Buyers: Be Prepared When Making a Contract Offer_PART IV

Conditions in the Contract Offer

A contract to purchase real estate includes a sale price, mortgage to be obtained (more often than not) and a closing date. However, there is more to a contract to purchase than these details, and that includes the content language in the contract document. The form of the real estate contract prepared by a REALTOR® or real estate licensee can be different from one real estate company to another, from county to county and from state to state. I am providing the Real Estate Contract from the New Jersey Association of REALTORS® for review purposes.

While price and terms are important, the most overlooked aspect, and perhaps a very important consideration for the seller, are the conditions in the real estate contract offer. All real estate contracts have conditions. A condition in a contract offer can be more easily explained as a subject to event.

The most common condition is that the contract is subject to the buyer obtaining mortgage approval and a written mortgage commitment within a certain time frame in the amount required to purchase the home.

Another very common condition is that the buyer performs a termite inspection, home inspection and perhaps a radon inspection within a certain time frame. These type inspections

are so common that they are pre-printed and included in the real estate contract as shown above. Other important inspection clauses that are also found in real estate contracts are the lead based paint inspection, underground oil tank, well water, septic tank and others which may be pertinent to the location of the property.

As previously mentioned, these type conditions are found in most all real estate contracts. What is important and needs to be reviewed is that as a condition, these subject to clauses can be a concern to a seller. The concern is not that a mortgage needs to be obtained or that a home inspection needs to be done, but it is a question of in what time frames will these be completed by the buyer.

In most circumstances, the seller has agreed to take their home off the market during the time frame in which the buyer needs to obtain mortgage approval and conduct their inspections. It is that time frame, if too long, which could be questioned by the seller during a contract presentation.

Time frames vary in obtaining mortgage approval and in conducting inspections. It is important that a buyer understands the process and time frame in submitting a formal mortgage application and the time frame in conducting the required inspections and obtaining the written reports. A diligent REALTOR® or Buyer Agent can provide valuable assistance and guidance in suggesting appropriate time frames. If the dates are too long, they may have a negative response from the seller in contract negotiations. If the dates are too short, complications could arise, such as waiver of inspections or perhaps even voiding of the contract of sale. The sooner the buyer can complete the conditions in the contract, the more comfortable the seller will be in knowing that there home will be under contract with all contingencies being satisfied.

There are other subject to contingencies that can be more of a concern to a home seller, such as subject to the sale of the buyer’s present home, especially if it is not yet on the market for sale or not under contract. While it is understandable that a home buyer needs the equity from their home sale in order to purchase another home, many sellers may not be willing take their home off the market and wait for the buyer to sell their current home.

A buyer with a home sale contingency is a much weaker buyer than a buyer without a home sale contingency. However, a buyer who has a signed contract on the sale of their home would be in a much better negotiating position than one without a sales contract. It is important that the REALTOR® or Buyer Agent is completely informed and aware of all circumstances related to the buyer’s financial needs in order to provide professional guidance and assistance.

When submitting a contract offer, so much is dependent on the seller and what time frame they have in selling. Some sellers are extremely flexible in when they would like to close, others are buying another home and need a specific date and others just may need a fast closing due to relocation or otherwise. The seller’s situation and home sale needs will be the factor in whether a buyer’s home sale contingency is something that may be acceptable or something which is completely unacceptable.

While price is an important aspect in contract presentations and negotiation, the conditions in the contract, such as mortgage terms, inspection time frames and other contingencies, are the most overlooked details by buyers in making a contract offer. In fact, it is quite common that the conditions in a contract offer are the reason the offer is not accepted and not the price.

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Factors That DO NOT Affect the Value of Real Estate_Part IV

How Much The Seller Needs

Whether a home owner has owned their home for 30 years and has paid off their mortgage, or is one who has owned their home for only a few years and has an equity loan on top of the original mortgage, the market value of their home is what it is. Market value has nothing to do with mortgage balance, whether the home is in Iselin, New Jersey, Colonia or Edison, in Woodbridge Township, in Middlesex County or in any other state.

