HOW TO BUY A HOUSE
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Whether you are a first time home buyer, or just haven't purchased property in a while, there are many steps between wanting to purchase a home and actually getting the keys, and people often underestimate the amount of work and time it takes to complete all those steps.
Below is an outline of the home buying process from start to finish and what buyers can expect at each step along the way. |
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In the steps below, I hope to shed light on the process of buying a property for first timers or anyone who might benefit from it. Buying your home is never a walk in the park and indeed can be a stressful journey but in the end, all of my buyers unilaterally say it was worth it. Many of my clients have commented after they have successfully closed that they were completely unaware of the obstacles and important choices that would come up during the entire process. Even the most well researched first timer is usually humbled at some point along the way. The Los Angeles Real Estate Market has always been competitive and when certain neighborhoods become more fashionable buyers compete for properties even in the midst of a down market. Knowing how to position yourself ahead of the crowd is very important as a buyer. Choose an agent that fits your personality and one who has experience with your specific area. You're going to be working closely with your agent as he or she guides you through the inevitable ups-and-downs of every transaction. Home buying is a challenging journey, but with knowledge of the path ahead, it can be navigated with confidence and poise. |
STEP 1: SECURE FINANCING
Unless you’re paying all cash, the first thing to do is get a mortgage preapproval from a lender. To get a quick idea of how much you could qualify for click here. All banks and mortgage lenders underwrite their loans according to the same guidelines set forth by Fannie Mae and Freddie Mac, they all require the same things for a mortgage, and they all offer about the same rates. The major difference between mortgage lenders is the individual loan officer's ability to get the loan closed.
Obtaining a mortgage is tough for anybody in this tight credit market, so choose a lender with experience who gets things done. Your lender will need your credit score and will need two years of your W2s or 1040 income tax returns. If you are self employed, the lenders will qualify you based on your NET income (after expenses). They will look at how much you have for a down payment and give you monthly payment options based on your goals.
Once you've determined what you can afford and want to pay in monthly mortgage payments, then your lender will write you a preapproval letter. This letter will be included with every offer you write as a real estate buyer.
It is important to not change jobs or apply for credit anywhere until your loan is closed. Also, keep money for the loan in one place until you close. If you have to move any money, make sure to maintain a paper trail because the lender will need to account for every dollar going into escrow. You will get a Good Faith Estimate (GFE) from the lender stating how much money will be needed at closing. Typical buyer's closing costs are between 2-3% of the purchase price, or 4-5% for FHA loans, so be certain you have that amount in addition to your down payment available at closing time.
Listen to your lender very carefully; each has many different underwriting rules and guidelines to follow and the loan will not be funded until all of their requirements are met. In this post mortgage meltdown environment caution prevails, so the lenders are usually the ones who delay escrow closings.
STEP 2: FIND THE PROPERTY, WRITE YOUR OFFER, AND GET IT ACCEPTED
Finding the right property for you is the fun part. Your agent should be showing you many properties and you should be learning from each one. There is no better way to get a feel for the real estate market than to see many properties. Exposure to properties first hand is the best way to learn exactly what the market has to offer. The experience cannot be simulated online. If something feels right to you, it usually is. When you find a property that suits you, make an offer, and don't delay.
Once you begin to write offers there are many details to be aware of. These details can mean thousands of dollars coming from your pocket at closing, so understand clearly everything you are offering to the seller. A few examples of some details that have appeared on closing statements are: unpaid city assessments, Mello-Roos taxes, City of LA Housing Department abatements, hidden contractor liens, and on-and-on. Once the contract is accepted by the seller, then it is taken exactly word for word by everyone involved, so make sure you are comfortable with everything that is included. Ask your agent what the protocol and customary fees are for the items that you are including.
It is impossible to know everything about the property when you write an offer on it so accept some uncertainties in the beginning. As knowledgeable as your agent is, they won't be able to tell you absolutely everything about the property's maintenance history, neighborhood information, etc. The successful buyer needs to be able to act quickly and decisively with limited information. The best properties never stay on the market long in Los Angeles, despite economic or market conditions. The early bird gets the worm with real estate, so don't get "analysis paralysis" as Rich Dad Poor Dad author Robert Kiyosaki calls it. If you know the property is right for you, write the offer now because you'll have time to think about it later before you have to commit. Writing an offer does not obligate the buyer to anything until the seller accepts it. No money will change hands until buyer and seller agree on price, terms, repairs, etc. in writing and escrow is opened. That process takes 72 hours at the very least. It is not uncommon to have to write multiple offers just to get one accepted.
