What propositions are on the California ballot that impact real estate?

Question of the week:  What propositions are on the California ballot that impact real estate?

Answer:  There are three propositions on the statewide ballot for California that have a direct impact on real estate. Here is a very brief summation of each and my position as to “yes” or “no” on each:

Proposition 15: Dennis says “NO.”

The California Schools and Local Communities Funding Act of 2020  

This is proposition will fundamentally change the protections to property owners as established by Proposition 13 in 1978 by creating a “split-roll” whereby commercial property is assessed in a different manner than residential property. Under current law property taxes are established when a property is sold, with the purchase price being the tax basis. Prop 13 eliminated the reassessment of property on a regular basis to new market values to prevent property owners from being taxed out of ownership of their homes and businesses by limiting increases in property taxes to 2% of the assessed value per year. If you purchased a property for $100,000 and the market value increases 3%, your assessed value will only rise to $102,000.

Prop 15 will eliminate the reassessment model for commercial properties and they will be re-assessed based on estimated market value every two years starting in 2023. If a property is a mixed use of residential and commercial the percentage of the property that is commercial will be reassessed under the new rules and the residential will retain the 2% per year cap.

Proponents of Prop 15 are framing this as a tax on corporations—a euphemism for ultra-wealthy organizations and individuals. As is typical in these sorts of matters, and most propositions in my opinion, is either a willful ignoring of consequences or an inability to understand consequences.

This proposition, if passed, will create a tremendous burden for businesses, not just large as are being targeted in marketing and advertising by the pro-Prop 15 advocates, but small and medium size businesses as well. How?

The overwhelming majority of commercial leases in California are “triple-net” leases. In a triple net lease, the tenant pays all the expenses of the property, which besides maintenance and insurance on the building also includes property taxes. If property taxes go up, so too does the rent the tenant is paying. Think of your local neighborhood, think of the buildings you see when you drive to the freeway. On major thoroughfares you will see practically every lot developed for commercial purposes. Be it high-rise or low-rise, store front or strip mall, the vast majority of the tenants are small and medium size businesses. Sole proprietorships are the largest business segment in California, almost 75% of businesses in California, small businesses, those with less than 20 employees, consist of almost 90% of the remaining businesses if sole proprietorships are taken out of the equation.

 When the property owner of a strip mall, an office building, a store front, sees the tax basis for their property increase from $750,000 to $2,500,000 million and the state’s portion of the property taxes increase from $7500 per year to $25,000 per year, this increase will be paid by the tenants of that building. The majority of which are small businesses.

What will small businesses do? Pass the costs onto consumers through higher costs for their goods and/or services. If the consumers decide not to pay the costs and take their business elsewhere then the business likely closes down.

The estimate for the additional tax burden to commercial tenants in California due to Prop 15 is between $8-$12.5 billion by 2025. That is $8-$12.5 billion commercial tenants will have to pay to retain their leases. That is $8-$12.5 billion more consumers will have to pay for goods and services for living in California.

Prop 13 is not perfect and can use some modifications, Prop 15 is not a modification but a complete restructure that puts a huge tax burden on small businesses and consumers. On top of other costs that have been added to businesses in California in recent years, this could be the final straw for many barely hanging on.

Funds generated by Prop 15 are slated to go to schools and local governments, which is why we are seeing so many ads that are sponsored by the teacher and public employee unions—who always support tax measures that put more money in public coffers. Remember, in the end all taxes are paid from the private sector, slating the funds for education and public spending puts more and more burdens on the private sector to pay for public spending that has grown without control for the past few decades.

Vote No on Prop 15.

PROPOSITION 19: Dennis says vote “Yes.”

Property Tax Transfers, Exemptions, and Revenue for Wildfire Agencies and Counties Amendment (2020)

 Prop 19 is the result of the, deserved, failure of Prop 5 to pass in 2016, for which I endorsed a No vote and was glad it failed. Proposition 19, if passed, will create new exemption, and modify or eliminate some existing exemptions for property transfers.

Currently under Prop 13 parents and grandparents can transfer property they own to their children and grandchildren with either no, or limited, change to the current property tax basis. Currently primary residences can be transferred to the next generation with no change in the tax basis; transfers of vacation homes and business properties can be transferred with an exemption of the first $1 million exempt from reassessment. This clause in Prop 13 has enabled the transfer of billions of dollars, perhaps hundreds of billions, in real estate to be transferred to next generations since 1978 with no change in tax basis for the property.

For instance, your parents have owned the home you were born in since 1985, when they purchased it for $185,000. They are moving to a smaller home in the desert and you work out a transfer whereby you obtain a loan and pay them with the proceeds. The property is worth $800,000. Their tax basis on the property is about $425,000, therefore the property is $4250 for the current year. If you purchased the home on the open market your tax basis would be $800,000 and annual property tax would be $8000. You save $3750 in taxes the first year and more every year moving forward as your maximum assessed value can only be 2% per year from the $425,000 assessed value as opposed to the $800,000 market value.

The recipient of the transfer need not occupy the property for the benefit of the Prop 13 transfer rule to apply. If in the above scenario you convert the home to a rental or second home the exemption applies because it was your parents’ primary residence.

Note that this same transfer can occur through the distribution of assets via a trust if the parents, or grandparents, have passed away and the trust is being settled.

If Prop 19 passes the property transferred to, or inherited by, children or grandchildren will only retain the current exemption for reassessment if the property is used as the recipient’s primary residence, or if the property is a farm. If the property has a value in excess of $1 million of the current taxable value (assessed value). If this is the case there will be an adjustment to the tax basis, but not as much as if it were transferred on the open market.

Another provision in which Prop 19 alters current property tax code is expanding the provisions of Props 60 and 90. Under current rules if homeowner over 55 sells their current residence and purchases a new residence of lower value the homeowner can transfer their current tax base to their new home. The portability of the current tax base is limited as only a few counties in the state allow those otherwise eligible to transfer their current tax base into their county (i.e. homeowner selling Orange County could not transfer tax to new home in Shasta County). As well the current laws allow only a one-time transfer.

Altering Props 60 and 90 were the basis for 2016’s Prop 5. This second bite of the apple sponsored by the California Association of Realtors gets it right. Under the provisions of Prop 19 the carrying of the current tax base for homeowners of 55, those with severe disabilities, and victims of natural disasters anywhere in the state. If the new home is more expensive home than the sale of their current home there will be an adjustment in the assessment to account for the higher value, but it would be less than if the current basis could not be carried to the new property. As well, the one-time transfer increases to the ability to transfer the tax basis three times. This assists those who sold a property due to divorce, or for those widowed after a prior transfer.

I have had some interesting conversations with financial advisors, attorneys and accounts regarding my support for Prop 19 due to the changes in the way generational transfers are subject to changes in tax basis. However, I feel the intent of Proposition 13 in 1978 was to protect homeowners as they aged to be able to retain their homes, not provide next generations with tremendous tax breaks.

It should be noted those in opposition to Prop 19 (such as the LA Times editorial board) label the proposition as a gift to the real estate industry as it will result in more sales, and therefore more commissions. As mentioned above, the inability to see or admit to knowing consequences is endemic to much (most) political discourse. If Prop 19 leads to more property sales, not transfers but sales on the open market, if will also lead to higher tax revenues for the state. Consider the example above whereby your parents transfer the family home to you. If you move in the tax basis remains. However, if you rent the property the tax basis increases. If after discussing it with you spouse or significant other and decide you do not want the property, it is sold and the tax basis goes from $425,000 to $800,000 an increase of $375 per year for the state, and incrementally for the county.

If you parents sell the property and transfer the tax basis to their new property they purchased in Palm Desert for $500,000, under Prop 19 the tax basis is $425,000 plus an incremental adjustment for purchasing a higher priced home resulting in a higher tax basis than under current policy.

It should be noted proceeds generated from increase in tax collection from Prop 19 will be split between a two funds the measure would create, the California Fire Response Fund and County Revenue Protection Fund. The fire response fund would, as stated, provide funds for responding to fires in California. The county revenue protection fund would be used to reimburse counties for revenue losses related to property tax changes.

Vote Yes on Prop 19.

Proposition 21: Dennis says vote “No.”

Local Rent Control Initiative

Prop 21 is meant to replace the Costa-Hawkins Rental Housing Act of 1995 by changing the policies by which local governments can adopt rent control for residential housing.

Under Costa-Hawkins rent control could be enacted except on a) housing that was first occupied after February 1, 1995, and b) housing units that are titled as condos, townhomes, and single-family homes (i.e. single family properties). When a tenant moves out of a rent controlled property the landlord can put the unit on the market at market rates.

If Prop 21 is passed rent control can be enacted by local governments except on a) housing that was first occupied within the past 15 years and b) units owned by natural persons (i.e. not corporations or LLC’s) who own no more than two housing units with separate titles, such as single-family homes, condos, and some duplexes, or subdivided interests such as stock cooperatives and community apartment projects.

Very importantly, if passed Prop 21 will require local governments that enact rent control to allow rental increases of no more than 15% over the first three years following a vacancy. Essentially eliminating the ability for the landlord to adjust a unit to market rent and due to the rate limits for the next three years to possibility of the unit’s rent to increase to market rent.

Rent control only benefit those who are currently renting. This is known by those who craft rent control rules, as evidenced of the cap on future rents written into Prop 19. By deflating the future rents of units and expanding the number of properties that will be subject to rent control, Prop 19 will severely devalue the value of residential investment properties and create disincentives for landlords to maintain properties over a prolonged period.

As costs to maintain properties increase, along with taxes, insurance and other costs, at a much faster rate than rents that will stagnate, rental property owners will have to cut costs to continue to meet fixed costs for mortgages and expenses mentioned above. If they wish to sell their property(s) due to rents covering less of their expenses they will find their property value is negatively impacted as any buyer will have the same expenses, likely higher due to tax basis and mortgage increases, and revenue.

Prop 21, like most rent control policies is short-sighted and garners attention and support due to the emotional appeal guised as “affordable housing,” and having “wealthy landlords” subsidize affordable housing. When in fact areas with rent control have seen greater increases in rents than nearby locales without rent control due to a scarcity of available units. As for “wealthy landlords,” the vast majority of rental housing in California is owned by individuals and couples who subsidize other income with their rentals.

Vote NO on Proposition 21.

Have a question? Ask me!

