Top 5 Mistakes Buyers are Making in Today’s Housing Market
- Not having your pre-approval and not working with the right lender
Even in a normal market, not already having a pre-approval from a lender before starting the process of looking for a home is a big no-no. You never want to be in the situation where you find a home you like, then start to write an offer, but have it all come crashing down when the lender tells you that you can’t qualify to buy the home. You need to know what you can qualify to purchase before going out to try and find your new home. Makes sense right? Well in today’s market, it’s even more important to have that pre-approval letter. Not only because homes are going on and off the market in a matter of days (more than half of all homes in CA are going into escrow within 7 days right now), but with how competitive it is for buyers there are some sellers and selling agents that are requiring you to show proof of your pre-approval BEFORE even seeing the house. If you are thinking of buying a house you absolutely need to have this in your hand before starting the process. Plus they are usually good for 2 months at a time and if you can’t find a home to get into escrow with by then(see #5), you don’t have to do much to get it renewed for another 2 months.
Now when it comes to picking a lender, I often see buyers just go with the first lender they come in contact with who will give them a good rate. Yes, a good rate is always important, but with how competitive the current market is for buyers, what else can the lender offer you to help you get into escrow? Have you asked them? Many larger lenders have standard practices that they can’t deviate from, they need a certain number of days to close the loan, get the appraisal ordered and completed, and get your loan fully approved.
In a normal market, I’ve always recommended buyers shop around to look for someone they trust and look for a good rate. However, right now, on top of those two things, the biggest questions you should be asking potential lenders is, “How are you going to help me get my offer accepted by the seller?”. Can they do a lot of the paperwork upfront and close your loan in under 30 days? Can they give you the assurance you need to lower your contingencies on your appraisal and loan to help you be more competitive? Can they offer the seller a certain dollar amount per day(also known as a per diem) if they can’t close on time for some reason? Are they willing to call the selling agent of every offer you put in to go over how solid your loan is to give them confidence in your financing? Many of the large lending companies just don't have a lot of flexibility in these areas, which is why I always recommend speaking to a mix of larger and smaller mortgage loan companies to see what else they can do to help you have that extra edge when placing offers. You might be surprised to hear this, but a lender can be the reason you get into escrow or go back to square one.
2. Thinking you need a 20% downpayment and not knowing all of your loan options
I’ve talked about this multiple times before but the idea that you need to have 20% down to buy a home is completely false. Yes, if you do put 20% down you won’t have to pay mortgage insurance and your interest rates will probably be slightly lower on your loan which can reduce the cost of you payment but one of the biggest hurdles for buyers right now, especially in Southern California, is how to save enough to get to 20% when housing prices are already so high to begin with and continuing to rise every week. Did you know that you can buy a home with as little as 3-3.5% down right now? Did you know there are also first time home buyer grants that can give you free money to further help you with the downpayment and closing costs? Has your lender gone over these options with you? Make sure you are talking to a lender that will discuss these with you so you know all the different options you have available to you.
Ok some of you might be thinking at this point, low downpayment options are great but I’ve put in the work and saved enough for a 10-20% downpayment, so why should I care about these low downpayment options? Well, this might be controversial, but one thing that I have learned helping both buyers and sellers in this market is that larger down payments and high offer prices aren’t the only thing sellers are looking for in this market, in fact one of the biggest things sellers want right now is the security that whoever they pick to go into escrow with is going to close escrow on time and at the price they offered to pay. You might be thinking, “Of course, isn’t this what seller’s always want?” Yes, to some extent, but let me go over how the seller’s mindset has shifted on what they often see as the best offers right now.
One of the biggest reasons homes are falling out of escrow right now is because the appraisals are not coming back at the value the buyer offers to pay. When this happens in escrow, the buyers and sellers often have to have a second price negotiation to figure out what the sale price is going to end up being on the home. This is due to the fact that if the appraiser says the home is worth $20,000 less than what the buyer offered, then either the seller has to reduce their sale price by $20,000, the buyer has to come up with $20,000 in cash to cover the difference since the lender can’t loan them even a dollar over the appraised value, or the buyer and seller have to meet somewhere in-between.
