In American culture and society, we are proud to be a “nation of homeowners.” And rates of home ownership in neighborhoods, communities and metropolitan areas are often proxies for evaluating stability of real estate values/tax base for support of schools and local government services, levels of citizen civil engagement, etc. Of course, owners of rental property are quick to point out that they pay taxes as well, and renters/tenants are well aware that a significant percentage of the rent every month goes towards those taxes. So all of us are engaged in the support of our communities, whether our names are on the deed or on a one-year lease.
Despite a number of financial advantages for homeowners, I suggest that it is pretty rare for many of us to really own real estate—at least in a way that correlates to our thinking of the way we “own” personal property (“stuff”). Let’s start with the fact that most of us don’t buy real estate with cash; we borrow money through a residential mortgage.
Depending on the type of loan—and the size of our wallet—we can either put a substantial down payment (equity) or perhaps purchase with no down payment. In the latter case, perhaps a VA mortgage with loan costs added to the loan balance, we have exchanged a 30-year debt for keys to property, with not only no equity in the property but also actually “negative equity.” We then owe more than the property sold for and is worth, even if real estate values remain stable. Those affected by the decade-long real estate depression that began in 2007 know that values can go south pretty dramatically, though we certainly hope not to see another such crisis anytime soon. And it isn’t cheap to sell, with transaction costs hovering close to 9 percent of property values.
When we buy a property with a loan, there are four basic requirements for borrowers that are imbedded in the loan. Violation of any of these can cause the loan to be “called.” Without resources to immediately pay off the called loan, the result is going to be either forced sale or foreclosure. In other words, you move! The basic four lender requirements are:
1. Payments must be made in a timely fashion. This is pretty self-explanatory. Lenders are not in the charity business.
2. Taxes must be paid on the property as required. Cities and counties need to keep schools and essential services operating and will put tax liens on property with delinquent taxes. This is why the majority of lenders use escrow accounts for payment of taxes, ensuring that they are paid and paid on time.
3. Property is kept insured. A fire or flood loss to a property can wipe out a home and its value in minutes. Lenders do not want to have to endure losses to their investment (in “your” home). Of course, neither do the homeowners/residents. Typically, insurance is paid out of escrow to make sure that coverage is uninterrupted and premiums are paid on time.
4. Property is maintained. This has multiple meanings that are easily related to the other three items above. If a homeowner does not replace a failing roof, for example, it can result in a canceled insurance policy. A yard full of junk may need to be removed by the city, with a resulting special tax lien placed on the property. And a decade or more of deferred maintenance can result in a financial snowball that is so large, a homeowner cannot pay for both repairs and his mortgage.
If someone does not have a loan on his or her property, it is “free and clear” of obligations, right? Not so fast! Taxes still have to be paid and insurance and maintenance are absolutely necessary to keep the value of the property and protect the family assets in the event of an accident on the property. These are significant considerations that have real price tags attached. Flood insurance and HOA dues add to the minimum monthly “rent” calculation for debt free homeowners.
In some senses, we never truly “own” real estate, even if our home is paid for. But there is an emotional tug to home ownership that is undeniably part of the “American Dream” and hardwired into our cultural DNA. In my opinion, we currently have one of the best buying opportunities I have seen in more than 30 years. When informed buyers are looking at all the costs, including those that endure even after the mortgage has been paid off, now may be the time for their homeownership dreams to be realized.