Spending up, incomes down, in August was the news from the Commerce department. For the fourth month in a row consumer spending rose in August. The 1% month over month increase is at a much lower rate than prior months, since consumer spending is 65-70% of our economy the low growth concerning for the future. The 2.7% drop in income was mostly due to the expiration of the additional $600 jobless stipend. In an interesting twist in economics, data and labeling, those with jobs saw salaries and wages increase in August, but the overall income still dropped.

Savings dipped in August as consumers dipped into their savings account to support their spending, but the overall savings rate of 14.1% is still almost twice as high as it was pre-pandemic. It should be noted that the consumer spending rate is about 4% lower than it was pre-pandemic.

Rates for Friday October 2, 2020: Very little is moving the rate markets as investors have priced in deteriorating economic news, lack of stimulus from Washington before the election, and their forecasts for the future. Propped up by the Fed continuing to purchase mortgages and Treasury debt, rate markets continue to be very stable and the outlook is more of the same. For those asking, “will rates go lower?” the answer is pointing to “Don’t count on it” from myself, and my Magic 8-Ball.

Please note rates are for purchase transactions, refinance rates are higher, please call for quotes to meet your situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS FOR PURCHASE TRANSACTIONS:

30 year conforming                                            2.75%      Flat

30 year high-balance conforming                   3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

For those who have paid very close attention over the years you know that since we just celebrated our oldest daughter’s 21st birthday a few weeks ago it must mean that Stratis Financial has also turned 21, which happened on Tuesday.

Twenty-one years of helping thousands of families become homeowners and manage their primary debt obligations through tactical refinancing. Twenty-one years of having great business partners with the lenders we work with to ensure quality service and products for our clients. Twenty-one years of tremendous support for our referral-based business from past clients and professionals in the real estate, accounting, legal, financial services and other industries.

Most importantly, twenty-one years of working with the best professionals in the mortgage industry who provide tremendous experience, wisdom, skills and integrity to our company every day to ensure our clients receive excellent service and products. Plus, they are all great people that enjoy being together! The hardest part of the pandemic has not been working from home almost every day, but not being able to see the great crew in the office on a daily basis.

Thank you to everyone who has enabled Stratis Financial to have twenty-one wonderful years!

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

With the low rates, should we take out some cash for use later?

Question of the week:  With rates so low we should we take out some cash with a new mortgage now for use later?

Answer:  This has been a popular question lately and as with many Questions of the Week there are multiple answers depending on your situation. As well the question is best answered using more follow up questions.

When will you need the money? Is there a definite timing for using the money? One client is considering accessing equity today for future college costs, which will start in 2-3 years. Another is planning on extensive remodel for their home beginning early next year or in the spring. Yet another is looking for JIC money—Just In Case—and may never need the money to cover a potential emergency or major expense such as a new roof or plumbing work.

What is your current mortgage? Is the rate on your current mortgage as low or lower than the current rate you can obtain with a cash-out refinance? Will taking the cash-out push your mortgage balance over one of the tiers that increase rates/pricing (either $510,400 or $765,600)? Do you have a primary mortgage and a second or equity line?

What is your home’s value? After the refinance and increasing your loan balance what will your loan-to-value be? One of the primary factors in the rate/price of your refinance are what will the loan-to-value be. Rates are higher if you are funding a cash-out refinance as opposed to a rate and term refinance (just lowering, or fixing, the interest rate and payment on your mortgage). The higher the loan to value the higher the rate. For example, the rate for a cash-out refinance can be up to 1% higher in certain circumstances for a loan-to-value at 80% of your homes value as opposed to 60% loan-to-value.

If someone has a delayed need for the funds from a cash-out refinance my typical advice for them is to wait until they have more immediate use for the funds, see what long term mortgage rates are at that time and if it makes sense to do a cash-out refinance at that time; or perhaps an equity line of credit (HELOC) may be a better solution for them. Depending on your current rate, refinance now to lower your primary mortgage payment and save money until that time comes. If you pull funds out now that you will probably not use in two or more years, or ever, then consider the additional interest costs during that period for funds you have sitting in the bank.

Over the years, and especially lately, we have funded many refinances for families consolidating their outstanding HELOCs and their mortgages into a new loan that lowers their total payment and fixes the rate on their HELOC by eliminating it. Due to HELOCs having an adjustable rate, many families want to eliminate future rate risk with their equity lines and pay them off with a low fixed rate loan. This can be a difficult decision for many as the Prime Rate (basis for HELOC rates) is very low right, as well the minimum payment on many HELOCs is interest only; which means in some cases refinancing and paying off a HELOC may result in a higher payment since the new loan will be paying principal and interest on the amount of the mortgage that was interest only.

Some people are uncomfortable not knowing what their borrowing costs may be in the future and since rates are so low would rather take advantage of historic low rates to obtain the funds they will need at a future date, pay the interest on the unused money to avoid future rate risk. The math may show they end up paying more for the funds in the long run even with higher interest rates in the future, but that is what they are comfortable doing.

Everyone’s situation is slightly different, and everyone has their own comfort level with current stability versus future risk. Depending on your situation, when and for what you need the additional funds and your comfort level for future rate risk a cash-out refinance today may be a good move, otherwise perhaps just lower your rate and payment today and tackle the cash-out issue in the future when the funds are needed.

Keep in mind, even with rates at historic lows, the rates on refinances are higher than they are for purchases, and cash-out refinance are higher still. So while the rates are still very low, the rate to accomplish your objective by pulling cash out of your home will be higher than a rate and term refinance and a purchase mortgage.

Give me a call to assess your situation and needs and find the program that matches best for you.

Have a question? Ask me!

Rates for Friday September 25, 2020: Not a lot of economic this week that influenced rates. Markets have been a bit jittery as investors watch Congress to see if another stimulus bill can be agreed to by the two parties ahead of the election—or possibly before the 166th Congress adjourns and new members are sworn into office in January.

Please note rates are for purchase transactions, refinance rates are higher, please call for quotes to meet your situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS FOR PURCHASE TRANSACTIONS:

30 year conforming                                            2.75%      Flat

30 year high-balance conforming                   3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

Now that Fall is upon us, the Covid-19 pandemic policies have officially been in effect for four seasons, having started in mid-March before Winter turned into Spring. The more entrenched a new behavior becomes the harder it is to return to prior behavior, or change again to another behavior. When the pandemic is over, and it will be over, what behaviors will be retained by each of us and society as a whole? What will you, me, us, do better as a result of the pandemic? What changes will we have accepted that make our lives a little less better than they were prior to the pandemic?

For many months the topic was how businesses will be adapting and having more of their employees working from home/off-site. Lately there have been many articles and commentaries about how many businesses will want most, or all, of their employees back as they have seen a decline in productivity, they attribute to the remote work environment. It should be noted nothing I have read has been able to correlate the decline to the atmosphere of the remote environment including kids at home going to school—which reduces everyone’s productivity including the students.

What adaptions in behavior have you made that will remain post-pandemic? How will you assess what you need for your “normal” once the economy and society open back up?

Deep thoughts for a beautiful semi-summer/semi-Southern California autumn Friday.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

Should we get solar energy for our home?

Question of the week:  Should we get solar energy for our home?

Answer:  I covered this subject last June (Any concerns we should have with solar for our home) and personal experience has led to this week’s question. Last summer I addressed the question framed from the lens of how solar panel acquisition methods impacted the ability to obtain a mortgage for someone buying your home, or if you are refinancing. Today I am addressing the question as a shopper in the solar market.

As I mentioned last June, there are three options for converting your home’s electricity supply from the local utility to solar panels, either purchasing the panels, leasing them or entering into a Power Purchasing Agreement (PPA).

If you purchase solar panels it makes transferring the panels easier if you sell your home, as well as no issues with a new loan. If you lease the panels there is a decision to be made when the lease is up—retain the panels and pay a buy-out fee (similar to a car lease) or turn the panels back in, in which case a company contracted by the leasing company will remove them from your roof. If you enter into a PPA with a provider you will pay a monthly fee for the electricity you use and the company that owns the panels will receive any tax breaks or other incentives. All three are covered in more detail in last June’s WR&MU.

A primary question most homeowner’s have before deciding to go solar is how to pay for them,  lease, get an equity line, finance through solar company, or pay cash. One option is the HERO program (covered in the June 17, 2016 WR&MU). This program uses your tax bill to finance the energy efficient renovations to your home. Instead of paying monthly you pay twice a year when your tax payments are due (if you have your taxes paid by your lender then you would be paying monthly as part of your mortgage payment). There are a lot of pitfalls with the HERO program that I outlined in June 2016 that, in my opinion, make it a very unattractive option for homeowners.

To the question, should we solar energy for our home? It is a question Leslie and I have pondered for many years and have sat through different meetings with potential providers. There are a few reasons that have had us considering solar panels, and honestly, they have all been financially related and being more dependent on clean energy is way down the list.

California law requires electrical providers to 100% of their energy from renewable sources by 2045. To reach the goal the utilities must have 60% of their energy from renewable sources by 2030.

As we have seen this summer, California’s electrical infrastructure is insufficient to meet the demands of residential, industrial and commercial users. As a result, the state imports approximately one-third of its electricity from other states, some of it generated from renewable sources and some from fossil fuel sources. During the rolling blackouts in August the cost of electricity to utility companies spiked tremendously, mainly due to the cost of the imported supply.

Looking ahead, the cost of electricity in the state will climb well above the rate of inflation as the utility companies convert more of their generation from coal, oil and natural gas to wind, hydro and solar sources. Because of the inconsistent nature of renewable energy sources, the state will continue to be very dependent on importing energy from other states, leading to higher costs as they bid for the electricity from the Northwest, Southwest and beyond.

The result will be higher prices for consumers, and likely less reliability as “home-grown” power declines as a percentage of supply.

Another financial consideration for us is the cost of comfort. Our home was built in 1936 and none of the owners decided to install air conditioning. For several years Leslie and I have considered it, but decided not until/if we take ourselves off, or mostly off, the electrical grid and install solar panels.

Finally, if we can begin installation in 2020 we will receive a credit against our federal income taxes of 26% of the total cost and installation, if we do not start until 2021 the credit is 21%. This is a direct credit against your tax liability, not a deduction from your income, which means it reduces the taxes owed for the year dollar-for-dollar. For instance if your income taxes for the year are $25,000 and your solar installation costs $15,000 your taxes for the year are lowered by $3900 (15,000 x 26%) to $21,000 (25,000-3900).

