Equity Sales are Up

According to the California Association of Realtors distressed sales report, “…equity sales – or non-distressed property sales – rose further in May, rising to 89.2 percent, up from 88.4 percent in April [2014].” I will first get into what it means to have an equity sale, then continue by comparing this market to previous ones.

An equity sale is quite simply the sale of the house where the seller receives money from the sale. Realtors are trained to estimate the net proceeds for the seller to provide an overview of the costs of selling a house.

In previous years, equity sales were not occurring as much as other sales, such as short sales and REOs, because sellers often were facing a depressed market where their loan value exceeded market value. When a seller decides to do a short sale, their net proceeds is often zero. Of course, not receiving net proceeds from sale is far better than owing somebody (i.e. the bank) money, which is why the short sale was so popular to begin with (i.e. it bestowed debt forgiveness to the seller).

So, what does this mean? This means that 9 out of 10 homes on the market, and viewed by buyers like you, are most likely transactions wherein the seller will receive money from the sale of the property. The seller getting money from the sale in no way affects the buyer’s purchase—the buyer does not pay more to purchase the house if the seller is making money on the house. Sometimes buyers ask how much the seller is making on the house, and to some extent the answer is obvious and finite to two possibilities:

(1)    The first possibility is that the seller is making net proceeds equal to the purchase price, less fees, less existing loans.

(2)    The second possibility is that the seller has net proceeds equal to the purchase price, less fees, assuming the seller owners the property free and clear.

Buyers are people, too, and they sometimes inquire about the seller’s gains. This is natural and if the answer is available, I will share an estimation with the buyer when it is appropriate.

Ethical consideration: If the seller is making money on the property as a flip, do I have an obligation to tell the buyer that the seller is making money on it? Legally, properties flipped within 90 days or less and transferred to a new buyer triggers a disclosure to the buyer that the property has been flipped. Beyond that, there is no legal disclosure required.

As a Realtor, we have access to public records that show us the last transfer date of the property, which means it is apparent to us if the property is a flip, even if the 90 days flip rule has passed and the seller does not disclose to the buyer that it is a flip.

As a fiduciary to the principal, I would disclose that the property transferred between individuals very recently, alluding to the possibility that it was a flip. I won’t get into it here, but the fact that a property is flipped means that we probably need to scrutinize the property on a stricter level in order to make sure the repairs were done correctly. By disclosing this to my client, it enhances my client’s perspective on the property and will make more rigorous the client’s investigation process.

Why Sellers Aren’t Selling Yet: A general landscape of the economy and rational choice theory

In the presence of housing prices climbing, the stock market at its highest in several years, something uncanny is still among us that we are probably all wondering about: when are home sellers going to sell? I look into several motivating factors as to why sellers have not unleashed the inventory floodgates on us yet.

Step up sellers need capital– there are many sellers who seek a larger space. They purchased a house with the intent to live in it for a few years and upgrade later—this is the definition of what a step up seller is. The basic principle was to buy a property, save capital, then upgrade later. What is happening now is that they have probably saved lots of money by living in a smaller space, however their desire to seller their current property and “step up” to a larger property cannot be fulfilled. While capital was saved, they still lack sufficient funds for down payment or even the larger monthly payments. For this reason, these step up sellers remain financially conservative and await their next financial boon until finding a larger place. And thus explains the postponement to sell.

Sellers trading for like kind don’t want capital gains– It is very possible that sellers who have large amounts of capital will want to relocate to another city for various reasons: new job, short commute times, be closer to family, prefer one city over another, etc.; the equity in their houses could be good enough to pay for another house of similar size. Their financial position might be so good that they could pocket some of the money after making the move. What they may not like, however, are the capital gains that follow the sale of their primary home. Despite single and married tax exclusions of $250,000 and $500,000 respectively, sellers believe that this ought not be to paid out just yet. For example, when one finds a replacement property for their own house and it is of the same value, and the costs of the transaction plus the capital gains they will occur loom large over their heads, it is possible that selling their house is an endeavor left for the future time. This happens quite frequently when sellers have acquired property for very little, making the difference between their sale price and basis price large, which allows them to turn a great profit, but perhaps some of this profit shall be subject to the IRS’ capital gains rules.

Some sellers with equity still have high loan amounts– The rising housing prices have given sellers a reason to sigh with relief as they reflect on their financial situation. Years ago, sellers were underwater. ‘Underwater’ just means having a loan amount higher than the value of your property. With prices rising, the economy converted many of these sellers into homeowners who have equity. However, of the sellers that now have equity, many of them are still closely watching the economy, hoping prices will rise further to get them further out of trouble. While these sellers may have equity, there is still a chance that their equity will not cover the costs to close the transaction of the sale of the property. Due to Realtor fees, escrow, city transfer tax, inspections, concessions, repairs, and other factors, the sale of their property could drain and realize the equity on their property. Not only could potentially the sale of their property require them to have negative net proceeds and pay out of pocket, but the question remains of what their future living situation will be if they move elsewhere.

Short sale sellers refuse to rent– Short sale sellers are sellers who have a bloated monthly payment and have decided the following: since payments are not affordable and loan modification was not possible, I will short sale the property and hire a Realtor to negotiate on my behalf to make the bank pay for the transaction costs of the sale and not require me to pay for the difference between my loan amount and the sales price (which is lower than the loan amount). Needless to say, a short sale is an incredible effective product that can be used to gain momentous advantages to seller who needs a way out from unsustainable monthly payments. If a short seller is so motivated, then what precisely hinders the seller from listing her house on the market?

One theory is that sellers refuse to rent. To sell one’s house and to rent thereafter is a sort of emasculation and taking away of the pride of ownership that got many of these sellers into a house in the first place. To sell one’s house in a short sale is giving constructive notice to the world that one has failed financially and that one must settle for an inferior existence in a smaller apartment, having to rebuild everything that was caused by the poor decisions and loose lending laws in the past. This is clearly an existential consideration mixed in with the pride of owning a home. Are the circumstances of a short sale as dismal as this? As professionals in real estate, we tend not to dwell so much on these aspects of the transaction. In fact, we would disagree entirely. Are we unsympathetic? We are quite the opposite. We support sellers in their decision to make a short sale because the alternatives to the short sale will make the seller worse off. For example, not doing the short sale results in the destruction of one’s FICO and credit score. This manifests itself in missed payments and the foreclosure on one’s record. Both needs to be avoided if one cares about their credit score.

I hope we have made clear the possible types of sellers in the market out there who make up the landscape of our housing market and I hope to have drawn out several considerations on why sellers are not selling yet. While an improving economy promises more opportunities, many sellers still wait and hope for even higher price increases to improve their situation. And if sellers are not the least advantaged in the situation, their saved capital is insufficient to acquire other property or their future capital gains may preclude them from taking action.