Tuesday, August 24, 2010

The first timer's guide to the process of buying Real Estate.

I had an email conversation with a first time buyer recently. They wanted to know the entire process of buying a home from start to finish. This is a very popular question that many people ask me, so I'm happy to publish it in my blog. The current Silver Lake Real Estate market is down and interest rates are at historical lows, so it is a very good time to be buying Real Estate. Wheather its the first or fifteenth time buying a property, the process always goes like this;

1. Secure Financing.
The very first thing to do is get a mortgage preapproval from lender. Once you've figured out what you can afford and want to pay the lender will write you a preapproval letter. The letter will go out with every offer. Have the money that you are going to be using as a down payment ready and don't leave your job or apply for credit from anywhere until your loan is closed. You'll get a Good Faith Estimate (GFE) from the lender for closing costs so you'll know what the bottom line to bring in will be. Typical buyer's closing costs are between 2-3% of the purchase price (4-5% for FHA loans) so make sure you have that amount in addition to your down payment. Don't move money around, keep it in one place until you close. If you have to move any money keep the paper trail because the lender will need to account for every dollar going into escrow.

2. Find the property, write an offer, get it accepted.
Finding the Property is the fun part. Your agent should be showing you many properties, and you should be learning from each one. Try to see as many as possible each time you go out with your agent. Seeing 10 houses only takes a little bit longer than seeing 6 of them. Don't be afraid to write offers, if something feels right to you, it usually is. Writing offers does not bind a buyer to anything until the seller accepts the offer or gives a counter offer. The buyer does not need to put any money down until buyer and seller agree on all terms and both sign a contract and escrow is opened. Once you begin to write offers there are many things to be aware of in the fine print. These details can mean thousands of dollars coming from your pocket at closing so understand clearly everything you are offering to the seller. Some details I see: Transfer Tax, unpaid assessments, Mello-Roos taxes, Termite repairs, smoke detectors and on and on. Once the contract is accepted then it is taken verbatim by everyone involved so make sure you are OK with what you are putting on it. Ask your agent what the protocol and customary fees are for the items that you are including, they will know and advise you. This is why they are getting paid.

It is impossible to know everything about the property when you are writing offers on it, so don't worry too much about uncertainties in the beginning. As knowledgeable as your agent is, they won't be able to tell you absolutely everything about the property's maintenance history, neighborhood information (especially ethnic or racial makeup-by law) etc. The successful buyer needs to be able to act quickly with limited information. The best properties never stay on the market long in Los Angeles, despite economic or market conditions. The early bird gets the worm with real estate so don't get "analysis paralysis". If you know the property is right for you, write the offer. You have plenty of time after writing it to change your mind, so put pen to paper now. Once it is accepted you will have an inspection contingency period and a financing contingency period usually 17 days. If you find something that you do not like, or are unable to obtain the mortgage that you said you would get on the offer, you can pull out no harm no foul. The chances are, you won't get your first offer accepted anyway. I did not have one single buyer in 2009 who got the first place they wrote an offer on. One of them is on his 12th offer. Buyers cannot be afraid to write offers, but with that being said they should be careful to dot the I's and cross the T's with every offer.

After the offer goes in, the seller will most likely counter-offer and request concessions. Higher price, shorter escrow, less closing costs etc. This negotiation is natural and should be approached with patience and serenity. Don't be flustered by aggressive counter offers, deal with them knowing that you are making progress. Too many times first time buyers bury their head in the sand at the first counter offer, probably because they feel intimidated not having negotiated much in their lives. That's perfectly acceptable, but I don't think any buyer should give in too easily to the sellers' demands. Many times the seller's agent will create inuendos about other buyers circling the property ready to pounce like well-funded lions, but in some cases it is a bluffing tactic. Successful buyers keep a cool head and act rationally. This is another area where the buyers' agent has to earn their keep. They will be able to guide and advise and their advise should be heeded. Often times sellers require a cross-qualification of the buyer's mortgage approval. This means that the seller has their own loan officer (usually an employee of the bank who foreclosed on the property) who must also approve the buyers' mortgage. Sellers can demand that no offers will be reviewed without cross-qualification so it's a good idea to keep the items nearby that they'll want; W2's, paystubs and bank statements. After the dust settles and a counter offer is signed by both buyer and seller, notify the mortgage lender immediately and send them what they need right away to start underwriting the mortgage.