To recap, our decision is based on eliminating constantly rising electrical costs, reducing/eliminating the cost to air condition our home and having 22-26% of the cost paid for through the tax credit.

I bring this up this week because later today we are getting a presentation from a company that Southern California Edison has contracted with to work with customers who are interested in converting to solar power. The company analyzes our home and energy usage, designs a solar plan and then puts it out to bid to registered contractors. They then go through the bids with the consumer to look at the options for they system, costs, financing and installation.

Essentially the company is a broker for solar customers, what I do for mortgage clients, doing all the heavy lifting and making it easier to review options. Should there be an issue they are our advocates with the contractor/installer of the system.

As mentioned, we are in the process and have another meeting this afternoon to go through our options. As, if, whether we progress I will keep the WR&MU informed as to how it is going, and why we finally decided to, or not to, install solar at this time.

I am a big believer in California homeowners purchasing solar systems for their homes based on what the future of energy acquisition looks like in the state. In the past we have put off converting due to the costs and the time frame to recoup our expenses, it appears the gap has narrowed.

Finally, while in the current market adding solar panels does not have a large impact on the value of a home, it is my opinion that in the future they could have a higher added value as energy costs climb.

Have a question? Ask me!

Wednesday provided a lot of information for investors to digest. Early in the day retail sales data for August was released. Total sales increased 0.6% from July, and it was the third month in a row that retail sales increased. Looking ahead there is some concern about sales continuing to rebound following the sharp drop when the economy closed down in March due to the discontinuation of the additional monthly funds the government was providing those collecting unemployment payments.

Headlining Thursday morning business sections was not the retail sales numbers but the reporting of comments from Federal Reserve Chairman Jerome Powell that the Fed would very likely keep its benchmark interest rate near zero through 2023. In making the statement the Fed was also acknowledging that it feels the economy will not have extend periods of time of inflation over 2% for the next three plus years. As well, the Fed will continue to purchase at least $120 billion per month of U.S. Treasury debt and mortgage backed securities from Fannie Mae and Freddie Mac. On the face of it, the news would appear to be mortgage market friendly. In reality, investors’ reactions have put upward pressure on rates as the uncertainty of the value of their holdings in the future should the economy experience a surge in growth when a vaccine is widely available, the economy opens back up in a large way and inflation erodes the value of the very low interest rate bonds and mortgages they hold.

The refinance fee imposed by Fannie and Freddie has been priced into rates by lenders this week. You may recall the half-point fee (0.5% of the loan amount) was announced in August with an effective date of September 1st, and was subsequently delayed to December 1st. With the current state of the industry and lengthy pipelines to get through the process, most refinances being locked at application have the fee priced in.

Rates for Friday September 18, 2020: Rates are holding on to remain flat from last Friday, despite a lot of pressure to go higher. There appears to be little flexibility in the market for rates to drop any further and we could be ready to bounce out of the range we have been for the past four weeks.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS FOR PURCHASE TRANSACTIONS:

30 year conforming                                            2.75%      Flat

30 year high-balance conforming                 3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

This weekend is a lot different than we thought it would be in February. Way back then our plans were for Leslie to travel to Boston to visit our oldest at Boston University and celebrate her 21st birthday tomorrow. From there she would fly to Seattle, joining our younger daughter and me, to help her move into her dorm and settle in at the University of Washington. More likely would be me getting in the way and underfoot, and asking “what do you need that for? Why don’t you get one of these? Anyone else hungry?”

Massachusetts has a quarantine order for travelers from California, so Leslie is staying home. We have given Blaire the green light to use the credit card to take as many of her friends as allowed under the restaurant restrictions in Boston to a nice dinner (Italian in the North End) and will raise a toast to her very socially distant.

Like most schools UW announced in the summer that 90% of their classes would be on-line, and strict social distancing. Our younger daughter made the decision to forego enrolling for several reasons, among them the cost to sit in a dorm room with a stranger watching lectures on a screen and an inability to enjoy the college experience and meet other students and engage in the multitude of activities they should be enjoying.

So instead of planes, hotels, hugs, and saying congratulations and good-byes, Jenna, Leslie and I will have a somewhat quiet weekend at home grateful for everyone’s health and adaptability.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

Are you licensed?

Question of the week:  Are you licensed?

Answer:  Yes, I am licensed and so is Stratis Financial.

Residential lenders and loan originators in California have to be licensed by either the California Department of Real Estate or California Department of Business Oversight. As well, both companies and individuals must also be licensed by the Nationwide Mortgage Licensing System.

Stratis Financial, and all originators working at Stratis Financial is licensed in California by the Department of Real Estate (DRE). Under DRE regulations there are two types of licenses, a broker license or a salesperson license.

Every real estate company, and other entities like mortgage companies, in the State of California must have an individual with a broker license who is the “Designated Officer.” This individual is responsible for ensuring the company and the licensees working for the company adhere to policies and regulations. The DRE uses this method of supervision under the theory that an individual with their own license at risk and the possibility of penalties and fines will be more diligent in ensuring the company is operating within the rules and regulations than a non-person corporate entity.

Individuals with a salesperson license cannot work independently and must register their license under a broker license, the Designated Officer. An individual with a broker license can work independently, work for a company for which another individual with a broker license is the DE, or be a DE themselves.

In 2008 the Secure and Fair Enforcement for Mortgage Licensing Act (the S.A.F.E. Act) was passed. This Act required mortgage loan originators (MLOs) and the companies they worked for to be registered nationally. As well, it required states to pass legislation requiring MLOs to be licensed according to national standards. All state agencies that licensed MLOs had to participate in the Nationwide Mortgage Licensing System (NMLS).

By 2011 all individuals participating in originating mortgages with consumers had to be registered with the NMLS. Most MLOs were required to pass an exam to be registered (exempt from the exam were those working for insured depository institutions regulated by one of the alphabet banking regulators (OCC, OTS, FDIC, NCUA for example).

As part of the NMLS regulations, all MLOs who are non-exempt must complete eight hours of continuing education every year to remain registered in the system.

When the S.A.F.E. Act passed requiring an exam for entry into the mortgage business I was mostly happy—only mostly because of the carve out from the exam for those working for major banks and other institutions. I was happy because the NMLS exam was significantly harder than the exam required by the Department of Real Estate to obtain a salesperson or broker license. I was happy because a lot of individuals who should not have been in the mortgage industry opted out of the exam and registration. I was happy because no longer could a bad actor in the mortgage industry move from jurisdiction to jurisdiction when they had a license suspended or revoked.

It is my desire to see something similar be put in place for real estate agents and brokers so those responsible for the listing and selling of families’ primary assets also have a more rigorous process for obtaining licensing, are nationally registered and have stricter consequences for malfeasant behavior and actions.

If you are interested in seeing if someone is appropriately licensed, have any disciplinary actions on their records or other information, the NMLS has a consumer access website where licensees can be looked up by name or license.

Have a question? Ask me!

Prices rebounding, that is the take away from data released this week on wholesale and consumer price reports. The Consumer Price Index was up 0.4% in August, the third month in a row showing increases for consumer good and services. Leading the way was a surge in prices for used cars and trucks—the largest increase in fifty years.

Rates for Friday September 11, 2020: We are seeing some reaction in the fixed-income markets, i.e. bonds and mortgages, to economic data. After a dip early in the week when tech stocks sold off, mortgage rates bounced back up after data on jobs and prices. Could we see rates start to move up? Possibly. Note that it appears lenders are slowly starting to price in the refinance fee that starts on loans funding on or after December 1st for conforming and high-balance conforming (Fannie Mae and Freddie Mac) mortgages.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.75%      Flat

30 year high-balance conforming                    3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

The topic of licensing came up in a conversation with a client who wanted to meet (virtually) today. I told her I could not because I will be in a webinar all day to complete my required continuing education. So as you read this I will be staring at me screen and having great empathy for students across the country who have to do what I am doing every day…

I am hoping, as I am sure you are as well, that by next Friday’s Weekly Rate & Market Update the fires are out, the smoke is cleared and the men and women fighting the wildfires are home safe.

Here again is a link if you wish to donate to the Red Cross Disaster Relief Fund, if you are able please click and donate—every little bit matters as the Red Cross is facing incredible challenges with finding shelter for displaced families amidst the Covid-19 pandemic.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

What if the appraised value is less than our purchase price?

Question of the week:  What if the appraised value is less than our purchase price?

Answer:  With the current condition of real estate market in Southern California being what it is, this is a question asked very frequently by home buyers. It is also a topic we cover every year or so in the WR&MU, for those familiar with the process you may want to fast forward.

Playa Vista, Bixby Knolls, Corona, Hawthorne, Alamitos Heights, Cerritos, La Mirada, Palm Desert, from $300,000 condos to $1.6 million bungalows, home buyers are finding themselves in bidding wars. The supply was tight in many Southern California markets before the pandemic, and it is even tighter today as buyers are flooding the markets.

Earlier in the week I was working with a client and their agent writing an offer to buy a second home in La Quinta. The agent said, “we are writing an offer and there are two offers already in on the property.”

“I’m glad one of my clients is only going up against two other offers instead of five, six, seven, ten…” I replied.

“It’s only been on the MLS for a few hours.”

Instead of sending counter-offers to buyers’ offers with a specific price, sellers are sending the message, “send us your best and final offer.” The results are purchase prices being well above the listing price on most properties that originally went to market listed right at, or just above, the most recent sales.

With each home sold at a higher price than the last, buyers, sellers and agents are naturally nervous about appraisals and the values as determined by appraisers.

Before we look at what happens if an appraisal has a value lower than the subject property’s sales price, let’s take a quick look at the report itself.

Appraisals are almost solely used for transactions where the buyer is obtaining a loan to finance the purchase a property. Some buyers purchasing with all cash will obtain an appraisal, but it is not required and often sellers with an all cash offer will insist that the sale is not contingent on an appraisal showing a near or at the sales price.

Transactions where the buyer is getting financing for the purchase will need an appraisal, as the lender will require it before approving and funding a loan. Because of this the primary purpose of the appraisal is to inform the lender if the subject property is acceptable collateral for the loan, in price and general condition.

An appraiser determines his or her estimate of value of the property by using comparable properties (called comps) that have sold in close proximity to the subject property in distance, are similar in size and make-up (i.e. number of bedrooms and bathrooms) and fairly recently.

The typical report with have at least three, but generally four to five, properties that have closed escrow most recently, at least one property that is similar in type, size and proximity that is currently on the market and if possible one or two that are sold but not yet closed.

