“When you create a new Comparative Market Analysis (CMA) a couple of months later on a similar home just down the street, don’t you want to know if that sales price included seller contributions?”
This is a quote from Jillayne Schlicke on her excellent post on today's Rain City Guide "Winds of Change; The Rise and Fall of the Subprime Market." Her post is a reflection on the changes in the mortgage industry. In it she asks this question I've which been thinking about for years regarding the seller contributions/CMA cycle. I'm glad to see someone else verbalizing the same concern. I've been wanting to write a post about it for a while.
To summarize what I'm about to write: comparable sales data are still being inflated by the 'seller contributions' mechanism and that is a problem.
Unless someone's got a secret that I don't know about I'd say there's been significant home appreciation created by lender guidelines that allowed for the inclusion of seller contributions.
Often when a deal is negotiated a borrower will look at the recent sales data for comparable homes. They use these comparable sales numbers to derive a price they're willing to pay for the property. Most of us are obviously very concerned about paying "too much" or, "more than it's worth."
With the price being established, the buyer can opt, with their bank's approval, to finance some or all of the closing costs and perhaps some other aspect of the purchase. In order to this, they purchase price is inflated. For example if the seller agrees to $100,000 a buyer may want to finance an additional %3 and offer the seller $103,000, with 3,000 going back to buyer.
It does open up the eligible buyer pool for the seller. However beyond that they don't receive much value. These 'contributions' are likely to cost the seller more in the form of taxes due to the increased price.
When the home is sold the number reported with the county and with the MLS is $103,000. Some MLS's make it possible to put in the actual purchase price. If you're a builder, the number you want to see recorded is the higher number. This is why builders offer bonuses, long before they'll lower the price. They want to be able to sell their other homes for the highest number they can even if they concede on the back end. Each property they sell at the higher number helps them sell the next unit for more. County records will only indicate the higher price, as the price paid. These are the numbers that companies like Zillow use to determine their estimates.
I had a deal in which some $20,000, was to go towards 'current and future updates,' which essentially meant the buyer wanted to finance the furnishing of the place. 20,000 is quite a bit of money to inflate a homes value, and I am not an appraiser, but I doubt many appraisers, or agents have been able to do much analysis these last few years without using these skewed numbers. This home passed appraisal, without a hitch. The appraiser is an employee for the bank, and everybody involved had full disclosure. But what about the next buyer/seller pair?
In the $100,000 example above when the next buyer is looking at comparable sales, they are looking at numbers that are based upon that 103,000 number. With a few homes selling in a given complex or neighborhood, each at greater inflated values, the neighborhood price could quickly be inflated 9% or more.
So how much property inflation can be attributed to this phenomenon? Of course low interest rates, and lax lending guidelines have been a part of the rapid rise in home prices. However, I know that this little tweak in the home purchase has helped push things up significantly.
In large part a home's value is really what someone is willing to pay. However with comparable numbers going up, what someone is willing to pay is being artificially inflated. Inflation of this sort, in the long run is harmful. This phenomenon could be a significant factor in adding to inflation of the over all economy.
I could be wrong but I think that real estate agents, appraisers, and county governments are responsible for collecting and utilizing what I consider to be skewed data. Perhaps the tide has been too strong, and we've all grown complacent. Lending guidelines are going to change as the industry corrects itself, but the problem will likely remain. The mechanism is here, it will likely be for a long time. Perhaps the price given to the county should be the true price, given that none of this money ever goes to the seller, and is not part of the seller's consideration. The data we now use to value homes however must be augmented to correct for this. I don't believe anyone has ever done that in a systematic way or on a large scale.
When doing my own CMA's I have called the agent's to check on whether or not there were seller contributions involved in a comparable sale. However after a while it didn't seem to be helpful. If I was the only one doing it, then it didn't help my case, someone was always prepared to pay more based upon the inflated numbers. If you're a buyer and aware of this you're likely the minority.
It's clear to me that something needs to be done about this. It's possible that with a tighter housing market this will be less of an issue, however determining whether it is or not, and what to do about it is still important.