Likewise, where the owner is planning on moving to another home, what they need to spend for their next home does not have an affect on the value of their current home. Their home is worth what is worth, whether they are moving into a home they already own, buying a less expensive home or are purchasing a much more expensive home. Market value has nothing to do with the amount the owner needs to purchase another home.

In either scenario, there is a reality however. In order to sell a current home, there needs to be sufficient sale proceeds to pay off the existing mortgage(s) and, or, provide enough equity to enable the purchase of the next home. For many owners, it is a matter of choice. Is it worth it to me to sell my current home and move forward or not? For others, the options are not that simple.

Home buyers make their purchase price decisions based on how much a home is worth to them, not on how much the seller is asking or how much the seller needs. Buyers look and compare one home to another. They ask to see comparable sales, and they base their contract offer on what the real estate market is saying the value of the home is. A home buyer will not pay more for a home than it would cost them to find a similar home, in similar condition and with similar amenities, commonly known as the "principle of substitution".

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Factors That DO NOT Affect the Value of Real Estate_Part III

Actual Cost of Repairs and Improvements

While it is true that that the condition of a home has a definite affect on its market value, and that a well maintained home will sell for more than a home in need of updating and repair, the actual cost of making repairs and improvements may not be equal to the increase in market value. Why? Cost does not necessarily equal value in real estate.

Repairs and improvements are two different things.

A repair corrects something that is broken or not working properly, and does not necessarily add value to a home when fixed. Some types of repairs are considered necessary repairs. A leaking faucet, broken windows, clogged drains, screens with holes, gutters hanging from the roof, missing downspouts, cracked concrete walkways, among others. Repairs like these can be considered deferred maintenance, and are considered minor repairs. They are maintenance related and are easily noticed by buyers. They draw attention and become distracting to buyers when viewing a home. If not taken care of, conditions like these will definitely have a negative impact on the marketability of a home, which then will have a negative affect on market value. When repaired or fixed, these type repairs make a home more saleable, not necessarily more valuable.

In other words, just because repairs like these cost $1,500 does not mean that they have increased the value of the home in the same amount. However, if not repaired, they could result in a loss in value of more than the cost to repair and, maybe more important, the loss of potential buyers because they feel the home needs too much repair and work.

What about the roof, exterior siding, windows, heating system, electrical system, central air conditioning system and hot water heater? These type improvements are more costly than the repair items noted above and can have a larger impact on marketability and market value. While a buyer may not rave about how beautiful the furnace looks because it is now, they will definitely have negative thoughts on a home where the furnace is original and is 50 years old. A new or newer furnace will be more efficient than the original, save the buyer money in monthly fuel bills and, more importantly, is an item that will not need to be replaced by the buyer in the near future.

These type items relate to the effective age of a home. The chronological age of a home can be much different than its effective age. There is a life expectancy in how long a roof will last, how long a furnace will last, etc. A 50 year home can have an effective age of 20-30 years when improvements like these have been made. When comparing homes, buyers are concerned with near future essential repairs and improvements which need to be made, especially those that are costly, like these.

Quite often buyers will pass up on homes they are interested in simply because they need too much near future updating, even if the asking price is appropriate considering the condition of the home. Why? Very often buyers just do not have the time or inclination to take care of major updating, but more importantly, they may not have the additional cash to make the improvements after closing as they have exhausted their savings for the down payment and closing costs.

Should a homeowner replace the original 50 year old furnace when they are ready to sell? Should they invest the $2,300 to $4,000 and have the furnace replaced? A furnace is an integral system to the home, and something buyers are concerned with. However, it is just one aspect of the home. The question relates more to whether it will cost more to sell the home with the original furnace than what it would cost to replace it. If the furnace is the only item requiring immediate attention, it may not prevent a sale. However, if there are other must do improvements, the furnace will have a negative impact on market value.

Decisions like this have to take into consideration the overall condition of the home. When investing in a new furnace today and spending $2,500, what is the likelihood of receiving a full return on the investment? The reality is that it will help sell the home, but not necessarily at a price to recapture the actual cost of new furnace.

