41 Essential Tips Every Home Buyer Should Know

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22. What is a lender’s escrow account?

When homes are bought with 80% or more financing from a single lender, the lender generally requires the borrower to make monthly payments to a lender “escrow” (trust) account. The purpose of the lender escrow account is to accumulate money to assure that the borrower’s property taxes and property insurance are paid (and thus reduce the lender’s risk).

Lenders typically collect 1/12th of the annual costs for property insurance and taxes each month. They are allowed to keep as much as one full year’s worth of tax and insurance payments in the account, plus a two-month safety margin, plus $50. The only time the account is likely to have 12 monthly payments plus the two-month cushion is just before property taxes or insurance are due.

Lenders must account to borrowers annually with a statement showing how much is in the account, whether monthly payments will rise or fall in the coming year, and whether any surplus or shortage appears in the account. If the surplus is more than $50, the excess must be returned to the borrower. Note that some states require lenders to pay interest on escrow accounts, others do not.

23. How are escrow accounts used at closing?

It sometimes happens that not all agreed promises found in a sale agreement can be fulfilled by closing. For instance, if closing takes place in January in a cold climate it may not be possible to test the air conditioning system.

How does the buyer know the system works? It is best to wait until warmer weather to test the system. But what if something is wrong with the system? To resolve buyer concerns, an “escrow” account can be created at closing. In this situation, money from the seller is held in reserve to pay for needed repairs as defined in the escrow agreement. If repairs are not required, or if the cost is less than the amount of money set aside, the difference is returned to the sellers.

24. What is 3/2 financing?

There are a number of loan programs directed toward first-time buyers that allow the purchase of property with as little as 3% down.

The way they work is that a purchaser puts up 3% of the sale price and another party puts up 2%. Who puts up the additional 2%? Programs differ, but some choices include:

• A friend or relative providing a gift
• A friend or relative providing a loan
• An employer providing a loan
• An employer proving a loan that does not have to be repaid if the individual stays with the company for a certain amount of time
• A community group providing a loan or grant
• A government agency providing a loan or grant
• Amazingly enough, a lender who provides both 95% financing and a 2% loan

For details, please contact local lenders and real estate brokers.

25. How can I buy real estate with my children using “shared equity?”

Shared equity is generally seen as a way that families can buy real estate together. The kids live on the property and get the benefits of property usage and ownership tax advantages while Mom and Dad get an investment write off equal to their proportional interest. (Shared equity arrangements, incidentally, can also be among friends, relatives, or business partners.)

Under a shared-equity arrangement, if you own half and the kids own half, you must pay half the mortgage, taxes etc. The kids must pay their half, plus they must pay a market-rate rent for your half of the property in order for you to have a deduction. Of course, once they have paid, you can also give them a gift equal to some portion, or maybe all, their rent.

You will need to work out an equity-sharing arrangement with the help of a local attorney and CPA. A broker can find an appropriate property. Both you and your children will need wills, living wills, and a proper equity-sharing agreement. You will need to understand what happens if your kids are laid off (you are responsible for the mortgage), or if you and your children become estranged. You will also have to consider the interests of any other children you may have.

26. How can our family buy real estate together?

There are a number of choices including: Equity-sharing deals. These have potential for everyone if a home in poor condition is purchased and the adult child will put in the sweat equity required to fix it up. Partnerships. Family partnerships are common but everyone has to understand their obligations.

A corporation could be formed, with shares for everyone. The problem here is selling shares in a small entity if someone wants out. All familial arrangements should be based on a written agreement developed by an attorney, wills and living wills for everyone, and advice from a tax professional for each party. Also, speak with lenders before making a final arrangement. Some approaches may be easier to finance than others.

27. We are buying a home and have a copy of the seller’s disclosure form. Should we also get a home inspection?

Most states have a mandated seller disclosure form that must be used for most properties, but not all. This form provides an opportunity for the seller to answer certain questions regarding the property’s condition. Just ask the broker or the owner for a copy.

But a seller disclosure form is not a substitute for an independent examination by a professional home inspector. A seller may well complete a form to the best of his or her ability, but without knowledge of home construction, that ability may be limited. And a state-written form may not ask the questions you want answered. For example, when was the owner last in the attic to check for leaks? When was the furnace last examined? Does the home have aluminum wiring?