In the report the appraiser will make adjustment the comps’ values for square footage, location, view, pool, number of bedrooms and bathrooms, overall condition, garage, etc.

For instance if you are buying a three-bedroom, two-bathroom, 2350 square foot home that has a built-in barbecue bar with sink, fridge and other amenities and the house next door closed escrow two weeks ago and was also three-bedrooms and two-bathrooms, but was 2500 square feet and has a built-in barbecue bar plus a pool, the appraiser will adjust the closed comp’s sales price down for the lower square footage and the pool. Depending on the area, maybe $10,000 for the size of the home and $20,000 for the pool.

Another property sold across the street and was smaller also with out a pool, the appraiser will adjust that sales price up for the square footage.

Taking the sales price of the subject property into consideration, because by offering the price the seller accepted you are impacting the market, the appraiser will review many properties and their various features to determine an estimate of value.

If there are noticeable defects with the property, stains on the ceiling indicating a leak in the roof, missing flooring, large cracks in the walls, the appraiser will note these conditions and if they impact the value of the property or not. If there are defects noted the lender will almost always ask that they be corrected or addressed by a licensed contractor as to their impact on the property and whether they are an on-going concern. Perhaps the stains were left over from an older roof that was replaced.

Now that we have a report with value, what is it and what impact will it have on your application for a loan to buy the property.

If the appraised value is higher than the sales price, there are no issues. It is important to note that if the buyer pays for the appraiser it is theirs, they do not need to show it to anyone. As such, if an appraisal comes in with a value over sales price it is suggested that the seller is merely told the appraisal has sufficient value for the transaction.

If the appraised value is equal to the sales price then, again, no issues. It is not uncommon for appraisals to match, or come in just above, sales contract prices (for instance sales price is $499,750 and appraisal is $500,000). Appraisers are aware of their primary purpose is to inform the lender, “yes, the sales price is consistent with the local market;” or “no, the sales price is not consistent with the market.” Most properties, in balanced or near balanced markets, sell very near what has sold recently for similar properties. As a result, appraisals have values at sales price.

Now the question of the week, what if the appraised value is less than the sales price?

There are four options when this happens:

  • Seller agrees to drop the price to the appraised value
  • Buyer agrees to continue purchase at the sales price
  • Buyer and seller agree to a new sales price between the original sales price and the appraised price
  • Neither party agrees to budge on price and the transaction is cancelled

 The first and last options are the most rare results of a low appraisal, more likely are the middle options.

When this happens, when the buyer agrees to continue the transaction at a price higher than the estimate of value on the appraisal, there are implications for the loan.

One of the primary factors in the rate and cost of a mortgage is the loan-to-value (LTV). Loan-to-value is calculated by dividing the amount of the loan by the value of the property. For instance, if you are buying a property for $600,000 and have a loan amount of $480,000 your LTV is 80%; if you loan amount is $450,000 your LTV is 75%.

A lender determines the LTV for a loan application by the lower of the sales price or appraised value. On the example above, the LTV at the time the application was made for a $480,000 was 80%. If the appraisal value is $590,000 the LTV for a $480,000 loan is now 81.36%. Because the LTV is over 80% the buyer, if they keep the loan amount at $480,000, will require mortgage insurance, adding $85-100 per month to their house payment for a minimum of two years.

To avoid the MI the loan amount will need to be 80% of the appraised value, $472,000.

In this scenario let’s look at two scenarios for the buyer to avoid paying the mortgage insurance by getting a loan with 80% loan to value.

Option 1: The seller will not move off the sales price of $600,000 and the buyer agrees to continue with the transaction. We learned above that to avoid mortgage insurance the buyer’s loan must be $472,000 for 80% LTV, so the buyer increases the down payment from the original $120,000 to $128,000.

Option 2: The buyer and seller agree to adjust the sales price to split the difference between the original sales price and the appraised price, $595,000. The buyer’s loan is $472,000 to avoid MI, the new down payment is $123,000 as opposed to the original down payment of $120,000.

Depending on how close a loan amount is to the maximum loan amount threshold for a conforming ($510,400) or high-balance conforming ($765,600), not only is the LTV a possible issue, but so is the price of the loan and underwriting guidelines that could make the loan more difficult to obtain.

We are in a market with tight inventory and rising prices, which most appraisers will (should) account for when completing reports. When a market is either increasing or decreasing rapidly in value appraisers may also make “time adjustments.” When appraisers first start making time adjustments for reports there can be some push back from underwriters and lenders, especially if the adjustments are for higher values. After receiving multiple reports with time adjustments, they become routine and accepted by underwriting. We are in the transition stage right now for some markets seeing upward adjustments.

To conclude, appraisal values lower than sales prices create issues, however depending on the difference value, the issues can be overcome with some flexibility.

Have a question? Ask me!

For the first time in a while we have data impacting rates. For the past several months most economic data has had minimal impact as investors priced bad economic news into markets in March. Today we had a reversal as economic news did have an impact on rates. The Labor Department released its monthly jobs report today and the data was better than expected, causing a sell-off in bonds and mortgages putting upward pressure on rates. For the fourth month in a row the labor market continued its rebound in August, adding 1.37 million jobs and lowering the unemployment rate almost two percent to 8.4%. For context, in February the unemployment rate was 3.5% and payrolls are still around 11.5 million workers below what they were before economic shutdowns due to the pandemic. Overall the report was positive enough to cause investors to sell off fixed income assets and push prices lower, and rates higher.

Rates for Friday September 4, 2020: Today’s bump in rates takes out a dip we had earlier in the week and as of mid-day Pacific rates are the same as they were last Friday, and the one before that.

The rate spread for cash-out, no point, higher loan-to-value and other factors for refinances still are historically higher than normal. Call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.75%      Flat

30 year high-balance conforming                    3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

Last year this week the WR&MU came to you from Kauai, Hawaii where Leslie and I spent the week celebrating our 25th anniversary. Today it comes to you from the very warm (we have no A/C in the house) home-office where I am a sub-tenant of McCormick LA Public Relations (Leslie’s company) on our anniversary. I am very lucky to have such a wonderful partner who has stood with me, and supported me, through the years in the mortgage industry. Which is secondary to being a wonderful mother, wife and friend.

Next week will likely be an abbreviated WR&MU as I have my annual license renewal class all day Friday as a webinar—I’ll be channeling the 4th grader going to class on Zoom and trying very hard not to be distracted and pay attention.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

We requested and received a forbearance; can we get a new mortgage to purchase or refinance?

Question of the week:  We requested and received a forbearance; can we get a new mortgage to purchase or refinance?

Answer:  Yes, maybe.

As regular readers of the WR&MU are aware there are different types of mortgages which have different guidelines. The overwhelming mortgages funded in America are “conventional,” or “conforming” mortgages. These are loans that are purchased from lenders by Fannie Mae and Freddie Mac, aka the GSE’s (Government Sponsored Entities). Because they are the buyers, they set the rules that lenders must adhere to when underwriting and approving loans if they wish to sell to the GSEs.

With a few slight differences between the two, both Fannie and Freddie are enabling lenders to approve new mortgages for applicants who taken a forbearance due to Covid-19 financial hardship provided certain criteria are met—this applies to both refinance and purchase mortgages.

If the borrower has resolved missed payments and are reinstated on their original note payment, they are eligible. The source of the funds to bring pay the missed payments must be documented if the reinstatement occurred after the loan application, but before the loan funds. Loan proceeds from a refinance cannot be used to reinstate any loan in forbearance.

If a borrower has outstanding payments that were, or will be, resolved through a loss mitigation program with their current lender they must have made at least three consecutive timely payments in the immediate months prior to and including the funding of the new loan. For example, if you currently have a mortgage in forbearance due to Covid-19 financial hardship and are closing in September you must show the payments for July, August and September were all made in a timely manner.

“Timely payments” is defined as the payment being made in the month the payment is due, this means if your August payment is processed by the lender by August 31st it is considered timely.

If the borrower is in a repayment plan, the plan need not be completed to obtain loan approval as long as the three timely payments guideline is met.

Many families who have taken a forbearance are concerned about their credit history. We have yet to see any mortgage that has been in, or is actively in, forbearance due to Covid-19 showing any late payments on the credit report. This means credit scores and ratings have not been affected by those families in this situation.

If requested and received a forbearance under the CARES Act guidelines due to Covid-19 financial hardship and have made your most recent payments on time you are likely eligible for a new purchase or refinance mortgage.

If you, or someone you know, is in this situation and interested in a new mortgage please contact me to review your specific situation and ability to qualify.

Have a question? Ask me!

Plenty of economic news this week. Consumer spending, about 65-70% of our economy, increased for the third month in a row in July, up 1.9%. The increase was smaller than the big jump in May as economies acrossed the nation opened up, and smaller than the increase in June, which was moderate after local and state businesses shut down businesses that had opened in May. The re-closings slowed the momentum of May and June in the economy, but the increase in July spending is a positive sign for future growth. Incomes increased in July by 0.4%, this increase is being mostly attributed to the Paycheck Protection Plan loans provided to businesses. Another positive sign is the annualized inflation through July increased to 1%. Ordinarily positive economic information puts upward pressure on rates, but all this news was shrugged off by investors.

What was rate moving was the statement released by the Federal Reserve’s Open Market Committee (FOMC), which is the body that makes decisions as to whether the Fed will raise or lower its benchmark interest rate. In a surprise announcement the FOMC announced significant changes to its policy strategy. It should be noted the Fed’s mandate has been to maintain stable prices while achieving maximum sustainable employment; i.e. keep prices as low as possible while have as many people working as possible.

There is an acre of weeds I could crawl through regarding the announcement and implications but will just go through the nearest small patch (edit: I couldn’t help myself and went to a bigger patch of weeds to drag you through, those not interested in some economic analysis may want to jump ahead).

In 2012 the Fed’s approved policy has been to use its monetary policy to have inflation be at, or very near, a benchmark of 2% and a stable job market. The policy was based on an economic theorem learned by myself and every other study of economics that there is an inverse relationship between inflation and unemployment, as inflation increases unemployment decreases. The policy announcement yesterday was an acknowledge by the Fed that this relationship no longer exists as it did in the past.

To meet its mandates, the Fed has used its fed-funds rates as a brake or accelerator, raising or lowering the rate to calm inflation or create inflation depending on the need. On Wednesday the FOMC announcement was an acknowledgement that the Fed does not have, and has not had for some time, the ability to control the economy by simply raising and lowering rates and that concentrating on inflation is not good monetary policy.