3.Open Escrow, put down deposit money.
Escrow is a neutral third party licensed by the state to carry out the contract. They ensure first that the seller doesn't take the buyer's money and the buyer doesn't take the seller's property. They see to it that all taxes get paid, all liens and any claims against the property get paid, every expense is accounted for and prorated up to the day the buyer takes title to the home. All money gets sent into escrow and sent out by escrow. The buyer will have to send in their earnest money deposit to escrow at this point. That is usually done with wire transfer or cashiers check. Escrows rarely accept personal checks. Wire transfer is easiest but it usually costs $30 each time. Escrow will send you out a small pile of paperwork to fill out. That paperwork needs to be returned to them as soon as possible. The buyer will need to determine their vesting, need to give background information and other questions. If your agent is not available, calling the escrow company for questions is perfectly acceptable.

Once escrow is opened, the clock starts ticking with the buyer's agreed upon Inspection and Loan contingency periods. Every day counts, so buyer's need to be ready to respond quickly to the requests of the lender, agent or escrow company. Email is the best way to send paperwork back and forth because it's possible to pull up what was sent and received by everyone involved. Make sure you keep or get copies of everything that you sign and keep it for your records.

4. Get a property inspection.
Getting an inspection is currently not mandatory in CA but it should be. I require all Preferred Realty and Loan buyers to get an inspection, even on new houses because you never know what you'll find. Inspectors are licensed and bonded professionals and hold insurance policies in case they miss anything in their inspection report. They never do. The agent will be able to recommend an inspector to you. They cost from $250-$450 on most houses and condos and are usually paid by buyer. If possible, go out and meet the inspector at the property when he's inspecting and ask questions. Inspector are typically contractors and they all know what to look for. They will provide you a large report outlining everything that is notable in the house. When you get that report, don't feel too broken hearted when problems are disclosed. Most houses have problems with them, especially in LA where most houses are 50+ years old. Things to pay attention to in inspection reports are:

-Foundations, especially on hillsides. Foundation ideally should be bolted to the piers (wood beams). Foundation problems are seen in cracks that go from ceiling to ceiling or floor. In hillside houses, it is natural for the soil to move 1/10" per year. Keep that in mind. Gravity always wins.

-Any leaking water in roof or pipes. Water entry is the biggest problem in houses. Even in the desert climate of Southern California water intrusion is still an issue, and anywhere that has water should be examined for dryrot. Mold is a frequent accomplice of water leaks, and should be examined (although there are hundreds of different strains of mold, only a couple of which people are allergic to.)Mold can pose a problem for potential landlords. Also look for water coming off the roof and not flowing alongside the structure.

-Old elecrical systems, if there are air conditioner units or other large power draws. An updated 220v electrical box on a 1500 sq ft 3+2 house will cost 3-4 thousand dollars. Look at the breaker panel. If you see cloth wires going to a fragmented, unlabeled center then it's probably going to need to be updated.

-Termite damage on wood frame houses. Termite inspections are often required by lenders. A termite company will go out to the property and give estimates. They are heavily regulated in California so estimates don't vary too much from one contractor to the next. Termite damage looks kind of like swiss cheese, poking holes in wood window frames, beams, eaves, joists, etc. Termite repairs come in two phases; phase 1 which is everything structural, anything that holds the house up. This phase 1 repair bill is typically paid by the seller. Phase 2 is anything cosmetic and is typically the buyer's responsibility. The most termite damage that we have seen was in 2008 on a two bedroom home in North Hollywood that had to be completely tented and some of the structural joists replaced at a cost of $3500. Most termite bills are around $1000 for houses under 1500 square feet.

Once the buyer receives a copy of the inspection report they really get a good opportunity to "look under the hood" of the house. Usually inspection reports are written with the buyer's interest in mind and inspectors have a tendency to overstate deficencies. With the inspection report in hand, the buyer is given the power to do one of three things;

1. Request that the seller repair any items that are of concern.
2. Request that the seller credit the buyer the cost of repairs either from a reduction in the price of the property or by paying the buyer's closing costs.
3. Cancel the deal.