28. What is a "CMA"?

When owners offer a home for sale, they logically want the best possible price and terms for their property. A "comparative market analysis" or "CMA" is an estimate of value prepared by a real estate broker or salesperson that shows recent past sales for like properties and suggests a possible asking price for the owner’s property.

29. What is the difference between a "warranty" and an "inspection"?

A warranty and an inspection are different creations. An inspection shows the condition of a home at a particular time. A warranty provides compensation if an approved repair is required during the warranty period. Not all warranties are alike. Some cover repairs only above a certain minimum (that is reasonable). Some have defect lists, but the standards for each list vary (some lists are vastly more liberal than others are). Some warranty programs charge an inspection fee for each item.

30. What is a contract "contingency"?

A sale agreement between buyer and seller typically outlines a series of obligations for each party. Also, usually a sale agreement has one or more clauses that make the transaction dependent on certain events. Such contract language is a "contingency" and the agreement itself can be seen as a "contingent" arrangement.

For example, you will buy the Smith house if you can get a mortgage at not more than 8% and one point. If such financing is not available, if the contingency has not been met, then a contingency may provide that the deal will fall through and your deposit will be returned in full.

The words used in a sale agreement outline important rights and terms and should be written and reviewed with great care.

31. What stays with a home and what goes?

In general, items that are physically attached to and intended to be part of a home are expected to stay. Example, if there is a built-in dishwasher it should stay. If the sellers take it, there would be a large hole in the kitchen cabinets.

Items that stay are called "fixtures" but it is sometimes difficult to determine what is or is not a fixture. Moreover, one can "create" a fixture in a purchase offer by saying that as a condition of the deal, the backyard swing set (or whatever) will stay.

The best approach to fixtures is to list what stays in the purchase offer. For details, speak with a broker as appropriate.

32. What is a lease option?

It sometimes happens that a buyer does not want to purchase, or cannot purchase, immediately, and a seller does not want to sell, or cannot sell, immediately. In this situation, both parties may want a "lease option" arrangement.

In general, a lease option is an arrangement where a prospective buyer moves into a property as a tenant. The buyer has the right to buy the property for a specific price during the option period. The monthly rent is equal to the fair market rental rate plus an additional sum. The additional sum is credited to the buyer at closing, should the buyer exercise the option to purchase. If the buyer does not buy the property, then the additional monthly payments go to the owner.

Lease option properties can be located by real estate brokers. Lease options contracts should be reviewed by attorneys for each party to the transaction before signing. Also, before entering into a lease option arrangement, speak with lenders to review current financing requirements.

33. Can all the rent paid in a lease purchase be credited toward a down payment?

If the purchase is being financing by a commercial lender, the lender will want to know the fair market rental for the property. Anything above the fair market rental can be considered a credit toward the purchase, anything below a fair market rental represents a discounted sale price. A lower price, in turn, means the lender will not provide as much financing as buyer and seller may have wanted. Speak with lenders for details.

34. What is a seller "take-back" or "carry-back"?

A seller “take-back” works like this. A home is worth $100,000 and has an assumable $60,000 mortgage. You assume the mortgage. Instead of taking $40,000 in cash from YOU, the seller instead takes back a note, secured by the property. For example, the seller might take-back a note for $30,000 if you will put up $10,000 in cash.

A seller take-back is just like a loan from any lender. It must be repaid according to the terms and conditions outlined in the note. If not repaid, the property can be foreclosed. The rules that apply generally to mortgages may not apply to seller take-backs. For example, some attorneys argue that a seller take-back is not subject to state usury rules (interest rate caps) because a seller take-back is NOT a loan, no money changed hands.

35. Is an owner "take-back" a good way to finance a home?

Such financing is fine as long as it meets the usual standards you would expect with a loan. These would include a competitive interest rate, no short-term balloon note, the right to prepay in whole or in part without penalty, or a deed of trust rather than a "mortgage", so there is a trustee to accept a pay-off in case the owner is not available.

But since a commercial lender is not involved, you will want many of the protections lenders require such as a title search, title insurance, termite inspection, survey, a proper deed, etc.