What about the home where a state of the art kitchen or main bath are new improvements made by the owner? Can a seller expect to recapture all or most of the cost? Improvements like these are very costly, and will definitely add to market value. But will the seller recapture all or most of the cost? That depends on various other factors, such as how recent the improvements are, what the overall condition of the home is, the price range the home is in, where the home is located and, more importantly, what buyers are expecting to see in a home like this.

With regard to major improvements in a home, all too often the improvements are made for the benefit and enjoyment of the owner and not solely for recapturing the total investment! Each and every major improvement to a home is unique. There is no rule that guarantees an exact amount of value added for specific improvements.

There are studies available that approximate increased values for specific improvements, but every real estate market area is different, whether you own a home in Iselin, New Jersey, Edison or Colonia, in Woodbridge Township, in Middlesex County or any other state.

For more information, just Google “cost versus value improvements”.

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Factors That Do NOT Affect the Value of Real Estate_Part II

When the Home Was Purchased

Whether a home was purchased twenty five years ago, three years ago or just last year, the purchase price was the value when it was purchased, and has nothing to do with it’s current market value when being sold, whether you are selling a home in Iselin, New Jersey, Colonia, in Woodbridge Township, in Middlesex County or any other state.

A seller with twenty five years of home ownership and substantial equity has the same right to fair market value as an owner with just 3 years of home ownership and perhaps little or no equity accumulation.

Decisions to sell may be more difficult for owners with short term ownership, especially if real estate values have not increased or possibly dropped since the home was purchased. Home owners with short term ownership may have mortgage balances higher than the value of the home and a sale would require bringing cash to the closing to pay off the mortgage balance.

Home owners with long term ownership and substantial equity can make selling decisions easier than owners selling their home without the benefit of real estate appreciation.

In either case, the real estate market is the real estate market, regardless of when the home was purchased, and the home is worth what is worth.


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Buyers: Be Prepared When Making a Contract Offer_PART III

Terms of the Contract Offer

Initial Deposit

Be prepared to write a deposit check when making a contract offer to purchase real estate. Commonly referred to as a Binder, more commonly known as the initial deposit, this is the check made out to the Selling Real Estate Office when submitting a contract offer. In simple terms, it is a good faith deposit to express interest in purchasing real estate.

What is the required amount of a binder deposit? There is no law as to a required amount, but local real estate practices may determine what is acceptable. Common sense should prevail in determining the amount of the Binder deposit however. Writing a check for $100.00 shows good faith, but what kind of statement is that making to the owner when the contract offer is presented to them?

Would a more substantial initial deposit, say $1,000.00, make a stronger statement? How about $5,000 as an initial deposit, or even more? Wouldn’t a larger initial deposit check make a stronger impression with a seller in making a decision to accept a contract offer or in contract negotiations?

The Binder is generally not deposited by the Real Estate Broker until there is offer and acceptance, a signed contract of sale. However, there are State Real Estate Licensing Laws which regulate how long a Real Estate Broker can hold a deposit check without depositing it into the Company’s Trust Account. In cases where contract negotiations are prolonged, perhaps beyond five business days, most Real Estate Brokers will either deposit the check into their Trust Account during contract negotiations, or ask the buyer to write a new check as contract negotiations continue.

If the contract offer is not accepted, the Binder is returned to the buyer. If the contract is accepted and signed by the owner, the Binder will be deposited in the Broker’s Trust Account and will be applied to the buyer’s down payment and the purchase price.

Earnest Money Deposit

Commonly referred to as the second deposit, this is the additional upfront deposit made in the purchase of real estate and is also part of the buyer’s total down payment. The earnest money deposit could be 10% of the purchase price depending on the real estate market the home is being purchased in, the price range or the total amount of the down payment being used by the buyer, whether the home is in Iselin, New Jersey, Colonia or Edison, in Middlesex County or in any other state.

It is quite common in many real estate markets that homes are purchased where the total down payment is less than 10% of the purchase price. In these type real estate transactions, the earnest money deposit will generally be some portion of the total down payment, or perhaps the entire amount of the down payment in a transaction where the buyer has a total down total payment of 3.5 % to purchase a home. The amount of earnest money deposit is something that may eventually be determined during contract negotiations.