In this light the FOMC has indicated that it will retain a very low rate policy for some time into the future, and that while 2% inflation is an objective, one that has rarely been met in recent years, it will seek to achieve and average of 2% inflation over time. This means that if inflation is below 2% for a while it will let it run, when it is over 2% for a time it will let it run, the result will be fewer changes in interest rates by the FOMC.

Regarding the maximum level of sustainable employment, the statement said that the goal is not directly measurable and changes over time. Meaning it will concentrate less on week-to-week, month-to-month changes in employment and take a broader view when making policy decisions.

Most importantly, to me, the Fed has added as a strategy a stable financial system. This statement seems so obvious to me that I was surprised that it had not long been the foundation for the Federal Reserve, “…sustainably achieving maximum employment and price stability depends on a stable financial system.” You would think they learned this in 2008.

The reaction to the announcement was an immediate jump in Treasury and mortgage rates. Why? Because these are long term investments and the Fed saying that it would allow inflation to go above 2%, as much as it can allow or control inflation, it indicates higher rates in the future. Imagine being and investor and purchasing a 10-year Treasury note, or a 30-year mortgage, at today’s rates and in five years rates are higher? Your investment is worth a lot less as someone can spend the same amount of money and get a higher return.

I personally like the Fed’s new policy and feel that a stable financial system should be the primary focus to ensure the smooth flow of funds throughout our economy, enabling commerce as well as ensuring the safety of deposits for families, retirees, investors and companies.

Rates for Friday August 28, 2020: Despite the bump earlier in the week rates are flat from last week. Refinance rates have drifted down a bit after the GSE’s have pushed to December 1st their 0.5% (one-half of one percent) Adverse Market Fee on refinances. Diligent readers will recall this fee was imposed a few weeks ago to go into effect for loans funded after August 31st. Had the date remained it would have costs lenders hundreds of millions of dollars on loans currently locked in their pipelines for funding in September.

The rate spread for cash-out, no point, higher loan-to-value and other factors for refinances still are historically higher than normal. Call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                        2.75%      Flat

30 year high-balance conforming                3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

Adding to the list of “get me out of 2020” are natural disasters impacting much of the nation. Currently lenders are suspending closing, or requiring additional verification that properties are unaffected in Iowa (severe storms and flooding), portions of California (wildfires), Texas and Louisiana (Hurricane Laura).  Some things are immune to coronaviruses, stay-at home polices and governments closing businesses, primarily Mother Nature and the devastation She can create.

We all have been impacted in some way, some less and some more than others, but most of us have faced little of what is facing the families in the midst of picking up their lives after disasters have hit their homes, neighborhoods and communities. Whatever the amount you can afford right now, I encourage you to make a contribution to the Red Cross Disaster Relief Fund. The workers and volunteer for the Red Cross provide tremendous support, comfort and service to those impacted, despite going through their own trials and tribulations in the pandemic. Give a buck, or more.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

How will buying and selling real estate change after the Covid-19 pandemic?

Question of the week:  How will buying and selling real estate change after Covid-19 pandemic?

Answer:  The coronavirus pandemic has impacted every industry and business, and few, if any, businesses will return completely to how they conducted their business prior to February 2020. The biggest impact is the explosion of technology taking the place of in person meetings and exchange of documents. Grandmothers are using Zoom to see their grandkids, legal documents are signed with e-signatures and dinner is being ordered on mobile phones.

What about real estate, what will be the lasting changes for buyers and sellers as a result of practices put in place during the pandemic?

Here are my thoughts on the question.

Open houses may not come back. The primary purpose of open houses is not to sell that particular home, but to market the agent in the neighborhood and to acquire buyers for other homes. Yes, some homes are sold to buyers who walk into an open house following the signs from the major road on their way home from bottomless mimosa brunch. Are sellers going to want to abandon their homes for several hours on Saturdays and Sundays so strangers can tramp through their home? Our current real estate market is very hot for sellers with properties across the region at all price points below about $1.5 million selling with multiple offers and above listed prices. No open houses, multiple offers. When the market slows down there will be pressure for sellers to let agents hold open houses, but will the sellers agree in post-pandemic markets?

In-line with the reduction in open houses is a likely reduction in broker-tours. Every market, and most sub-markets, have a day of the week for broker-tours. This is an opportunity for agents to open up a home they have recently listed for other real estate agents to come by and see the property. While the focus of these openings is to provide agents information about the property so they can see if it may be of interest to one of their clients, it is not unusual for neighbors and members of the public to stop by as well. Should broker-tours continue post-pandemic its seems to me they will likely require those coming to view the home show evidence they are in the real estate industry to reduce the traffic through the home.

There will be reduction in the number of showings. Pre-pandemic a listed property can have hundreds of people go through the home. Some serious buyers, some “looky-loos,” some neighbors and many agents. I expect the volume of traffic through a listed home to decrease dramatically.

Historically, for those purchasing investment property, buyers wrote offers with a clause “subject to inspection.” Because investment property owners do not want to subject their tenants to multiple disruptions so potential buyers could see their living units, they would only allow potential buyers to see the inside of properties once the buyer and seller had agreed to price and terms. Variations of the “subject to inspection” clause will appear in the owner-occupied housing market.

In the current market many sellers are requiring that potential buyers who want to view their property provide a pre-approval letter prior to having access to their homes. This cuts down on the “looky-loos” who tend to look at properties but rarely write offers or get serious about purchasing a new home. As well, this step lets the seller know those looking at their property are capable of purchasing it should they like what they see.

Pre-pandemic, agents wanting to show their potential buyer a home looked at the showing instructions on the Multiple Listing Service, not infrequently the instructions were, “go direct between Xa.m. and Yp.m. seller at work.” Other instructions were to make appointments with sellers or listing agent. In general, it was fairly easy to show a home on short notice. Current guidelines are that every showing must have an appointment to avoid multiple showings at the same time.

Zoom your home. This step is already in place and in use in some markets. The last several years has seen many agents having professional videos made for their listings, highlighting the home and it amenities. It seems logical that we see the transition in the residential market to buyers and sellers negotiating a sales price and terms before the buyer physically sees the inside of the home. After researching and driving the neighborhood, viewing a video of the home, the buyer will make an offer “subject to inspection.” When an agreement is made the sell will allow access for the buyers to view their home to ensure it is the right fit for them (see my esoteric thoughts on this subject in the WR&MU in July.)

One trend in the current market is the increase in millennials entering the housing market. This trend is for a couple of reasons, one is that they are entering the traditional age for purchasing a first home, second is Covid-19 stay-at-home policies having them look for more space than an apartment or small rental home, and third is with rates where they are mortgage payments are close, or possibly less than what they are paying in rent in some areas. Regardless of the reason, they are a significant segment of the home buying market. The millennial generation grew up with the internet, have been using screens for their entertainment, communication and information for all, or almost all, of their lives. While for us older folks it may seem strange to use a video of a home to decide if we want to buy it, for millennials it is the norm. Agents wanting to capture the millennial market are already using videos posted on social media to capture clients. Look for this to expand for older generations as well.

Be prepared to gear up. Current guidelines require potential buyers to wear masks and booties when viewing properties. While there will likely be a reduction in the use of masks in public as the Covid-19 virus wains and a viable vaccination is produced, the requirement for masks in private homes for sale may not. This is especially the case should the home be the residence of elderly owners, or those with medical conditions.

For post-pandemic real estate sales, expect the changes that have occurred due to the pandemic to remain. A bit looser in some instances, but overall expect that most sellers will want more control over the number of people going through their homes.

Have a question? Ask me!

Rates for Friday August 21 2020: Minutes released this week from the Federal Reserve Open Market Committee put a little softness in the rate markets as they predicted a slower economy for the rest of the year due to the pandemic. They noted challenges for employers, especially in manufacturing, to hire employees despite the high unemployment rate. As a result, rates have receded from last week’s slight bump.

Refinance rates are higher than purchase rates, please call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.75%   Down 0.125%

30 year high-balance conforming                      3.00%    Down 0.125%

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

With the heat wave we are experiencing in Southern California combined with the number of people working from home due to the pandemic combined with many homes in the region still not having air conditioning what do you think will be the work load for companies that install air conditioning?

It is a lot different to come home to a hot home in the evening, open doors and windows, turn on fans and cool off a house into the night than to work throughout the day with a fan two feet from you blowing not so cool air as you work on a laptop that is getting hotter and hotter through the day. One’s mind wanders to the cost of installing a cooling system, the additional costs on electric bills and “why didn’t we do this before?”

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

Why are refinances suddenly more expensive?

Question of the week:  Why are refinance mortgage suddenly more expensive?

Answer:  This is a lesson in government bureaucracy, over-reach and supporting Ronald Reagan’s comment, “The nine most terrifying words in the English language are: I’m from the Government, and I’m here to help.”

Some background for this week’s Question of the Week can be found in the WR&MU from March 16, 2018, What is the difference between Fannie Mae and Freddie Mac and from February 8, 2019, Why are there different rates or costs for the same mortgage product.

Many are familiar with Fannie Mae and Freddie Mac, at least familiar with their names but perhaps not what they actually do. Very briefly, Fannie and Freddie purchase mortgages from lenders and then package those mortgages into bundles called Mortgage Backed Securities (MBS) and sell them to investors.

Fannie and Freddie are known as GSEs, Government Sponsored Enterprises. Since 2008 they have been in conservatorship under the Federal Housing Finance Agency (FHFA). While there is no explicit guarantee, they have the backing of the United States Treasury and as such an implicit guarantee that they will not default on their debts and obligations.

The FHFA was created in 2008 and combined, and expanded, the duties of the Federal Housing Finance Board and the Office of Federal Housing Enterprise Oversight. It regulates not only Fannie and Freddie but also the eleven Federal Home Loan Banks, it has not connection to the Federal Housing Administration.

It should be noted that in September 2019 the Fifth Circuit Court of Appeals ruled that the structure of the FHFA is unconstitutional. The ruling was appealed and the case is currently pending before the Supreme Court.

The Director of the FHFA is Mark Calabria, appointed by President Trump in 2019 and confirmed by the Senate.

Director Calabria has a lot of power in that his directives determine policies and regulations for the GSEs.