36. Does it make sense to buy real estate for cash?

Probably the best answer works like this: Is there a better place to put your money? Is there an alternative investment that will produce like returns with equal risk? Is it simply more comfortable as a matter of personal preference to pay cash? The decision to pay cash or not pay cash includes both economic considerations and personal choices. Many people simply prefer a home that is free and clear of all debt. Several advantages can be obtained by paying all cash. There is no mortgage application and no need for private mortgage insurance. There is also no mortgage interest to write off.

However, if you elect to pay all cash, be sure to insist on the protections that a lender would want a title inspection, title insurance, survey, termite inspection, appraisal, etc.

It may be worthwhile to sit down with a tax professional or a fee-only financial planner to review the consequences of paying all cash or financing.

37. What is a “cash-back” transaction?

It is sometimes claimed that it is possible to buy a home and receive both the house a substantial amount of cash at closing.

For example, a home will be "sold" for $100,000. The deal will be financing with a 95% loan-to-value mortgage. However, the seller will provide a $15,000 certificate of deposit to the buyer at closing.

On the surface, we have a deal with a $100,000 purchase price, $5,000 down, $95,000 in financing, and a $15,000 TD. Alas, $100,000 was never paid for the house. There was a "sales price" of $100,000, but then as part of the deal, the seller provided a $15,000 rebate in the form of a CD. Since a CD is a certificate of deposit that presumably is worth $15,000 in this example, this property was sold at discount - the real price is $85,000. This is a classic "cash plus" deal where the amount financed is greater than the debt to the owner.

The surplus would be returned to the buyer at closing, if there was a closing. Lenders will decline this transaction because the amount of financing sought is greater than the discounted value of the property. Even if this property appraises at $100,000, lenders will value the deal at the appraised value or the true sale price ($85,000), whatever is less. Worse, if the lender is not told, in writing, in the loan application and in the sale agreement about the CD, there may well be grounds to consider charges involving fraud.

Bottom line: Should someone propose a cash-plus deal, sign nothing until you have spoken with an attorney.

38. Why does closing cost so much?

State and local governments have discovered that real estate transfers are wondrous opportunities to tax with little political responsibility. If a politician says that taxes should be raised, the individual may well be out of work when elections next roll around. But if real estate transfer taxes are raised, the game changes because many of those impacted by the higher tax will move elsewhere, and thus they cannot vote against the politician.

The result is that transfer taxes and "stamps" often amount to thousands of dollars per transaction, income that is enormously profitable to states and local communities.

39. Must I physically attend closing?

Check with your closing provider, but in most jurisdictions, if not all, the answer seems to be "no".

The purpose of closing is to assure that all requirements of the sale agreement have been met. The closing papers need to be signed by all parties to the transaction, and often notarized or witnessed.

However, the signing process need not be done at the closing table. Documents can be reviewed and signed away from the closing table and sent to the closing provider by overnight delivery.

40. What is a "walk-through"?

When you purchase an existing home, you enter into a sale agreement at one point but only close on the sale some weeks later. To assure that the property is in substantially the same condition as when the sale agreement was signed, a buyer will “walk through” the property just before closing.

If you are a buyer, be sure to allocate enough time for a thorough walk-through. In the case of a new home, the situation is a little different. Typically, there is a walk-through with the builder’s representative. Items not completed, or not properly completed, are entered onto a "punch list". The punch list items are then detailed at closing and the builder is obligated to make required repairs and completions.

When going through a new home, buyers should make their own punch list and compare it with the builder’s representative to assure that nothing is missed by accident.

41. Must real estate brokers disclose the fact that they are licensed when they buy or sell for themselves?

All states license the practice of real estate brokerage. A common provision of such laws is that real estate licensees must disclose their license status when they buy or sell a property for themselves, for a spouse, or for an immediate member of the family such as a parent or child.

The reasoning behind such disclosure rules is that brokers and salespeople, by virtue of the fact that they are licensed, are presumed to have a marketplace advantage over those who have not studied real estate, passed various tests, and obtained a license. To have a fair playing field, brokers and salespeople must disclose the fact that they are licensed so that consumers know about such training and experience. Speak with brokers regarding specific requirements in your state.