After the offer goes in and with a bit of luck, the seller will most likely counter-offer and request concession such as higher price, shorter escrow, lower closing costs, etc. This negotiation is natural and should be approached calmly and patiently. Don't be flustered by aggressive counter-offers but deal with them knowing that you are making progress. All too often, first time buyers bury their head in the sand at the first counter-offer but should consider their options and not give in too easily to the seller’s demands. Many times the seller's agent will create innuendos or hint about other buyers’ interest in the property, but in some cases this is just a bluffing tactic. It's like a poker game; keep a cool head and act rationally. This is another area where your agent’s experience and expertise pay off. They will be able to guide you and should be heeded. When the buyer and seller come to an agreement and a counter-offer is signed by both parties, notify your mortgage lender right away and provide what they need immediately so they can begin underwriting the mortgage. Remember, the lender will be the slowest cog in the machine so get them started right away.
STEP 3: OPEN ESCROW AND PUT DOWN DEPOSIT MONEY
Escrow is a neutral third party licensed by the state to carry out the contract. They ensure that the seller doesn't take the buyer's money and the buyer doesn't take the seller's property. They see to it that all taxes get paid, all liens and any claims against the property get paid, every expense is accounted for and prorated up to the day the buyer takes title to the home, etc. All money gets sent into escrow and sent out by escrow. The buyer will have to send in their earnest money deposit to escrow at this point. That is usually done with wire transfer or cashier’s check. Escrows rarely accept personal checks. Escrow will send you a small amount of paperwork to fill out which needs to be returned as soon as possible. The buyer will need to determine who will hold title to the property, give background information and provide other information to the escrow company. If your agent is not available, calling the escrow company for answers is perfectly acceptable.
Once escrow is opened, the clock starts ticking on the buyer's inspection and loan contingency periods. Every day counts, so buyers need to be ready to respond quickly to the requests of the lender, agent, or escrow company. Email is the best way to send paperwork back and forth because it's possible to pull up what was sent and received by everyone involved. Make sure you keep or get copies of everything that you sign and keep it for your records.
STEP 4: GET A PROPERTY INSPECTION
Inspectors are licensed, bonded and insured professionals (typically contractors) who look at every aspect of a property from foundation to roof and everything in between, and report their findings to the buyer. The agent will be able to recommend an inspector to you. Inspections cost from $250-$450 on most houses and condos, and are usually paid for by the buyer. If possible, go out and meet the inspector at the property when they’re inspecting and ask questions. Inspectors will provide an extensive report outlining everything that is notable in the house. Don't feel let down when you get the report and problems are disclosed. Most houses have problems, especially in LA where most houses are 50+ years old.
Things to pay attention to in inspection reports are:
1) FOUNDATIONS (ESPECIALLY ON HILLSIDES)
Foundation ideally should be bolted to the piers (wood beams). Foundation problems are seen in cracks in the interior ceilings or from ceiling to floor. In hillside houses, it is natural for the soil to move 1/10" per year. Keep that in mind. Gravity always wins.
2) LEAKING WATER IN ROOF OR PIPES
Water entry is the biggest problem in houses. Even in the desert climate of Southern California water intrusion is still an issue and anywhere that has water should be examined for dry rot. Mold is a frequent result of water leaks and should be examined. Although there are hundreds of different strains of mold, only a couple cause allergies in humans. Mold can pose a special problem for potential landlords with liability to the tenants. Also look for water coming off the roof and not flowing away from the structure. Water that pools next to walls will inevitably make its way inside those walls.
3) OLD ELECTRICAL SYSTEMS
Outdated electrical systems cannot support air conditioner units or other large power draws. An updated 220 volt electrical box on a 1500 square foot 3 bedroom 2 bath house will cost 3-4 thousand dollars. Look at the breaker panel. If you see cloth covered wires going to a fragmented, unlabeled center then the electrical system is very old and will need updating.
4) TERMITE DAMAGE ON WOOD FRAME HOUSES
Termite inspections are often required by lenders. A termite company will go out to the property, check for infestation and give estimates for treatment. Exterminators are heavily regulated in California so estimates don't vary too much from one contractor to the next. Termite damage looks somewhat like swiss cheese with holes in wood window frames, beams, eaves, joists, etc. Termite repairs come in two phases: phase 1 which is everything structural or anything that holds the house up. The phase 1 repair bill is typically paid by the seller. Phase 2 is anything cosmetic and is typically the buyer's responsibility. Most termite treatment bills are around $1000 for houses under 1500 square feet.