The earnest money deposit is generally paid within a certain time frame or after completion of Attorney Review. It is generally paid to the Selling Broker, unless local real estate practices provide otherwise, or there is a change made to the contract of sale during the Attorney Review process where the Seller’s Attorney requests to hold all deposit monies in their Trust Account.

There are times when a contract of sale is terminated after Attorney Review, such as home inspection problems, mortgage denial and others. In those situations where a contract to purchase is cancelled in accordance with the terms of the contract, all deposit monies previously paid by the buyer are refunded.

Many buyers, and buyer agents, under estimate the importance of these two aspects of contract preparation, and the benefits they can provide in contract negotiation.

The Initial Deposit and Earnest Deposit can be the difference in whether a contract offer gets accepted and signed by the seller, especially in multi-contract presentations.

Mortgage Considerations

A contract to purchase real estate will include a mortgage contingency clause which provides a time period for the buyer to apply for a mortgage of a specific amount and obtain mortgage approval in order to complete the purchase of a home. This is commonly referred to as the "mortgage contingency clause" in real estate contracts. The time frame for mortgage approval varies from buyer to buyer, and is determined by the type of mortgage being obtained (Conventional, FHA, and VA) and how complete the mortgage pre-approval process was. A buyer’s Real Estate Agent or Mortgage Representative can help in providing more information about the time frame required in processing the formal mortgage application and obtaining the written mortgage loan commitment.

It is recommended that a buyer reviews their Mortgage Pre-Approval when submitting a contract offer, and provide a copy to their Buyer’s Agent. Review is necessary in order to verify that the mortgage amount in the contract offer is the amount in the Mortgage Pre-Approval, or less.

All too often buyers begin their home search in one price range and later find that they need to increase their price range, and increase the mortgage amount, to find a home they like. Obtaining an updated and revised Mortgage Pre-Approval to reflect the mortgage amount in the contract offer is highly recommended.

Mortgage Interest Rates and Mortgage Rate Lock-Ins

Another important consideration is mortgage interest rates. Mortgage interest rates may fluctuate from day to day and mortgage rate lock-in may vary from one mortgage lender to another. Buyers should obtain a current interest rate quote when making a contract offer as the current mortgage interest rate may be different from the quoted interest rate when the Mortgage Pre-Approval was issued.

The interest rate affects mortgage payments, mortgage qualifying and price range.

Closing Date

A closing date is included in the contract offer. This date may be important to the seller in contract negotiations as it relates to their time frame in moving. It is also a consideration for the buyer with regard to their time frame in moving and perhaps with a mortgage interest rate lock in.

Mortgage lenders have various interest rate lock-in policies. Consult with the Mortgage Representative to obtain more information on interest rate lock-in policies and length of interest rate lock in period.

A contract offer to purchase real estate includes sales price, mortgage to be obtained and down payment.

Down Payment

The buyer’s down payment is somewhat fixed. It is generally the amount of money a buyer has saved, or has available, for the purchase of a home. However, there are minimum down payment requirements depending on the type of mortgage to be obtained.

When applying for a mortgage loan, the lender does verify the buyer’s assets. Commonly referred to as deposit verification, this occurs during the mortgage application process to insure that the buyer has the funds for the down payment as well as additional monies for closing cost expenses.

In making a contract offer, it is highly recommended that a buyer be aware of the various costs involved with the purchase of a home and obtain a reliable estimate of closing costs either from their Buyer’s Agent, Mortgage Lender or Attorney. Some of the costs related to closing title are directly related to the home being purchased, others are fees paid for services provided and then there are the costs related to obtaining the mortgage.

It is quite common for buyers to get assistance for the down payment, or closing costs, from family members. The mortgage lender will require a “gift letter” from the donor, and will also verify that these monies are available. While it is great that a family member says they will help in the home purchase, it is very important that a buyer in this situation obtains a commitment for an exact amount they will be given and explains the verification process in advance to the donor in order to avoid any complications later. A mortgage lender can provide specific details.