Thanks Rich. I think the problem is huge and systemic. I have used this a time or two to help bring down the price on a home with a reluctant seller and their agent. However, I've found that it doesn't necessarily matter that I call when doing comps. It seems as though, for now, most everyone is content with using the inflated numbers.
Until the county changes how they record things, what's reported to the county changes, or this mechanism changes, I believe the numbers are here to stay.
Caleb, our MLS Sytem has a field for Seller concessions. The last condex we just put under agreement we used the seller concession from a comp which was 10K. Solds were 180K with seller concessions. On the markets were 189,900 and 189,000. These properties are very similar and they have been on a long time.
We listed ours for 179,900 and U/A with first buyer. Lucky ? Maybe, but priced to sell. Sellers concession helped see where market was heading.
Caleb, very good topic. In my market seller concessions of 3 to 6% are normal and expected. When I am pulling comps I do take this into consideration. A CMA is a "market analysis" where an appraisal is an "opinion of value" this could very well be 2 different figures since an appraisal is based on historical(sales) data and a CMA id based on historical and current(active) data. Neither, the appraiser or the agent is checking the condition of the comps. So in both cases assumptions have to be made.
In my market, I can safely assume, that at least 3% of the purchase price is a seller concession on the higher sales prices and on the lower sales prices I can safely assume there were no concessions OR it was a property condition issue. So if I have 6 recent sales from say $100,000 to $108,000 I can make the assumption that the true market value of the subject is $103,000 to $106,000, if the property is in average condition for my market. If there are 2 other sales at say $95,000 and another at $115,000, I throw them out. From a REALTORS(R) perspective, if I have more than 6 or 7 comps(which I almost always do) my analysis is going to be very very close to market value. If I only have 3, I need to pick up the phone and make some calls to verify concessions and condition. An appraiser should be picking up the phone on ALL appraisals since they are only using 3 or 4 comps.
So are values inflated by seller concessions? Not if concessions are normal for that particular market. If concessions are not normal, for the market, then values should not be affected, either. Because if the sales price is inflated to cover the concessions, there would be an appraisal issue, since the sales price will be out of the norm. I think I rambled too much. Does this make sense?
Caleb,
The truth is in your post. The cat is out of the bag. Spilt Milk does not go back into a container. This is a Lending created problem. It is there's to fix if they choose. In reality most buyer's looking at homes on the market will establish a fair price in there mind for what they are seeing. Many Buyer's going into the market place today will finance some of there Closing costs. I would not suspect that a Buyer having made the choice of what appears to be there perfect house, would then say I want the seller to reduce the price by $5,000 as every one else has artificially pushed the value up because of the very thing that I want to do. The only thing that will stop this is if the lending institutions decide it is no longer an acceptable practice.
Thank you for your perspectives everyone.
Bryant and Jay, Irene, Rich, and I all are all operating out of the Puget Sound area where comps are varied and there is no 'normal.' However when checking things out, and in conversations with others it is clear to me that this is often not considered, if it is sometimes it doesn't matter, because the clear majority aren't looking at it.
When I enter a sale price I personally enter the actual sold price and not the price on the contract. But I know this is done inconsistently where I am. The county's numbers are the same as the contract number, so they are inflated.
Where do the numbers for the majority of the transactions in your market come from? If the majority are from the true numbers then how long has this been? I'm curious because it appears this area is lagging behind.
If they If there is a clear separation that is great, but what do your counties record?
I'm hoping to hear some appraisers in here too.
In the Las Vegas market it's not uncommon to see seller contributions of $5-10,000 or more. If I'm just doing a general market report I go on sale price, but if I'm doing comps for a client I always show the seller contribution and then figure an adjusted sale price.
A reverse situation exists with builder incentives on new homes. These are not always included in the sale amount shown in tax records, which results in understated prices.