There are many more issues to discuss when examining home inspection reports. When you receive the home inspection report, look at it closely and ask questions about everything that is unsatisfying. Requests for repair will be based on this inspection report which is an opportunity for buyers to negotiate for repairs or credits from the seller. With the inspection report in hand, the buyer is given the power to do one of three things:
OPTION 1) Request that the seller repair any items that are of concern
OPTION 2) Request that the seller credit the buyer the cost of repairs
This is either from a reduction in the price of the property or by paying the buyer's closing costs
OPTION 3) Cancel the deal
Many buyers are too emotionally tied to the property at this point and do not want to cancel. So then the question becomes should they request repairs or money? Some new buyers opt for the credit instead of asking the seller to make the repairs and never get around to getting the work done. For items that are in serious need of repair this is not a good thing. The long term cost of neglecting maintenance issues needs to be weighed by the buyer. If it doesn't get fixed now, it will usually cost a lot more to do later when the buyer wants to sell the property. Buyers need to look at the property through the eyes of a seller because one day they probably will sell it. The agent should be able to offer referrals for contractors who can give estimates on repairs. No buyer is an island.
When buying bank owned foreclosure REO properties, the seller will rarely make repairs unless there is a health and safety issue. The banks are reticent to negotiate much on repairs either, usually requiring buyers to accept the property as-is. This refusal to fix or credit is why REO foreclosures are sold at a discount. The bank is going to pass any repair problems to the new buyer.
Take a hypothetical example and assume that the buyer asked the seller for $10,000 in credit for closing costs for various repairs. The buyer will put that on their Request for Repair form (ROR), and the seller can accept, negotiate or cancel. A seller rarely cancels at this point even if ROR was over-inflated. The seller in this example will counter back at $4,000 in repair credit and the two will eventually agree on $6,500. An addendum is drawn up and sent to escrow whereby the seller will pay $6,500 of the buyer's closing costs. The price will remain the same but the seller is going to be contributing the $6,500 to the buyer's expenses. The buyer is not receiving cash from the seller, they are only getting credited money used to close. If they don't use all of that credited money at closing they lose any unused portion. It is very rare that lenders will let a buyer walk out of escrow with money in hand that they didn't bring in themselves. It is important that buyers remember this and make sure they can spend all the money they are asking for in a seller credit! After the dust has settled and a credited amount is agreed upon or repairs are made the process continues.
STEP 5: GET AN APPRAISAL
This step is only for buyers getting a mortgage.
The lender will always need to appraise the property. Appraisals usually cost $350-$500 and are customarily paid by the borrower in the form of an Application fee. The mortgage industry became significantly more rigid and strict as a result of the 2007-2009 mortgage crisis. Sweeping reforms have made the process lengthier and has changed the role of the property appraiser. Before 2010, appraisers were only sent out to determine the value of the property but now they are required to comment on the condition of the property. Their comments are taken into account and put into a nationalized database with standards that are based on homes of the same age/size/condition in the USA. If the property has deferred maintenance that the appraiser deems worthy of mentioning in his report, the lender will typically refuse to fund the buyer's loan until the mentioned items are repaired. This can become a catch 22 situation where the seller doesn't want to spend the money to fix the property and the buyers don't want to pay to have work done on a property that is not yet theirs. Since the advent of the HVCC appraisal code, appraisers are not chosen by anyone who has an interest in the transaction. The intention to avoid potential conflicts of interest is good with this law, but the actual effect is that appraisal orders get farmed out to the lowest bidder and the resulting quality of the reports is equally low. Appraisers used to be local and knowledgeable about market factors in the neighborhood such as schools, crime, views, amenities, etc. For the most part, they are not at all like that anymore and are only valuating the house based on price per square foot of nearby comparable properties (comps). This is an overly objective approach to valuating homes and can result in wild swings in valuation often lower than the asking price. If the property that the buyer has under contract does not appraise at the price on their contract they can cancel the sale provided they did not waive that right on their offer. Alternatively, they can request that the price be lowered by the seller to the appraised value. Since the seller will presumably have this same issue with any buyer, they have a reason to consider lowering their price. Buyers should ensure their agent evaluates the comps before writing an offer far over the asking price. A lot of time and heartache can be saved by exercising due diligence. After the appraisal comes back to the lender they will issue a loan approval and will require conditions from the borrower, escrow and title companies. Time is of the essence, so when the agent or lender requests something it is important to get it to them right away. Buyers must remember that when the loan officer says "Jump", they say "How High?”