Most buyers I work with are too emotionally/financially tied to the property at this point and do not want to cancel. So then the question becomes should they request repairs or money? This is a significant question and needs to be carefully examined. Many new buyers who I see opt for the credit never get around to getting the work done. For items that are in serious need of repair, this is obviously not a good thing. If there is water leaking in a roof and it gets into the flooring, it needs to be repaired right away. The long term cost of neglecting maintenance issues needs to be weighed by the buyer. If it doesn't get fixed now, it will usually cost a lot more to do later when it goes up for sale. Conservative bargaining and due diligence are very important. The agent should be able to offer referrals to contractors who can give estimates. I find that Yelp is also a pretty good source for finding contractors, although many good ones are not of the internet generation and must be sought out other ways. The smart buyer will have made their own connections with contractors before entering escrow, so that they can give second opinions of the issues that come up. No buyer is an island.

When buying bank owned foreclosure REO properties, the seller will rarely make repairs unless there is a health and safety issue. The banks are reticent to negotiate much on repairs either, usually requiring buyers to accept the property as-is. This refusal to fix or credit is why REO foreclosures are sold at a discount. The bank is going to pass the problems to the new buyer.

So let's take a hypothetical example and assume that the buyer asked the seller for $10,000 in credit for closing costs for various maintenance items. The buyer will put that on their Request for Repair form (ROR), and the seller can accept, negotiate or cancel. I have never seen a seller cancel at this point, even if ROR was overkill. The seller in this example will counter back at $4,000 in repair credit and the two will eventually agree on $6,500. An addendum is drawn up and sent to escrow whereby the seller will pay $6,500 of the buyer's closing costs. The price will remain the same but the seller is going to be contributing the $6,500 to the buyer's expenses. The buyer is not receiving cash from the seller, they are only getting credited money to close. If they don't use all of that credited money at the closing, they lose any unused portion. It is very rare that lenders will let a buyer walk out of escrow with money in hand that they didn't bring in themselves. It is important buyers remember this and make sure they can spend all the money they are asking for as a seller credit! After the dust has settled and an agreed upon amount is credited or repaired, we move on.

5. Get an Appraisal.
This step is only for buyers getting a mortgage. The lender will always need to appraise the property. Appraisals are usually $350-$500 and usually paid by the borrower in the form of an Application fee. Since the advent of the HVCC appraisal code, appraisers are not chosen by anyone who has an interest in the transaction. The intention to avoid potential conflicts of interest is good with this law, but the actual effect is that appraisal orders get farmed out to the lowest bidder and the resulting quality of the reports is equally low. Appraisers used to be local and knowledgeable about market factors in the neighborhood (Schools, Crime, Views, Amenities, etc). For the most part, they are not at all like that any more, and are only valuating the house based on price per square foot of nearby comps. This is an overly objective approach to valuating homes and can result in wild swings of variation, often lower than the asking price. If the property that the buyer has under contract does not appraise at the price that the buyer has on their contract, they can cancel (provided they did not waive that right on their offer). Alternatively, they can take the appraisal to the seller and request that the price be lowered to the appraised value. Since the seller will presumably have this same issue with any buyer, they have a reason to consider lowering their price. Buyers should ensure their agent evaluates the comps before writing an offer far over the asking price. A lot of time and heartache can be saved by doing some diligence. After the appraisal comes back to the lender they will issue a loan approval and will require conditions from the borrower, escrow and title companies. Time is of the essence, so when the agent or lender requests something it is important to get it to them right away. I always tell my buyers that when the loan officer says "Jump", they say "How High?".

6. Get Natural Hazard Disclosure report and Title Prelim The Natural Hazard Disclosure (NHD) report is not mandatory but is recommended. It contains 30+ pages of potential hazards in, under and around the property. The scope of the report is vast, covering everything from Radon gas to Seismic activity to landslide and liquefaction potential to airport noise. The reports are prepared by private companies who are responsible for the validity of their data so they always tend toward over disclosing. As before with the inspection report, some bad news is inevitable. Life kills and after seeing some NHD reports, it's a wonder how anyone could live in the houses. But they have, and in many cases the house has been there for 70-80-100 years and people have been living there. Don't get too flustered when the NHD comes back with some problems. At the same time, there are some important issues that should not be taken lightly. Some of those issues are;

1. Fire hazard area. In Southern California, If the property is in the hills or not surrounded by other structures in an urban setting, it is probably in a high fire area. The ramifications of this are higher homeowner's insurance premiums for life.
2. Radon Gas. Radon seeps in through the soil and collects, usually in ground level or basement areas. There are three levels of Radon gas disclosed. If it is beyond level 1, I recommend another Radon specific test. Radon is bad news, especially for young children developing.
3. Mello-Roos tax districts. Mello-Roos taxes and other supplemental tax assessments run with the land and can really break the bank. The NHD will have information on every expense that has to be paid with the property. Usually the Title report will have this data too, but the NHD is the most accurate source of information for this.
4. Proximity to old Oil Wells/Mining sites- This is most frequently associated with gas coming up from the earth. There are plenty of oil well sites around Southern California and some still leak off methane and other gases that can be dangerous, if not foul smelling.
5. Flood zone. If the property is in a flat area it may be in a flood plain and that requires higher homeowners insurance coverage.