There are times when gift money is provided in advance of the home purchase and mortgage application. It is important that the buyer creates a paper trail with a copy of the check received, and the deposit slip depositing the money in their bank account. During the mortgage application process, the lender will ask for an explanation on any recent large deposits.

Mortgage Payment

The mortgage amount, and monthly mortgage payment, is determined by the buyer’s income qualifications. There are buyers who choose to maximize the amount of the mortgage as it relates to income qualifications, while there are other buyers who choose to mortgage less than their income warrants in order keep the monthly mortgage payment at a more affordable amount. That is all about personal choice.

When applying for a mortgage loan, the lender does verify the buyer’s income, requires copies of current pay stubs and prior income tax returns. Commonly referred to as income verification, this occurs during the mortgage application process to insure that the buyer has sufficient income to qualify for the mortgage loan requested.

A monthly mortgage payment includes principal, interest, real estate taxes and home insurance, commonly referred to as PITI, and is what is estimated in the pre-qualification process. During the mortgage pre-approval process, mortgage lenders calculate mortgage qualifications based on the current mortgage interest rate, estimated real estate taxes and estimated homeowners insurance. However, mortgage pre-approval for a specific mortgage amount is only an estimate.

There are situations where the pre-approved mortgage amount and price range is beyond affordability for a buyer. This can occur if the mortgage interest rate increases during the home searching process, or during the mortgage application process and the interest rate was not locked in. Likewise, if the home to be purchased has higher real estate taxes than what was estimated in the pre-approval process, the monthly mortgage payment will be higher and may be beyond affordability.

It is highly recommended that a buyer knows what the monthly mortgage payment will be based on their contract offer and match that payment to their mortgage pre-approval.

It is not purchase price which determines affordability, it is the monthly mortgage payment!

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Factors That DO NOT Affect the Value of Real Estate

A Home Is Worth What It Is Worth

When selling a home, there are many factors which affect market value and the eventual sale price of a home, such as location, condition, size, amenities, features, improvements and upgrades, local economic conditions, the current real estate market and mortgage interest rates, among others. Some of these factors are within the control of the owner, and others are beyond the control of the owner, whether you own a home in Iselin, New Jersey, Edison or Colonia, in Middlesex County or any other state.

The definition of Fair Market Value includes various terms such as: the most probable price which a property should bring in a competitive and open market under all conditions requisite to a fair sale; the buyer and seller each acting prudently and knowledgeably; assuming the price is not affected by undue stimulus; normal marketing time period, informed buyer and seller.

In helping owners obtain a Market Value estimate for their home, REALTORS® can provide a Comparative Market Analysis (commonly referred to as a CMA). A thorough Market Analysis will include full property details and pricing information of the most comparable type properties currently listed on the market for sale, recent pending or under contract sales, those where a contract offer has been accepted, recently closed sales transactions as well as listings which have expired, those that did not sell during the marketing time period. The purpose of a report like this is to provide the owner with factual information to help them in their decision to sell by providing a recommended asking price and estimated sales price. While no two properties are truly identical, an analysis like this can provide home owners with the most reliable method of obtaining a market value estimate for their home.

In the process of reviewing the pricing information however, it is quite common for owners to question the market value estimate and pricing recommendations. The questions and concerns they have about price, while valid in their situation, do not have an affect in determining the market value for their home. What are some of the factors that do not have an effect in establishing Market Value?

...The Price Paid for the Home...

The price paid for a home one year ago, three years ago, five or ten years ago has nothing to do with what the home is worth today. Real estate values exist at a fixed point in time. A home may have been purchased for $300,000 three years ago, and may be worth $315,000 today. Someone else may have bought a substantially similar home for $250,000 five years ago and it is worth $315,000 today. That is a drastic difference in equity in a relatively short period of time.

Real estate ownership has been blessed with appreciation in home values, but that appreciation is not always in a straight line. Real estate values are not static. Over the long term, an investment in real estate is generally considered the most valuable type of investment, one with the best financial returns. Over the long run, it is probably the best investment people can make.

