribute to this disparity but an important one is the forced savings that is achieved due to an amortized mortgage. A portion of the payment goes to the reduction of the principal balance of the mortgage which increases equity in the home.

Appreciation is also a major contributor to homeowners’ equity. Homes, in most areas, have consistently increased in value over the long term and during the past four years have experienced solid growth. Many economists expect home prices to increase in the next five years.

Let’s look at a scenario where a qualified buyer considers three different options to see what their investment would be in five years: purchase a certificate of deposit, invest in the stock market or buy a home. The following assumptions are made: a $250,000 home with an $8,750 down payment with a 4.5% mortgage for 30 years and 3% annual appreciation; CD rate at 2% and a 5% return in the stock market.

The $8,750 would grow to $9,661 in the certificate of deposit, to $11,167 in the stock market and to $69,900 in equity with a home purchase. That is over a six times growth in the same period of time due to the amortization of the loan and the appreciation.

Check out Your Best Investment to compare possible differences in your price range.

The Cost of Co-Signing

It seems fairly innocuous; a friend or family member wants you to co-sign on a loan because they don’t qualify. They assure that they’ll make the payments; they’re quite convincing and very appreciative. You don’t want to disappoint them and after all, it’s not like it’s going to cost you anything…is it?

Think of it this way. They couldn’t get a loan unless you co-sign for them. If they don't make the payments, the lender is going to look to you to repay the loan plus late and collection fees. The lender may be able to sue you, file a lien on your home or garnish your wages.

And it’s not just money that you could be losing, it could be your credit too. Co-signing a loan is a contingent liability that could affect your debt-to-income ratio and your ability to borrow.

Co-signing is an obligation to repay the debt if the other signer is unable. You could be out the money and unable to recoup the loss because you don’t have control of the asset. The impact on your credit could take years to recover.

Before you obligate yourself, consider all of the ramifications involved in co-signing a loan for someone.

Finding the Best Mortgage

As rates are inching up but still very affordable, buyers should remember that there is an alternative to a fixed rate mortgage that can provide the lowest cost of housing for the homeowners who understand the parameters.

A $300,000 fixed-rate mortgage at 4% has a principal and interest payment of $1,432.25 per month for the entire 30 year term. A 5/1 adjustable mortgage at 3% has a $167.43 lower payment for the first five years and then, can adjust, up or down, based on a predetermined index.

Another interesting fact is that the unpaid balance on the ARM at the end of the first five years is $4,624 lower than the fixed-rate mortgage. The total savings in the first five years on the ARM is $14,669.00.

Adjustable rate mortgages are not the right choice for everyone but buyers should at least consider the options based on their individual situation. It could be an obvious choice for a buyer who is only going to be in the home for five years or less.

Use the ARM Comparison worksheet to see what possible savings you could have based on your actual numbers. A trusted mortgage professional can help you to understand the advantages and disadvantages based on your situation. You need the facts to make the best decision.

Cut Mortgage Insurance

Making additional payments toward the principal of your mortgage will do three things for the homeowner: save interest, build equity and shorten the term on fixed rate mortgages.

These things should be beneficial enough to justify the extra payments but another huge advantage is available to those who have private mortgage insurance on their loan. Mortgage insurance rates vary but can range from seventy-five to two hundred dollars a month on a $200,000 mortgage.

Lenders are required to automatically terminate mortgage insurance when the principal balance reaches 78% of the original value of the property. It is important for homeowners to monitor their balance because sometimes lenders may inadvertently fail to terminate the coverage.

Mortgage insurance is a necessary but expensive requirement for many people who are limited to a down payment of less than 20%. Eliminating the need for it can save thousands of dollars over time.
The Consumer Financial Protection Bureau, CFPB, issued a compliance bulletin on August 4, 2015.

Lower the Rate & Deduct the Interest

A home can easily be a person’s largest personal asset and it can be a powerful tool to increase financial stability also.

Since most mortgages are amortizing, the loan becomes a forced savings account that reduces the unpaid balance with each payment. The equity could be used to improve a homeowner's financial position involving other loans.

While every homeowner recognizes that they can deduct the interest paid on their mortgage, it is surprising how many don’t know that they can write-off the interest on up to $100,000 of home equity debt assuming there is sufficient equity in the home.

The real advantage to a homeowner is that the money borrowed can be used for any purpose and the interest is still deductible. Homeowners could payoff high-interest rate credit card debt or student loans with a considerably lower rate on a mortgage and deduct the interest on the home-equity debt.

Replacing debt with lower rate loans that have deductible interest can be a strategic decision to financial stability and a debt-free environment. A trusted mortgage professional can help you analyze your individual situation to determine if it would be better to refinance with a cash-out first-mortgage or a dedicated home equity loan.