STEP 6: GET A NATURAL HAZARD DISCLOSURE REPORT
The Natural Hazard Disclosure (NHD) report is not mandatory, but is recommended. It contains 30+ pages of potential hazards in, under, and around the property. The scope of the report is vast, covering everything from seismic activity to airport noise. The reports are prepared by private companies who are responsible for their validity, so they always tend toward over-disclosing. As before with the inspection report, some bad news is inevitable. Don't get too flustered when the NHD comes back with some problems. At the same time, there are some important issues that should not be taken lightly. Some of those issues are:
1) FIRE HAZARD AREA
In Southern California if the property is in the hills or not surrounded by other structures in an urban setting it is probably in a high fire area. The ramifications of this are higher homeowner’s insurance premiums.
2) RADON GAS. Radon seeps in through the soil and usually collects in ground level or basement areas. There are three levels of Radon gas disclosures. If it is beyond level 1, another Radon specific test is recommended. Radon has a very negative effect on humans, especially for children.
3) MELLO-ROOS TAX DISTRICTS
Mello-Roos taxes and other supplemental tax assessments can be very costly. The NHD will have information on every expense that has to be paid with the property. Usually the Title report will have this data too, but the NHD is the most accurate source of information for this.
4) PROXIMITY TO OIL WELLS AND MINING SITES
This is most frequently associated with gas coming up from the earth. There are plenty of oil well sites around Southern California and some still give off methane and other gases that can be dangerous.
5) FLOOD ZONE
If the property is in a flat area it may be in a flood plain which requires higher homeowner’s insurance coverage.
There are many other issues that the NHD will likely touch on, and your agent will be the first point of contact for any questions.
STEP 7: GET A PRELIMINARY TITLE REPORT
The Preliminary Title Report is issued from the Title company. This report shows the history of the property, sometimes going all the way back to the Spanish occupation of California. The report shows any and all liens on title of the property. If the seller borrowed money against the property, didn't pay taxes, or had a contractor place a lien on the property, etc., then all of that will come up on the Title Prelim. The title company’s job is to insure the homeowner against any defects in title, so if they miss anything at all, they pay for it (which seldom occurs). The lender will require a title insurance policy to protect their interest in the property. The buyer does not usually concern themselves with what is contained in the Title Prelim, but if there are hidden costs from the title company, then their agent or escrow will alert the buyer right away.
After the buyer has these reports in and signed off, and their appraisal is completed, they are almost done. Buyers will sign off on all of their contingencies, which means that they have to close now or the seller can claim the buyer’s earnest money deposit. There is usually a time in every transaction when all the contingencies are signed off but the loan is not ready to fund. A skilled agent will negotiate with the seller to give them what they want, but buy more time for the buyer's loan contingency. The reality is that lenders are never 100% reliable and can back out at literally any moment without warning. Ideally, buyers want to keep their loan contingencies until they close but it is not always possible. If the time comes to take a leap of faith, rest assured that many before have done so successfully.
STEP 8: SIGN LOAN DOCUMENTS
By week 3-4 into the transaction, the loan docs are usually ready to be signed. The buyers getting the mortgage will sign the docs in the presence of a Notary Public, often at the escrow company. Buyers should request an estimated HUD from the escrow company before signing their loan docs and compare it to the lender's initial Good Faith Estimate. Any increase in charges should be addressed to the lender as soon as they are discovered. Some charges are unavoidable but there should be no more than a couple hundred dollars difference. If the lender hikes up the fees then call them out on it and don't accept the loan. It is an age old trick of money lenders to wait until the borrower has no other options and then increase the fees and rate. Although this practice has lessened since the mortgage industry underwent a major overhaul in 2010, it is still prevalent at closing tables across the country. Because of this, applying for mortgages with two or more lenders is recommended if possible. Playing them one against another can lead to the best deal but it is a lot to keep up with. If the buyer has any questions at all, ask! Don't be afraid to get answers from your lender. Remember they need to lend money to stay in business.
STEP 9: CLOSING TIME
After the loan docs are signed they go back to the lender and then the buyer wires their money into escrow to close. There will be several lender conditions prior to funding such as updating paystubs and bank account information. At this point many buyers are at the end of their rope but stay with it! The very end of the transaction is just as important as any other point. When the loan underwriter is satisfied, they fund the loan by wiring the money into escrow. Once the loan is funded escrow disburses funds to the seller and the deed to the buyer, gets the deed and mortgage information recorded at the county recorder and gives the buyers the keys to their new home. Congratulations to the new home owner!