Depending on the market conditions when the home was purchased, some owners were fortunate and purchased in a buyers market before the increases in real estate values like we just recently witnessed between 2001 and 2006. Others may have bought at the end of a strong real market and were forced to pay top dollar in a highly competitive sellers market, as many owners are experiencing now who purchased their home late in 2006. It is economic market conditions, the economy, employment, mortgage rates, supply and demand, that create changes in the real estate market and cause real estate values to increase, remain stable and perhaps drop at different periods of time. These are the factors that are beyond an owner’s control.

All owners would like to get the price they feel they should get for their home when they choose to sell. The reality is, their home is worth what it is worth, and that is the price a willing buyer is willing to pay. A buyer will not pay more for a home than what they would have to pay for another home with similar features and amenities in a similar location, something called the “Principle of Substitution”.

It is for that reason why so much reliance is placed on sales data when establishing market value, and not personal emotions or personal circumstances.

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Buyers: Be Prepared When Making A Contract Offer_Part II

The Contract Offer: What Price to Start With

When a decision is made to make an offer to purchase a home, be sure to go back and take a second look. It is so much easier changing your mind about a home before a contract offer is made than after a contract offer is accepted and signed by the seller. This second appointment would be a perfect time to bring along others who may have an impact on a buying decision, such as parents, friend, contractor, etc.

Go through the home a second time and look beyond the owner’s décor, whether it was the home just previewed, the first one seen earlier in the day or the one previewed last week. Why? There are many reasons, but most importantly is seeing if the second look creates the same good feeling as the first, and then taking a closer look to see if there are aspects of the home missed during the first preview which may alter the decision to submit a contract offer.

So what is the right price to start with?

That depends on a number of things, such as the risk to losing the home to another buyer, how close to market value the seller’s asking price is and what is the maximum price willing to be paid for the home. As mentioned in the previous post on this topic, there is no cardinal rule that there must be some fixed amount that a seller will negotiate from their asking price. Even though the current market in 2009 is considered a buyer’s market, whether the home search is in Iselin, New Jersey, Colonia, Woodbridge Township, Middlesex County or any other state, there are many properties on the market for sale where the listing price is at, or very near market value, and where price negotiation will not be as great as other properties on the market that are priced well above market value.

In fact, don’t be surprised to find that there are multiple offers being submitted and negotiated. This does occur, more often than most buyers imagine, and it happens when a seller prices their home to sell and sets a very attractive list price to attract buyers and sell fast.

When negotiating a real estate purchase offer, the seller wants to sell at the highest price and the buyer wants to buy at the lowest price! The reality is that a home will sell for what is worth, whether a seller is looking to get more or a buyer wants to pay less. Contract negotiation is all about getting agreement.

Often overlooked by home buyers at this point in the home buying process is the experience and value of their buyer’s agent in the contract negotiating process. In preparing to make a contract offer, a buyer needs to obtain as much information as possible, and much of that information will be provided by their buyer agent.

This is the point in time when buyers need to have trust in their agent when asking for recommendations and guidance. The truth of the matter is that this is the point in time when the buyer must know and believe that their agent’s concerns are for them, and not for themselves!

An experienced buyer’s agent should prepare, provide and review a market analysis of the home and provide the history of the listing with their client when preparing a contract offer. In addition, a buyer should also a obtain a sellers disclosure if one is available and obtain additional background information about the home, such as the sellers desired closing time frame, if any offers were previously submitted or if a contract offer is currently being negotiated. This is information buyers should have when preparing to make a contract offer. Information like this is invaluable when deciding what price to offer and how to negotiate when submitting a contract offer.

So how does a buyer start negotiating to purchase a home? That depends on the home. There are homes on the market for sale that are simply over priced, some slightly over priced, and then there are those listings that are priced to sell. There are home sellers who are pricing their home at three year ago price levels and will sell only if they get there price, there are sellers who must sell within a certain time frame and there are sellers who just have to sell.

In contract negotiations, one size does not fit all.

While there are many homes on the market, only one buyer gets to own the home in contract negotiations. A home buyer needs to decide how much they want a specific home and at what price!

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