Now, knowing the appraisal is one of the seller’s biggest fears right now, how would a buyer write an offer to reassure the seller that the home will close at a guaranteed price? There are a few ways, and this is where knowing all of your loan options comes in handy. Let’s say you and your agent write an offer on a home knowing that it’s $20,000 over any comparable sales that have closed recently, and the chances of the appraisal coming in at value are a little lower. Odds are the seller and selling agent also know this as well as long as they are aware of the current home sales in the area. So if you write an offer and put a 20% downpayment on the home, but that 20% represents almost all of your savings that you have for the home, the first thought that goes through my mind as a selling agent is, if this home doesn’t come in at the right value, where is this buyer going to get money to cover any difference? If your accounts are drained by putting everything you have into the downpayment, it can make the seller a little hesitant because you have very little flexibility once in escrow if something were to happen. You could offer the seller $100,000 over asking price but if you have no way of paying for any difference that comes up, odds are your offer will not be accepted, even if it’s the highest offer. This is where knowing your loan options by talking to your lender ahead of time is extremely important in today’s market.
Let’s say instead of 20% down, you are ok with the slightly higher monthly payments of putting 15% down instead. By doing this, you open up your options to have a more competitive offer. You now have let’s say and extra $30,000 sitting in your account that is not earmarked for the downpayment and the seller now sees that you have some ability to be flexible and cover some or all of the difference if the appraisal doesn’t come in at value. Now you might not be willing to do that, but the seller can at least see that you have an option to do so which will give them slightly less hesitation if they think your offer is too high and might have appraisal issues.
If you really like the house and are ok with the risks, you could even write into the contract that you will cover a certain dollar amount of the difference if the appraisal doesn’t come back at the right value. This give the seller even more confidence because they know that you are willing state up front that you will pay for some of the difference if it doesn’t appraise. Finally, in the most extreme cases, which is unfortunately more and more common in today’s market, some buyers are even waving the appraisal contingency all together. This is definitely a risky move and you need to really trust your agent and know the comparable sales in the neighborhood so you have an idea of what range the appraisal will come back at, and have a good cushion in your bank account to cover any difference that might arise, but it is an option you have available to you if you don't throw everything you have into the down payment.
If the appraisal end up being fine, then you have money in your account to help with buying furniture and other home essentials, or you can use that extra money to make larger payments on your mortgage to help knock off some extra months and years from your total scheduled payments. If it doesn’t come back at value then you should hopefully know that risk going in and although it’s not going to be fun having to pay out of pocket to get into your home, if you are looking at your home as a long term investment and not a short term flip, eventually you’ll gain that appreciation back(and in this market you can expect that to happen much quicker with the way the trends are shaping up for the rest of the year).
A brief note, for the same reason sellers are looking for buyers with some extra money in the bank for appraisals also applies to the inspection portion of the contract. They want to see buyers that have a little extra money in their accounts so they know that if something minor comes up on the inspection report that there is a chance the buyers will take care of it themselves once they move in.
So what if you’re a buyer that needs to use a low down payment loan to qualify for the property and don’t have any extra money in your account to cover some of these costs that many sellers are almost expecting in today’s market? It’s not a fun option but if you have family, it might be worth asking if they would be able to loan you some money, IF one of these issues came up during escrow. You are obviously hoping that it will appraise but if you have someone that could loan you $10,000 if you absolutely needed it you could let the seller know you have gift funds available in case there is an issue with the appraisal or loan. Another option is to borrow from your 401K or IRA but you would need to talk to a tax professional about the pros and cons of doing something like that so you know exactly what you are getting yourself into. Again, all of these options are not fun for a buyer but I feel knowing what type of market you are walking into and knowing what other buyers are doing to get into homes will help set your expectations upfront so you are not surprised when you start placing offer.
3. Wanting that HGTV fully updated home
Ok that last one was a bit drawn out so let make this one a little shorter. Most people know that you are paying a premium to buy a home that is fully renovated and move-in ready. These type of homes typically draw the most interest, the largest number of offers, and the highest sale prices in the neighborhood. You are paying a price for the convenience of not having to deal with the headache of construction, noise, missed contractor deadlines, etc when buying that home. However, in today’s market, you are paying a premium on top of a premium for these HGTV type homes because as bidding wars heat up, these type of homes are going for even higher prices than before and the cost of doing the renovations yourself or even hiring someone to do them after you move in is often way less expensive. If you are looking to stay on budget and don’t mind finding a home that is still move-in ready, just not fully updated, you will have a better shot at getting your home closer to that actual market value, and the added plus of being able to eventually remodel it your specific tastes to make it feel more like your home. Focus on your must haves like location and size and typically you will be happier long term and won’t regret buying someplace too small or in the wrong location just to have a nice kitchen and bathroom right away.