Herb, I agree that the problem comes from a lender created mechanism, but I wouldn't blame the lender's. Even a cash sale can have other 'consideration.' Included in different forms. Being a lender phenomenon has only taken it to a greater scale. I think the inadequacy here falls on the part of county governments, appraisers, and MLS's (and the agents that are a part of them.).
At least in my area the system is inadequate for accounting for these nuances. I have personally seen developments and condos shoot up in price, because at each stage it appears that people have been paying more, when in actual fact it has more to do with when you purchased in this cycle.
Bryant - I was going to say something along the lines of your last paragraph. The property has to appraise for the sale price. Therefore, the appraiser had to feel that the property was worth that price.
The difference is that the buyers are taking the additional equity out at the time of purchase instead of doing a home equity loan later. Think about it. How many homebuyers bought a home and within a few months to a year took home equity loans or re-financed for more?
It is not the buyers or lenders fault that the seller left money on the table.
I love this topic and was doing a buyer's CMA back in January. The house fell in an area that was "entry level housing" type of stuff and I found ONE house that had seller's contributions. THat is a big eyeroll and give me a break! I need the information to negotiate, appraisers need the information to arrive to a good number, banks need to protect themselves with those appraisals!
With this market I bet close to all of those homes sold had seller's contributions and the information was not disclosed properly!
Thanks for a great post and interesting perspective Caleb!
MetroList, the Denver area's MLS database has addressed this very issue. Now when we input the "sold" data we even indicate how much went toward buyer concessions and/or seller paid closing costs. Agents who know what they are doing use this information to re-calculate the "actual" selling price of a home.
I have noticed while agents are inputting the correct data, home builders are not. At least the few are was recently looking at.
kk
I always use "net" prices when doing CMAs. Problem, agents do not always enter the complete info in the MLS.
Bottom line is, you just do the best you can with what you have. Best to really KNOW THE NEIGHBORHOOD and then you don't have to rely so much on information from others.
Lets take your numbers and see how much of a problem it is mathematically. What percentage of transactions have seller contributions? 1 out of 5? 1 out of 6? Lets use a 1 out of 5 ratio. And out of the 1 out of 5 figure lets say 80% use the maximum lender contribution of 3%. That means that 20% of all home sales have a 2.4% seller contribution. Lets be really liberal with the facts and say that in 90% of the cases the the whole 2.4% was over the "real" value of the home. What is the total "problem" expressed as a percentage?
I left my HP on my desk but my manual calculation comes up with .432% Total dollar value on a $200,000.00 purchase is about $864.00.
These are part of the dynamics of a capital market system just like paying 5, 10, 20 times more per square foot to live next to a lake or what ever reason compels a buyer to pay more for a home.
I could go on and on but I think I am going to write a post complaining about lenders so I can have 40- 50 people comment on my post.
Randal thanks for being so flip. No really I'm being sarcastic.
1. This isn't about lenders. Those responsible for this are not lenders, lenders just have a weird mechanism to handle this. I'll say it again, this is up to county governments, Listing services, Their agents and appraisers.
2. This goes beyond one in five in my experience it's over half in my limited experience, but that's only anecdotal.
3. The limit is occasionally up to 6%, although that is less likely now with changing guidelines.
4. Again anecdotally, I've seen these numbers have very real effects, and they are predictable, so much so that some sales strategies plan for such things when selling larger developments, raising prices are continually justified by prior sales. In one condo complex when 4 out of the last 5 units sold included seller concessions, and this goes unreported, the new numbers are used to justify a 3% increase. Not a method that follows your math. Then those new purchases offer that amount plus an additional seller's contribution.
5. We don't live in a capitalist system, we live in a managed economy. The somewhat autonomous and independent central bank works to control inflation rates so that this economy doesn't spin out of control like it did during the great depression. Real estate pricing has a significant impact on inflation.
6. Of course I could be wrong about this, but your answer doesn't show why, and your comment about a capital market system is way off the mark.
Caleb, all very good points and as you well know...a lot has to do with each State and each area in each State as to how the Sold price is handled. In the MLS system within the Sacramento area there is a space provided for concessions. In some areas I would assume there is not. I get calls all the time from appraisers in my area (since they know I am familiar with the homes) and they ask about concessions.
