Brain Freeze
Posted on October 23, 2006 - Filed Under Housing |
A question was asked the other day that I didn’t know the answer to. "How much are the fees going to be when I sell the houses?"
I spent two hours at the Real Estate Agent’s office last week. When he disclosed how much the fees were going to be, I passed out.
ugh
The fees paid at the time of close of escrow are paid solely by the seller. This I did not know. I thought the buyer and the seller paid their respective agents somehow. But apparently I’m smoking something funny. These fees typically range between 5 and 6%. Considering the value at which I’m selling these houses, that 6% is a huge chunk. And it comes directly from the amount of profit I was going to make. Upwards to 60% of the profit.
Ask me how happy I am about that.
I left his office, feeling queasy. Then I snickered. I must be an up and coming investor if I spent the better part of a Friday afternoon, talking money figures with my agent.
It’s option time.
Option 1: I could ask the agent to reduce his fees which he’s willing to do. But the buyers agent could still ask for his 3%. Would the buyer’s agent take a comission cut? Maybe, maybe not.
Option 2: I keep the houses. The front house would be rented in addition to the back house. I refinance my loan, pull the equity out that I need. With that equity, I purchase the next project. I redo that property, rent them out and do a true "flip". Meaning I offload the next project as soon as it’s ready. Take that money and run onto the next project.
Option 3: Move to Tibet and become a monk.
The second option obviously has more risk. I’ll have more tenants to deal with. I’ll be leveraged. Of course I’ll have to pay several thousand to do the refi. But the question that begs to be asked is "Would you spend a few thousand to keep tens of thousands?" Most rational people would say yes.
Several of you have said that it’s better to keep the property and rent it out long term. That’s the direction I’m leaning towards now.
I’m tossing this question out there: Does anyone see anything that I may have missed with this idea?
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11 Responses to “Brain Freeze”
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Regarding option 2. Sounds like a great idea. One question. Let’s say you do the refi and both units are rented out, will it cashflow even with the higher mortgage?
If you go with option 2, how will that affect the original plan of using 1031 exchanges? I’m thinking that if you’re do a refi and take out equity, then use that to buy another property that you want to flip asap, you won’t be able to get the delayed tax advantages of the 1031 exchange. Plus you’ll have to pay short term capital gains taxes instead of long term. I’m thinking either option 1 or just plain rent and hold for several years would be the best options. But if you rent & hold, are you able to get out of the contract with the Realtor?
The buyers agent would definitely not take a commission cut in this market. Some people are offering 4-5% to JUST the buyer’s broker.
I don’t know what kind of loan you have, but a refi now would probably put you at a higher rate. What kind of loan do you have now?
Do your two houses cashflow now? Would they cashflow with the refi?
Paty, Ken: If I refi, the houses I have now would have a negative cashflow of a few hundred dollars. We were factoring that into the numbers this weekend. I’m thinking within two years the cashflow would at least be break even. As far as specifics on the interest rate goes, I won’t know that until the loan officer gets back with me.
BM, I won’t use the 1031 exchange on the first properties. The good news is that I’m only 8 months away from the huge tax breaks the government allows if you hang onto your property for two years. In my case, $250,000 would be mine tax free. You’re right, I would probably have to pay short term capital gains tax on the flipped properties . . . unless the 1031 exchange would cover them. But I was thinking late last night, if the new properties cashflow at the “break even” point, why not keep them? For the contract with the Real Estate Agent, I’m working with him longterm. Breaking this contract will be a snap.
And live where, in the meantime?
Option 1 is the cost of doing business. It will happen when you sell any of your properties. Too bad this wasn’t mentioned sometime before you put the house on the market. At least then you could have planned for it better. Maybe regular tile floors instead of travertine…:-)
Is selling the properties going to leave you the kind of profit you need for the next purchase? Or will you sell, be homeless, and propertyless with a useless wad of cash?
I think you should also talk to a CPA to find out some options available that your mentor or realtor haven’t mentioned.
Mikki, if I do sell the houses then I’m not going to have much money to do the next deal: ie I’ll be homeless, propertyless and have a tiny useless wad of cash.
Just a comment about the 2 year cap. gains rule. You will have 50% of your profits exempt from cap. gains tax because you have a 2 unit and can only live in one unit.
Selling does not sound like a good option for you. I’d continue living there. What do you think the market would be like in 8 months?
Ken, I think the market will be slowly starting to pick up around that time. The Fed is going to keep interest rates the same until the spring time. Then they’ll lower them in an attempt to keep the economy rolling. Lower interest rates means lower mortgage rates which spurns buying. But I’m beginning to wonder if keeping the properties longterm (5 to 10 years) may not be the better way to go.
I’m shocked that your agent did not give you a disclosure of what your closing costs were expected to be at your asking price when you signed the listing agreement. Here in Oklahoma, it’s required. I guess it’s not in Cali?
In addition, all agents here have to repeat that disclosure whenever an offer is received in order to keep the seller informed of their closing costs if they accepted that offer.
Anyway, yes, the seller is given the burden of most of the closing costs–even the fees from the title company, which is usually chosen by the buyer.
how could you not know the cost of selling is 6-10%???
its the cost of doing biz