4. Timing the Market - “I’ll wait for the giant crash and buy then”
People have been predicting the market is going to crash since earlier than 2015. Time and time again they have been wrong. My advice for anyone looking to buy a home right now is you have to look at it as a long term investment (5+ years). You want to be focusing more on your monthly payments and interest rate, the appreciation historically will take care of itself. Am I saying the market is going to crash anytime soon? No, I have seen no data that is pointing to a housing market crash anytime in the near future, in fact the housing market analysts just keeps getting more and more bullish about the remainder of this year and going into 2022. Inventory is extremely low right now, in fact the 5 year average for active inventory this time of year in Southern California is around 40,000 homes, how many do we have right now? 17,000. We would need inventory to more than double just to be back to a normal year, and significantly more than that to get anywhere close to a balanced or buyer’s market. There is just no data showing that those homes are going to magically appear all at once.
On the demand side of things, interest rates are still overing right around 3% which is still one of the lowest interest rates we have ever seen for the housing market. We also have a natural surge in demand that is coming from the largest demographic patch of homebuyers to ever hit that market, millennials. Millennials are now hitting the peak home buying age between last year and 2024 so even as interest rates do start to rise back up, the sheer number of people trying to get into homes will help keep that demand reasonably strong for years to come. All this to say that all of the experts in the housing market are calling for larger than normal appreciation gains throughout this year and into next year before we hopefully start to cool down a little bit which will get us out of an insane, once in a life time seller’s market, to a normal seller market by mid 2022. Now I don’t have a crystal ball and there could always be something unexpected to hit the US economy to reverse the current trends we are seeing now, but the chances of something happening that would both significantly increase the supply while at the same time decrease the demand are low for the foreseeable future. Which means the longer you wait, the more home prices are going up and the higher interest rates will be further pricing you out of the market.
5. Underestimating how long it will take to find a home
In a normal market it might take a buyer a few weeks to find that perfect home, put an offer in, get accepted, and then maybe another month to go through escrow and finally close. However in today’s market, there is a good chance it will take a lot longer for two main reasons 1) Finding a home you like that meets your criteria is not easy right now, like I mentioned above, inventory is extremely low so the chances of the perfect home hitting the market as soon as you start looking aren’t great. It could take weeks just to find a home you are actually interested in seeing. 2) Once you find that home, you have to get your offer accepted which as you probably know, is very difficult with the current competition level. It might take you 5-10 offers before getting your dream home into escrow. What does this mean for timelines? You need to give yourself months to find a home right now, not weeks. Yes, you can definitely get lucky and have the stars align right away but that isn’t common. If you are in a lease or need to move out of your current place on a certain date, you need to make sure you are giving yourself adequate time to find the right place and close escrow on it. If not, you will get more and more stressed as you get closer to your move out deadline and could end up getting desperate and buying a home that you really shouldn’t have.
I tell buyers you want to give yourself a minimum of 3 months in this market to find a place and close escrow, if you have very specific criteria, you will most likely have to expand that timing a bit due to the low chances of the perfect home hitting the market quickly. One exercise I find helpful for buyers is to go onto Zillow or Redfin, set up an email alert for the type or home, location, and price range you are ideally looking for. Keep track of how many homes get sent to your email in a week that you would be interested in checking out/placing an offer on. If you are seeing 10-20 new homes each week then your chances are better at getting into escrow quickly, if it's less than 3 then make sure you give yourself plenty of time to find a home because you might need months.
OK you made it to the end, if you are a buyer reading this you might be felling a bit depleted and depressed about the current state of the housing market for you. However, I do want to end on a positive note. As we head into June and July we should start seeing inventory rise at a quicker pace, which will give you more options to choose from. You also have to remember that when you do find that perfect place and get into escrow you will be able to get into your home and you’ll be able to look back and gloat over what a good interest rate you got. Like I said before, if you are looking to own for the long term, focus on the affordability of the monthly payments of the homes you are placing offers on, in the long term the housing market prices have always gone up so buy based on what you can comfortable afford now and enjoy the pride of homeownership for years to come. Finally, know that when you do get into your home you will never have to worry about watching your money go down the drain as you pay to rent/lease someplace or what you landlord is going to raise your rent to next year, congrats you now have a predictable payment for the next 30 years and a home to call your own.