There are many other issues that the NHD will touch on, and the agent will be the first point of contact for questions.

The preliminary title report is issued from the title company. This report shows the history of the property, sometimes going all the way back to the Spanish occupation of California. The title prelim shows any and all liens on title of the property. If the seller didn't pay taxes, had a contractor slap a lien on the property or borrowed money against it then all of this will come up on the title prelim. The title companies' job is to insure the homeowner against any defects in title, so if they miss anything at all they pay for it. They never miss anything. The lender will require a title insurance policy to protect their interest in the property. The buyer does not usually concern themselves with what is contained in the title prelim, if there are hidden costs then the agent or escrow will alert the buyer right away and the buyer can act accordingly.

After the buyer has these reports in and signed off and their appraisal is completed, they are almost done. Buyers will sign off on all of their contingencies, which means that they have to close or the seller can claim their earnest money deposit. There is usually a time in every transaction when all the contingencies are signed off, but the loan is not ready to fund. A skilled agent will negotiate with the seller to give them what they want, but buy more time for the buyer's loan contingency. The reality is that lenders in the post-credit crunch are never 100% reliable and can back out at any moment without warning. Ideally, buyers want to keep their loan contingencies until they close but it is not always possible. If the time comes where the seller is demanding the buyer remove their loan contingency, the lender should be consulted before action is taken.

7. Sign Loan Docs
By the third week into the transaction, the loan docs are usually ready to be signed. The buyers getting the mortgage will sign the docs in the presence of a Notary Public, or at the escrow company. Buyers should request an estimated HUD from the escrow company before signing their loan docs and compare it to the lender's initial Good Faith Estimate. Any increase in charges should be addressed to the lender as soon as they are discovered. Some charges are unavoidable but there should be no more than a couple hundred dollars difference. If the lender hikes up the fees then call them out on it and don't accept the loan. It is an age old trick of money lenders to wait until the borrower has no other options and then increase the fees and rate. Although this practice has lessened since the mortgage industry underwent a major overhaul in 2010, it is still prevalent at closing tables across the country. Because of this, I recommend applying for mortgages with two or more lenders if possible. Playing them one against another can lead to the best deal, but it is a lot to keep up with. If the buyer has any questions at all, ask! Don't be afraid to get answers from your lender. Remember they need to lend money to stay in business.

8. Buyer Final Walk Through.
The buyer gets to sign off on a final walk through to verify condition of the property before closing. Buyer should check that the termite work was completed, the water heater was properly strapped, smoke detectors are in each bedroom and kitchen and all are working, and that any agreed upon repairs were completed. In some cases the seller will negotiate to move out after closing time. If the seller has not yet vacated the property, the prudent buyer should take note of the condition of the house to ensure that the seller does not damage things on move out. This final buyer walk through is the last item to be signed off on before loan funding.

9. Closing Time.
After the loan docs are signed they go back to the lender and the buyer wires their money into escrow to close. There will be several lender conditions prior to funding-usually updating paystubs and bank account information. At this point many buyers are at the end of their rope but stay with it, the very end of the transaction is just as important as any other point. When the loan underwriter is satisfied, they fund the loan by wiring the money into escrow. Once the loan is funded, escrow disburses funds to the seller and deed to the buyer, gets the deed and mortgage information recorded at the county recorder and gives the buyers the keys to their new home. This is a happy time for everyone.

I hope I was able to shed light on the process of buying a property for first timers or anyone who might benefit from it. Buying your home is never a walk in the park and indeed it can be a stressful journey but in the end, all of my buyers unilaterally say that it was worth it. Home ownership is the biggest preserver of wealth for most American families. Right now is an ideal time to buy property. We have a perfect combination of real estate is in a downturn and interest rates are extremely low, the time is right for more people to take a step into home ownership.

For any questions feel free to contact Sky Minor, your favorite Los Angeles broker.
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