In the WR&MU referenced above from February 2019, we explained that the GSEs have pricing add-ons for different facets of a mortgage. These add-ons are called Loan Level Pricing Adjustments, LLPAs. Whenever we are pricing a loan for a client, we see the LLPAs for loan-to-value, credit score, type of property, type of transaction and a few other factors.

The adjustments for LLPAs are shown in basis points, or percentage of the loan amount. One-hundred basis points is one percent, or $1000 for $100,000; fifty basis points, 0.005, is one-half of one-percent, or $500 for $100,000.

For rate and term refinances for owner-occupied properties the LLPAs are the same as for a purchase mortgage that meet all the same criteria. For the GSEs, a rate and term refinance is one in which there is no funds being pulled out of the property and no other loans are being paid off that were not part of the original purchase transaction. If cash is being pulled out as part of the refinance, depending on loan-to-value, the cost of the refinance will be higher from 0.375% to 0.875% (or $375 to $875 per $100,000 loan amount).

On Wednesday evening the news was released that following a directive from Director Calabria and the FHFA, the GSEs would charge lenders an additional fifty-basis points (0.50%, or $500 per $100,000) for all refinance transactions effective for all loans funded on or after September 1, 2020.

There are few reading this who have a $100,000, putting it in terms more relatable to Southern California homeowners, a $500,000 refinance will cost an additional $2500.

There are several issues with this directive.

The fee is being imposed as an “adverse market fee.” Essentially, the fee is to recoup losses in revenue by the GSEs due to early mortgage payoffs due to the refinancing boom and missed payments due to forbearances issued under regulations from the CARE Act. The FHFA has seen the revenue numbers from lenders for the first two quarters of the year and are using the LLPA for refinances to essentially tax lenders to transfer income to the GSEs.

If the purpose is to tax the lenders then the action is typical of many government regulations imposed on businesses that are not paid by the business but by consumers. The announcement was made after the close of business on Wednesday, on Thursday morning every lender had increased their costs for refinances by 0.5% on their rate sheets. The $500,000 refinance at a 3.00% rate that was at no points on Wednesday cost $2500 on Thursday.

Billions of dollars of refinance mortgages are locked in with lenders for closing after September 1st. Lenders will have to honor their rate-locks with originating companies, hence they will take a 0.5% loss on every refinance loan they fund that was locked prior to August 13th.

For locks that expire due to the length of time for refinance loans to get through pipelines, lenders have been very good about extending rate lock deadlines, and even floating down rates on many loan applications. Looking forward it is unlikely rate locks will be extending without costs to consumer and/or originators.

The two-week run up to the imposition of the fee is extremely penal to the industry and consumers. Typically, adjustments to LLPAs are announced several months in advance to give lenders and originators notice so they can properly price loans for homebuyers and homeowners looking for purchase or refinance mortgages. The September 1st date to impose the fee is essentially a retroactive tax on lenders who have committed to purchase refinance mortgages from originators are specific rates and prices, and now find 0.50% of their pipeline revenue being confiscated by the GSEs. This amounts to from a half to one-third of their gross revenue.

Part of the explanation for taxing refinance mortgages and not including purchase mortgages was that refinances are “riskier” to investors purchasing MBS. This is a fallacy. Consider a purchase transaction, many of which are first-time homebuyers. Most homebuyers are seeing an increase in their monthly housing obligation in actual dollar amount and as a percentage of their monthly income. Most buyers purchase with 20% or less down payment, if the loan goes into foreclosure the cost to the lender is greater than 20% causing losses for the lender.

For refinance transactions the borrower has a history of homeownership, has a history of timely mortgage payments, most often has more than 20% equity, in our current market most of our transactions have been below 70-75% loan to value, and is lowering their mortgage payment in dollar amount and as a percentage of their monthly income.

In March, Director Calabria made a statement that Fannie and Freddie “reminded” lenders that forbearances were an option for homeowners impacted by the coronavirus. Indicating that the policy was to assist homeowners retain their homes if suffering from a loss of income due to the pandemic.

In August, Director Calabria essentially told homeowners that if your family is being impacted by a loss of income due to the pandemic and can ease financial pressure by refinance your current mortgage to a lower payment, that the FHFA is more concerned with extracting more money from you than enabling you to lower your payment even further.

Doing the math, on a $500,000 mortgage the additional fee for refinances is approximately $70 per month, or $840 per year, that borrowers are paying.

In a conversation about this issue yesterday I was told, “you just care about this because it will impact your business.” That is partially true, we may see a bit of a downturn because of the slightly higher rates due to the fee being charged by the GSEs. What is fully true is that I am concerned with the timing of this action can impact homeowners currently in refinance transactions depending on where they are in the process. As well, I know that our company, nor any lender will be paying the additional fee, but homeowners will bear the cost. As they due whenever government agencies and departments impose additional costs on businesses.

What is really head-scratching is that the Treasury Department, the Federal Reserve, are spending trillions of dollars to assist families hard hit by the shut down of the economy due to the pandemic and one federal agency has decided to do the opposite. Part of the Federal Reserve response to the pandemic has been to purchase MBS to ensure continued liquidity for  the GSEs to ensure lenders are able to fund not only purchase but also refinance mortgages for homeowners and ensure a stable housing market.

There is some sentiment that the Director Calabria and the FHFA will reverse the additional costs for refinances before it takes effect on September 1st. That the announcement was made when Congress is in recess and out of town diminishes the amount of pressure that will come from Capitol Hill from members who want to see their constituents’ costs to save money by refinancing their homes increase. There is tremendous pressure being put on the Agency from the mortgage industry and homeowners groups from across the country, we will see if it has any impact.

Looking forward over the next few weeks, those considering refinancing may want to consider floating their rate to see if the fee is lifted and a possible drop in rates and/or costs. The risk is that the fee is not lifted, that if it is lifted rates are higher due to other conditions, and a possible missed opportunity to save a bit more on your refinance.

An analogy I use often with clients when we are discussing a refinance and whether to lock in their rate or float and risk the rate going higher is the blackjack table in Las Vegas. You have done well and have won $400. Do you take your profit and go to your room, or stay to play some more to see if you can increase your winnings—or have a few losing hands and cut into your winnings? When I used to go the Vegas several times a year, when I hit a number, I colored up my chips, cashed in and went to bed. I would rather leave a few potential winning hands in the deck than run into a few bad hands.

Have a question? Ask me!

For the first time since February, mortgage rates are being a bit sensitive to positive economic data. This week the Producer and Consumer Price Indices both showed healthy increases (0.6% each) and today’s release of the July Retail Sales data showed that consumer buying is back to pre-pandemic levels with a modest 1.2%.

Rates for Friday August 14, 2020: Whether the positive economic news or the imposition of the Adverse Market Fee that lenders are looking to recoup, rates pop us this week.

As mentioned above, refinance rates are not the same as rates for purchases. Call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.875%   Up 0.25%

30 year high-balance conforming                  3.125%    Up 0.125%

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

For the third year in a row the house was up pre-dawn, or for those with teenagers who stay up into the wee-hours with friends on Facetime and using Netflix share pre-bedtime, to get our oldest to the airport to fly to Boston for school.

I have no anxiety based on the information we have received regarding her trip and time at Boston U. JetBlue has been very conscientious in ensuring their planes are wiped down before every flight, providing passengers with hand sanitizers and disinfectant wipes and leaving every middle seat empty. Our daughter’s 6:00 a.m. flight was sparsely booked and she had no one in the rows directly in front or in back of her’s.

Boston University has been a leader for creating as safe an environment as possible for students, faculty and staff. Robert Brown, BU’s President, has been terrific in creating the resources the school needs and communicating to the entire BU community, including parents, as to what is happening and how the school will operate.

Being a research university is a big plus. The University has spent several million dollars on equipment for their labs so they can process 6,000 tests for Covid-19 each day. Every student is tested twice a week, non-students are tested less frequently but still regularly. They have developed an app for students to answer health questions each morning and depending on testing, answers to questions they are “green” and good to go to buildings, classes, etc. Yesterday the school sent out a notice to students as to consequences if they break any of the guidelines and policies; the number one factor that seemed to get their attention is shutting off their WiFi access.

Our young people are undergoing experiences that will impact them for their lifetimes. When we look back a few decades hence I am hopeful that they have been strengthened as a result of their experiences and have used them to create a better community for themselves, and us old fogies.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

How do you describe your job?

Question of the week:  How do you describe your job?

Answer:  For the past couple of years Mr. Gillette, who teaches AP Chemistry at Long Beach Poly High School would invite me to speak with his AP students in one of the classes between their AP test and the end of the school year. The talk is mostly about credit and debt and how the decisions they make in the next several years can impact their ability to purchase a home in the future. We discuss college loans, car loans, how debt-to-income ratios work, the costs of deferring interest on their college debt until after they graduate.

At the beginning of the class I give a quick two sentence introduction, which is basically, “I’m Dennis Smith and I am a mortgage broker. I help families buy their homes by providing the loans they need, just like many of you need loans to go to college, most families need loans to buy homes.”

Last week I was talking to my friend Randy who is looking at purchasing a new home with his wife. In the course of our conversation I thought of a better description for what I do. Essentially, I am a loan detective.

I read a lot, and tend to be a serial reader whereby I will read about specific subject, or books from a particular author, or a series, for several months. This summer I started to read the series by Michael Connelly with Hermonious “Harry” Bosch as the main character. Many are familiar with Bosch from the series available through Amazon Prime (great series by the way, and terrific books). He is a homicide detective with the LAPD and each season of the television series and each book is a different murder that needs to be solved.

Maybe because I am well into the Bosch series, the thought about how my job is not dissimilar to a detective’s came to mind.

For Bosch to see someone he arrests be convicted he must collect evidence and work with the District Attorney’s office so that when the case  goes to trial before a judge and jury it can be proven beyond a reasonable doubt that the defendant is guilty of the crimes for which s/he is charged.

For me, I must collect evidence, working with my processor so that when your file goes to a lender, we are showing beyond a reasonable doubt that you are qualified for the loan for which you are applying.

We are not collecting blood and DNA samples, though at times it appears our process and requirements seem that way. Rather we are collecting financial data to cover credit history, credit obligations, assets, ability to repay the mortgage, and the collateral for the mortgage.

While our justice system is based on the foundation that all accused are innocent until proven guilty, the mortgage lending system is the opposite in that in essence you are guilty and we have to prove your innocence. Proving innocence is more difficult than guilt—how do you were home alone reading a book at 10:30 Thursday night?

