New
Home Construction...What to Watch Out For!
When auto makers
wanted to keep cars moving off dealers' lots, they offered zero-percent
financing. Now some home builders, worried that rising interest rates
may clip the pace of new sales, have gotten into the act by making
cheaper financing available to home buyers.
While the builders
aren't offering no-interest loans, in some areas they are undercutting
the rates offered by more traditional lenders. To entice buyers, big
national builders such as KB Homes are providing incentives ranging from
below-market loans to offers to lock in low rates for up to 6
months.
In some markets
builders are sweetening financing deals, paying as much as $4,000 on a
$200,000 mortgage to cover a buyer's closing costs.
The financial
enticements from home builders are a relatively new but growing
practice. In response to rising rates, builders are altering their
financing products accordingly in an attempt to make them more
attractive.
Three-quarters of the
largest builders now have mortgage-finance units, accounting for about
15% of all new-home mortgages. Home builders are in a better position
than banks to offer incentives because their main source of profits is
on building houses, not issuing mortgages.
It's the monthly
payment more than the actual price of a home that in most cases
determines whether a buyer can afford a home, and interest rates play a
large role in determining those payments. Rates have fallen
significantly during the past two decades -- a 30-year fixed-rate loan,
now available at 6.25%, carried an interest rate of 13.4% in 1983.
Incentives, Incentives...
Developers have begun
using incentives to keep homes moving, some offering to lock in rates
for up to 180 days. That means a buyer whose home may not be completed
for six months can be protected if rates rise.
Homebuilders
Financial Network, which sets up financing arms for smaller builders,
says some of its clients will forsake profits on their mortgage business
to keep buyers happy. Currently, a number of builders are absorbing part
of the cost of a 30-year mortgage, so they can offer customers a rate of
5.75% instead of 6%. On a $300,000 loan, that means cutting a monthly
payment from $1,799 to $1,750.
Los Angeles-based KB
Home, which built more than 27,000 houses last year, will pay up to 1%
of a home's value toward closing costs in some markets, provided buyers
finance through its KB Home Mortgage Co. In Indianapolis and Columbus,
Ohio, builders are paying as much as 2%.
Tom Meyer, president
of Homebuilders Financial Network, says his clients pocket profits
averaging $2,400 on each loan they write. He adds, though, that
the willingness of builders to give up part of that money depends on the
state of the housing market.
Incentive programs
are likely to have a larger impact on less-well-heeled buyers - those
with loans of less than $200,000 - who often are stretching their
finances to get into their first home.
More
Home Than One Can Afford?
As builders push
incentives, they also are encouraging buyers to use other forms of cheap
financing, such as hybrid loans that are fixed for a period - typically
between 3 and 10 years - and then fluctuate with interest rates. Another
favorite is the interest-only loan, which
allows borrowers to pay interest and no principal in the loan's early
years.
While such vehicles
may offer the lowest monthly payments now, they may cost buyers down
the road, particularly if rates rise and force buyers of
adjustable-rate loans to pay higher rates in the future.
All too often the
builder places the buyer into an ARM and either don't fully explain the
adjustments that are coming down the road or the consumer is too
thrilled at the proposition of having a brand new home to really even
care. Until 3 or 5 years later when the payments head upward due
to the increase in the rate.
Some builders caution
that the incentives aren't all they're cracked up to be. A builder may
offer to pay closing costs on a loan through its financing arm, but the
rate offered through its financing arm may be higher than those offered
by banks.
Property Taxes & Escrow Accounts - Watch Out!
With most builder-placed
mortgage, there are escrow accounts - meaning your taxes and insurance
are part of your monthly payment and paid by your lender.
What some builders fail
to inform buyers is that their property taxes at closing are based upon
an unimproved lot (vacant land) and is not adjusted to reflect the
substantial improvement of the home. Property taxes may start out
at $75 per YEAR but when reassessed the following year can jump to over
$250 per month (depending upon the area).
Along with this increase
in taxes, the monthly payment increase to reflect the new property tax
amount that must be collected to pay the taxes.
To further illustrate:
Joe and Mary purchase a
new $200,000 home through ABC Home Builders, putting 5% down.
Their initial mortgage is $190,000 with payments for principal interest
of $1,109 (5.75 on a 3/1 ARM). Their initial tax payment is
$6.25 per month ($75 per year based on unimproved land) which pays into
their escrow account so that after one year their tax escrow account has
$75 in it. Your payment with taxes is now
$1115.25
Here's where the
problems begin: The following year the taxes are reassessed due to
the improvement on the land (the home). The assessed value
generates a new yearly tax bill of $3,000 which is billed
to the lender's escrow department. The lender then pays
the tax bill of $3,000 out of the escrow account BUT WAIT,
there's only $75 in the account - meaning you now have an escrow
shortage of $2925!
The lender now
adjusts your mortgage payment to recoup the amount it paid on your
behalf ($2925) by taking that amount and dividing it by 12 months OR
$243.75 per month. Your payment has now jumped to $1352.75.
BUT THERE'S
MORE... your lender needs to start collecting to get your escrow
account with enough money to pay your tax bill next year -
$3,000. In order to do this, they take the total tax amount
and divide by 12 months or $250 and add this to your payment.
So in order to get your
escrow account out of the red AND get it to where the
lender can pay the taxes next year out of your account in full, they
must add this $250 to your monthly payment. Your payment has now
increased to $1602.75 after one year of being in the home.
Your lender will give
you the option of paying a lump sum to bring your escrow account
out of the red OR it will recalculate as shown above and add the
negative amount into your payment.
Granted after one year
of paying to get your escrow account out of the red, you're payment will
decrease by the $243.75 (as in this example) but when buyers are not
aware of this, the opening of the new payment coupon booklet sends some
reeling in shock.
When new home buyers
just don't understand or are not made aware of this potential problem,
late payments, financial problems and even foreclosures occur.
What You Can Do...
It cannot be stressed
enough that you need to work with a lender that is looking out for your
best interests and not one looking to get the house "off their
books". While they serve a purpose, the builder's mortgage
company's duty is to the BUILDER to get the house sold, NOT
you.
Failure to disclose or
failure to completely explain everything is a major problem when dealing
with a builder's mortgage company. While convenient and with the
builder offering incentives to use that specific company are compelling,
they could be meaningless if you lose the home in the end due to these
"incentives".
Get a second opinion!
Oftentimes a third party lender, like a
Residential Mortgage Advocate™, can be an
essential part of financing your new home construction.
RMAs sign a commitment to look out for
YOUR best interests, not those of the builder. They are
neutral third parties that will analyze your situation and provide you
with all the options, ensuring that you fully understand each of them.
Don't rush into a home
purchase based upon the emotional high of getting a brand new home.
Hasty decisions tend to have negative results.
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