If you are dealing with a good appraiser they should be asking those questions prior to evaluating the house and rendering their value.
I think a lot has do with being very familiar with the neighborhood and knowing when there is an amount that appears inflated which would indicate concessions...a phone call to the Listing Agent to follow if the amount was not entered into MLS.
Since there doesn't seem to be an across the board MLS system that everyone uses with the same rules, it makes it difficult for some. Recently, I read a blog from San Diego where it was indicated that the Sold price doesn't appear for quite some time in MLS. Here in the Sacramento area as soon as we sign and record (possibly the same day), I put the sold price in MLS.
I can see where this could be a problem in some areas and Zillow of course would be way off with their figures. Good post for some area thinking.
Please explain the direct correlation between real estate appreciation and inflation. I am intrigued. And if that is the case why haven't we had run away inflation during the run up in home values.
Anecdotally, I have been in Mortgage Business for 20 years and have been involved in over a half a billion dollars in mortgages and I believe 20% is a fair representation. I have only been selling real estate for a little over 1 year but my experience is the same. You say in your response that " this isn't about lenders." Yet your post says and I quote "Unless someone's got a secret that I don't know about I'd say there's been significant home appreciation created by lender guidelines that allowed for the inclusion of seller contributions." I am not trying to pick at you, I object to the premise that lenders are inflating values. My opinion is that lender contributions is statistically far less of an effect than GREED!
Caleb,
Excellent post. Your post is a good reminder that we need to be on our "toes." Often times, it's difficult to glean this information unless we become feisty detectives. Thanks for sharing.
Caleb,
You are right. Because I have seen the same thing here in Portland Multnomah County. I certainly don't mean to put all the blame on the lenders. We all share in the responsibility. I am sure as well that FSBO's probably have all sorts of inflated prices like Farm equipment etc. added on.
In our County as well the recorded Dollar volume is very inconsistent. It is almost like a voluntary amount. I have seen properties in the past that Investors exchanged with each other and gave a sales price of $10 and that is what it showed. I have also seen where a person bought 6 separate houses in different neighborhoods purchasing all from the same seller on one sales agreement. The recorded amount on each house was for the total purchase price of all together.
That is Government.
Caleb,
Nice article! In our market it is normal to see the buyer's closing costs paid by the seller.
I agree, this would have to lead to inflated price reports on mls and the tax assessors's data base. Thanks for the post.
As a buyer, I applaud you bringing the topic to light and encouraging comments and discussion. This "conversation" is exactly why I, and other buyers, visit AR.
Thanks,
Stan
Terms are a part of pricing. Jillayne brings up a good point but come on! 3% off?
I don't know ANYBODY who can price within 3% with complete accuracy; nobody is that good.
Seller's concessions for other than improvements to be added to the property are a big concern. An experianced Realtor should be able to sort it out if not with phone calls, just by general knowledge of the market area nd conditions.
Most Realtors, appraisers, investers and other real estate junkies would like to put their heads in the sand and not really know that the concessions existed or not on the comps so they too can get the financing for the buyers using sellers concessions.
The only really serious issue is with the sub-prime and investor loans. Lack of equity will drive these properties to foreclosure. In the past, quickly appreciating values bailed out those who delt in these areas. It remains to be seen what the effect of seller concessions will be in the future.
I have pointed out the issue to our MLS for years that the solds need to have detail concerning concessions. These words have fallen on deaf ears.
FYI Inflated comps have been arround for many many years. 20 or 30 years ago unusual for prices to be high and the Realtors commissions to be unreasonably high, however the realtor paid the points on the mortgege from their commission. This was effectively accomplishing the same as a sellers concession for closing costs.
In my area, the gross sale price is reported to the county. MLS includes concessions and agents are fined if they are not correct.
Zillow.com, Cyberhomes.com, RealestateABC.com and others of those instant "What's your home worth" companies only get the gross sale price. How accurate can these sites be?