Lenders create underwriting policies and guidelines (most, or all, of which are created by Fannie Mae and Freddie Mac) and underwriters use these policies when review mortgage applications, similar to a jury reviewing the facts presented at trial to determine guilt or innocence under the laws, or guidelines, of the city, state or federal codes.

What do we investigate and how?

For credit verification, are investigating the risk  you present based on your credit history, plus the amount of debt you currently have, and how much you must pay per month on that debt; most of this information is available from a credit report. This data is put through algorithms which result in your credit scores for each of the major credit bureaus, which are intended to measure credit risk for anyone extending credit at this moment.

Your credit score (middle of the three scores) is the primary factor in qualifying, if it is below a certain number you are not qualified for certain programs. As well, the score is a main determinant in pricing the rate and costs of your mortgage.

The credit report can also show any public records you may have such as tax liens, judgements for uncollected debts, or bankruptcy filings. If any of public records show on your report, we will need to investigate further to determine the current and future impact on your ability to repay a mortgage. In the instances of bankruptcy filings, the dates involved will determine when you will be eligible for certain mortgage programs.

However, the report only shows the debt you have that have been reported to the credit agencies, or had public records filed as a result. Credit obligations are also investigated based on bank statements, paystubs and taxes. If a recurring payment is showing on your bank statements, we will need to investigate to determine why you have this recurring payment. If it is to an individual is it someone doing house work or gardening, or is it a payment for support that is court ordered that we were not made aware of during the application interview? Is it a payment on a mortgage for a property you own and the seller carried back the mortgage?

Tax returns can show debt obligations for mortgages on commercial property that you own, these loans typically do not report to credit agencies. Or a private loan to the individual who sold you the business you own.

Paystubs can show a garnishment for wages to pay a debt, either to a company or to an individual due to lapse in payments for spousal or child support.

Debt-to-income ratios (DTI) are a critical qualifying factor for mortgages. Note that debt is listed first, so investigation of your monthly payment obligations is critical to ensuring you qualify for the mortgage for which you are applying, hence the thorough investigation to ensure we know all your obligations before we send the file to underwriting.

For asset verification, we are investigating that you have enough funds for down payment, closing costs, and/or reserves if required. As has been mentioned several times over the years in the WR&MU, asset verification has become one of the biggest sticking points we have had in loan approvals for the past several years; let me amend that, pre-Covid pandemic it has been the biggest sticking point.

For most families, asset verification is simple. They have salaried positions and all their income is from W2 wages. Their salaries are automatically deposited into their checking account, perhaps a portion is also deposited into a savings account. The only deposits into their checking and savings accounts for the past several months (or two statements), have either been from the employers, or transfers between the two accounts. They have enough funds in the accounts to cover the funds needed for their transaction, be it purchase or refinance. The only recurring payments they have match up with their housing cost to their landlord or lender showing on their credit report, and other credit payments as shown on their credit report.

For others it can become a bit more complicated, and results in a more in-depth investigation before we can send the file to underwriting. Any large deposits, typically defined as larger than 50% of your monthly qualifying income, must be sourced and explained. Often when we are requesting information on a large deposit we are asked, “why would the lender care?”

There are a few reasons, primarily, the lender wants to ensure that the large deposit is not a loan which would represent another monthly payment we would need to include in your DTI ratios. If the deposit represents a gift from a family member, or other qualified gift donor per mortgage guidelines, we need to track the funds from the donor’s account, and also complete a gift letter in which donor states the funds are a gift and not expected to be repaid.

Another reason to that large deposits need to be tracked is due to anti-money laundering regulations imposed on all financial institutions via the Bank Secrecy Act. Real estate transactions are a primary vehicle for money laundering and the federal government has, in a way, deputized brokers and lenders to report suspicious activity.

Too often our final loan approval is held up as we wait for asset verification from clients with large deposits. If you have had, or are going to have, a large deposit that is not from your employer or from another account under your control, be prepared to show us where the funds came from and why you are receiving them. If you sell a car, have a bill of sale and copy of the transfer of title, if you are paid back a loan from your brother in-law, have a copy of a note he signed plus the cancelled check from when you lent him the money. Keep records showing the transaction and the source of unusual, and legal, transactions and be prepared to show them.

For ability to repay, we are investigating your income. Essentially, if you do not pay taxes on the income it cannot be utilized for mortgage qualifying. There primary exception to this guideline is if we are using asset-depletion to calculate income, in which case our asset verification will be a bit more detailed.

Income comes in many forms, salary and wages, bonuses, commissions, self-employment, distributions from corporations, dividends, capital gains, distributions from qualified accounts, annuities, rents, spousal and/or child support, retirement pensions or social security, are all eligible for mortgage qualification. How they are verified vary from simple paystubs and W2s, to tax returns for individuals and corporations with supporting letters from tax preparers and CPA’s,

From a lender’s perspective, income is the riskiest part of the decision to make a loan. All that can be verified, for most people who do not have a guaranteed contract with the Los Angeles Dodgers or other organization for the next five years, is the income you are currently receiving and the income you have received in the past one to two years that indicates the income has been constant. What lenders are trying to determine is that the income you have is constant, and that it can reasonably be determined that it will be continuing for at least the next three to five years.

Using the family above with the only deposits into their bank accounts being from their employers, they are the easiest to qualify as we use their current paystubs and W2’s to show their salaries.

If there is bonus income it gets trickier. Does the bonus happen every year? Is it the same amount? Is it in a contract? Is it likely to occur in the future? How much was the bonus last year? The year before? Is the bonus increasing each year or declining? If you are paid salary plus commissions, we must answer these questions, plus see if you write off any expenses against your commissions.

For most non-W2 earnings, especially commissions and bonuses, the guidelines state the income used to qualify must be a two year average and if the bonus or commission income is declining either must use the lowest year (hence no average), or may be declined to be used if it appears tenuous the bonus or commission may continue.

The same guidelines are used for self-employed individuals (though many programs now have allowances for only the most recent year’s tax returns to be used). Lenders want to ensure that your income is stable and not declining, thereby decreasing the risk that you may not be able to pay your mortgage in the future.

In the age of C-19 the income verification has become even more intense as your employment must be verified not only before we submit to underwriting, but again just before loan documents are drawn, and again a day or so later before the loan is funded.

If you are self-employed, new guidelines are bank statements for the months prior to funding and a year-to-date profit-and-loss statement to the end of the month before funding that matches up with the bank statements.

If you have tenant income the guideline is to provide rental agreements and bank statements showing the deposits matching the agreements.

For those who feel the mortgage investigative process is too thorough, I ask, “imagine my cousin, who you will never meet, in Tulsa is asking you to lend him $400,000 so he can buy a house. What would you want to know before you wrote him a check?” You would want to know all of the above, and perhaps a bit more.

To ensure your loan is approved you need a good detective to research your finances and cover the issues an underwriter is looking to uncover. You need someone who can prove your innocence, that’s what I do, Dennis Smith, Mortgage Approval Detective.

Have a question? Ask me!

Employment continues to grow, but at a slower pace. After June’s surge in employment, July saw a large increase in new workers but at a much slower pace. Spikes in positive Covid-19 tests in several states, especially California, Texas and Florida, the three most populous, led to shutting down some sectors of their economies, put a damper on companies bringing workers back. Gaining back some jobs is a positive, July was the third month in a row with positive growth, as well the unemployment rate also declined for the third month in a row, to 10.2% from 11.1%. Keep in mind this rate does not include those not looking for employment. Ordinarily a surge in jobs would lead to higher rates, but “ordinary” reactions to economic news is suspended for the time being.

Rates for Friday August 7, 2020: Rates continue to remain flat from the prior week. While the data suggests rates could perhaps be lower, lenders are not in a rush to lower rates given they are operating beyond capacity already.

The rate spread for cash-out, no point, higher loan-to-value and other factors for refinances still are historically higher than normal. Call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.625%   Flat

30 year high-balance conforming                   3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

I have always enjoyed detective stories, fiction and non-fiction. When I was a kid I never got into the Hardy Boys, nor Nancy Drew. But I think I read every book that had been published until I was in 5th or 6th grade. Harriet the Spy, The Mixed-Up Files of Mrs. Basil E. Frankweiler were also favorites, the latter I re-read a few years ago. One summer my serial reading habit had me read the entire collection of Sherlock Holmes stories and novels by Sir Arthur Conan Doyle; Sherlock’s “When you have eliminated all which is impossible, then whatever remains, however improbably, must be the truth,” seems to be a theme for mortgage underwriting as well.

I hope you have had an enjoyable summer reading list, which started in March…

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog

What do you think will happen to housing prices?

Question of the week:  What do you think will happen to housing prices?

Answer: This is a question I, and anyone even tangentially involved in real estate, get asked all the time no matter the economic environment. When we are in abnormal economic times the question is comes up more frequently.

It is an obvious question, and one being asked by everyone, homeowners, potential homeowners, real estate agents, mortgage professionals, economists, media pundits. The answers vary from collapse to boom, depending on the how the answer is approached, and in the case of the media how many clicks they are trying to get for their advertisers.

Prices in any market are determined by the most basic economic equation of supply and demand. If there is more supply than demand prices will fall, if there is more demand than supply prices will increase—go to Amazon and check out the price of Lysol disinfectant spray. Oops, there is no price because the nation’s biggest retailer has none in stock. It is available Ebay, the leading secondary market in the country, at about $30 per can, plus shipping which pushes the cost to around $40.

The overwhelming majority of homes that are sold are in the secondary market—homes that are “pre-used” in developed neighborhoods as opposed to homes newly built. As such, the majority of real estate markets are very sensitive to supply and demand pricing.

Supply and demand are often influenced by outside factors, consider the plot device in the movie Trading Places. The main plot is the social experiment to ruin one successful man and make another man who is on the fringe of society economically and otherwise a big success. The device used bring the story to conclusion is the cost of frozen concentrate orange juice, more specifically future prices. The government is issuing a crop report for Florida oranges. If the crop is very good then there will be an abundance oranges and the price of orange juice will drop; if the crop is bad there will be a scarcity of oranges and the price of orange juice will climb.

Outside factors determine the quality and quantity of the Florida orange crop, primarily weather. Other factors can include labor, cost of fuel for harvesting oranges, distribution chain to get oranges to market, government regulations that determine if it is profitable to harvest oranges, are just a few.

Trading Places shows what happens when people act on poor information that would determine supply.

A factor that enters real estate markets that impacts the price formula is interest rates for mortgages as they help determine demand. Lower interest rates mean lower housing costs mean more families can afford to purchase homes, or families can afford higher priced homes. Higher rates mean the opposite, less affordability or able to purchase lower price homes.

A quick example for a family making $90,000 per year. We will assume that the mortgage payment will be 33% of their gross income. For mortgage qualifying we break all the numbers down to monthly instead of annual amounts.

This family’s income is $7500 per month, if they are to pay 33% of their income just for the monthly mortgage to purchase a home that is $2475 per month.

If the 30-year fixed rate 5% the total mortgage amount for a payment of $2475 per month is $461,000.

If the 30-year fixed rate is 4% the mortgage climbs to $518,400. At 3% the mortgage is $587,000.

Less than 20 months ago the 30-year fixed rate for high-balance conforming mortgages was at 5%, today it is at 3%. A family that purchased a home in late 2018 with a $461,000 mortgage can buy a home today that is worth at least $126,000 more (I say at least because we are leaving down payment out of the equation) with the same monthly mortgage payment.

That drives demand, drives it very fast.

Housing supply is also impacted by interest rates. As mentioned above, if rates are low current homeowners discover they can purchase a bigger home or a home in a better area. Another option is to refinance their existing home to save money every month on their housing costs, and/or reduce the term of their mortgage debt without significantly changing their monthly payment.

Currently, the coronavirus is an outside factor that is impacting the supply of homes coming to market. Many families who would had planned to sell their homes this Spring and Summer have decided to delay their plans to relocate because they do not want people coming through their homes who may be infected, as well, they do not wish to walk through other people’s homes as they search for their new home.

Leading into the pandemic housing supply was already low, many articles in February had data showing declining housing supply, which combined with dropping rates in early 2020 started a rise in home prices.

Now, five months into the pandemic, supply has constricted to two months or less in several markets and six months or less in most.

Low interest rates and limited supply have created more than supply in the housing markets. Rates are the primary factor, but rates are not the only factor driving families into the real estate market.

Surveys have shown that many families, after spending several months working, studying, living, at home since stay-at-home regulations went into effect in March are finding they want, and need, more room for their families. The pandemic has changed how we picture the use of our homes in the future. Instead of being a place the family is all together from after work to before work and on weekends, it is now a place where we are together 24/7 and it is hard to close a sale on  Zoom while your spouse is conducting a webinar on  Zoom, both of which are interfering with a child’s math test.

Conclusion to the short story made long, prices are climbing as new listings are bid on sight unseen (grammarians help me, sight or site?), multiple offers are being made and very often homes are selling over list price. Anecdotally, my clients looking to buy have experienced losing out on their offers due to multiple overbids in Lakewood, La Mirada, Corona, Mission Hills, and the Los Altos, Los Cerritos, Belmont Shore and Plaza areas of Long Beach in the past few months.

The question was not what is happening to prices, but what will happen to home prices?

In March and April, the media was full of articles stating that the pandemic would severely impact housing markets, in a negative way. At the time the CARES Act had passed enabling homeowners to obtain forbearances on their mortgage payments just by making the request. The common wisdom by the media was that this would lead to a spate of foreclosures in the future creating over-supply. Also contributing to harming the market would be the tremendous rise in unemployed workers creating an under-supply of buyers.

Now that the pandemic has aged several months there are several factors that I see that will result in most real estate markets not crashing nor seeing significant decline in prices (I equate 10% or more decline in prices as significant).

First, regarding the forbearance issue. Traditionally if a lender agrees to a forbearance the agreement with the borrower is that at the end of the forbearance period the borrower will make up the amount of payments that were deferred in a lump sum.  This policy would certainly create tremendous challenges for most families and result in the mortgage going into default. What I have seen is that most mortgage services have been extending the term of the mortgage for the number of months payments that are deferred. If you have a six-month deferment on a mortgage that was due to be paid off in April 2040 the forbearance agreement extends the loan so it will be paid off in October 2040. This lessens the economic hardship on the borrower to bring their deferred payments current in one payment.

Second, regarding foreclosures increasing nationwide. Many of those who predicted, or are predicting, a large increase in foreclosures are using the 2008 housing crash as the basis of knowledge and prediction.

The increase in home prices leading into the crash was fueled by cheap money, which we have now, but more importantly cheap underwriting. Fannie Mae and Freddie Mac underwriting guidelines enabled borrowers to purchase homes and/or refinance pulling out equity their homes with no money down, no income qualification, no asset verification and in many instances no appraisals. As a result, millions of families owned homes with loans that they could not afford and in which they had no equity. When they fell behind on their payments they had no ability to sell their home and pay off their mortgages (it costs between 7-8% to sell your home in most markets).

As the economy spiraled down it wiped out jobs that are the foundation of the housing markets, causing a hole in the demand side of the market. The result was over-supply as homeowners had homes for sale that required short-sales, or foreclosures being priced low by lenders to get rid of inventory. At the same time there was an under-supply of demand are supervisors, managers, high wage hourly workers and others were out of work and unable to qualify for mortgages.

Finally, with little to no money invested in their homes, many families found it easy to hand their keys to the bank and find a place to rent.

The profile for the overwhelming supply of homes sold since 2010 is buyers who not only qualified for their purchase mortgage with verifiable income, but likely qualified for a higher mortgage. The average down payment on a home purchase has been around 12%, closer to 6% for first-time buyers. Homeowners are staying in their homes longer, which combined with steady increases in prices, has resulted in equity growth.

Because of the interest rate environment, the past several years most homeowners have very low interest rates, and presuming their incomes have been increasing, even modestly, during their tenure of homeownership their monthly payment is more affordable today than it was a few years ago.

What does this all this mean? The initial equity at time of purchase, plus steady increase in prices while paying down mortgages means that if a family is in trouble and needs to sell their home they can do so and likely receive some equity from the sale. At worst, most would break even and avoid a foreclosure.

The lower rates make it somewhat easier for a family that has a job loss of one spouse, or a reduction in income, to retain their home and continue making payments.

Third, the majority of those who have lost their jobs due to the pandemic do not have the income to purchase homes. Looking at the jobs reports, as the employment numbers have dropped average weekly wages have increased. Why? Because the job losses are coming at the entry level wage jobs not the middle and upper level wage jobs. Conversely, when we have seen employment spikes after the economy opened up we saw the average weekly wages decline because those being hired are the entry level wage positions. We are seeing job losses creeping into higher wage jobs, the airlines for instance are laying off workers, most of whom earn more than minimum wages. Should job losses spread to industries not dependent on travel, entertainment, dining, we will see an impact on the supply of qualified buyers. At this time, however it appears that the areas of the economy most impacted remains industries largely dependent on consumers discretionary spending.

Fourth, the is such an imbalance now between demand and supply that it would take a major shift, a very major shift, in either supply increasing tremendously and/or demand declining tremendously for home prices to decline significantly.

Because of these factors I do not see a significant decline in home prices occurring in most markets. Across the Southern California region there may be pockets of decline, most likely the upper ends of the markets as jumbo mortgages are still in short supply, lack of foreign buyers and smaller pool of eligible buyers that always exist for this range of the market. For the rest of the price ranges, when we have widely available vaccinations for Covid-19, when the economy re-sets to its new normal, we will likely have the same or increased demand and a growth in supply as those families who have delayed selling their homes come to market. The increase in supply however, should be met by demand.

The outside factor that could alter my opinion, and the actual actions in the markets, is the length of the pandemic and how soon we are able to achieve the new normal with few, if any, segments of the economy being restricted due to the coronavirus.

Have a question? Ask me!

The big economic news this week was the data on 2nd quarter Gross Domestic falling at an annualized 32.9%, the largest single quarter drop since the government started tracking GDP following World War II. On a quarterly basis the decline was 9%, and was less than anticipated by Wall Street. Combined with a drop in the 1st quarter GDP, the decline puts the economy in a recession (defined by two consecutive quarters of declining GDP). The news had little to no impact on mortgage rates due to the expectation of a historic decline, and that there is little economic news at this point that can push rates much lower.

A bit of a bright spot in economic news was that consumer spending in June provided the second consecutive monthly increase, growing 5.6% from May’s spending. July may show another increase in spending, even with many states re-shutting businesses due to increases in infections. All eyes will be on August as the additional unemployment compensation of $600 per week that was part of the CARES Act expires today.

Rates for Friday July 24, 2020: Rates remain flat from last Friday, it appears we have reached our range for the current market as since the beginning of the month the conforming rate has drifted between 2.625-2.75%, while the high-balance has been between 3-3.125% for purchases with variables listed below.

The rate spread for cash-out, no point, higher loan-to-value and other factors for refinances still are historically higher than normal. Call for details and quotes as rates can vary significantly depending on the situation.

FIXED RATE MORTGAGES AT COST OF 1.25 POINTS LOCKED FOR 45 DAYS:

30 year conforming                                            2.625%   Flat

30 year high-balance conforming                   3.00%      Flat

Please note that these are base rates and adjustments may be added for condominiums, refinances, credit scores, loan to value, no impound account and period rate is locked. Rates are based on 20% down with 740 FICO score for purchase mortgages.

It appears Mollie’s suggestion to include the question of the week is very popular based on the feedback I received—such a good suggestion I wish she had made it several years ago!

The beginning of August is usually when families start getting ready to send their kids off to college—especially if their son or daughter is heading off to their freshman year. With many colleges and universities cancelling many, most or all in-class classes and moving to on-line, a lot of students who were part of the high class of 2020 are opting to take a “gap” year. With the high costs of attending college they are deciding that it is not worth the cost to sit in a dorm room watching classes on a screen, not being able to have social interactions to meet other students and benefit from the overall college experience. We have first hand knowledge of the colleges trying to sell that the education, even if on-line and not live in classrooms, is still worth the cost to attend, but it is apparent that the sell is hollow and almost desperate.

Next year will be interesting as there will be a good portion of the class of 2020 re-applying to schools while the class of 2021 will also be submitting applications—depending on the learning environment that will be available. This will make an already challenging process even more so. What will be the long-term impact on these young adults who have seen their high school and college years disrupted? How will it impact our labor markets, future leadership, and society and the economy as a whole? We will know in a decade or more as the sociologists and economists study this era and those involved.

Have a great week,

Dennis

Past Weekly Rate & Market Updates can be found on my blog page at my website www.DennisCSmith.com/my-blog