RealtyTrac released its September 2013 report on underwater homes announcing that 8.3 Million people have mortgages that are 90 to 110% of their homes value. With real estate increasing 1.3% for the past few months, many Americans can think about selling their homes without a short sale and walk away from closing with a few bucks.
Mortgages and houses are always a big discussion when I meet with my clients as housing costs eat up so much of our monthly spending plan. Trading down to a less expensive house with lower property taxes sounds like a solid plan for those of you struggling to be cash flow positive every month. However, this may not always be the best idea because of transaction costs.
When you sell a house you have many costs that you may have forgotten about. Realtor fees are usually 6% of the price (yes, it gets split between buying and selling agents, but the money comes from the seller) and then there are other closing costs. I did my research and I recommend to my clients to assume at least 8% closing costs for selling a home. That adds up quickly. Let’s look at the example of a family selling their $300,000 home with a $275,000 mortgage and buying a $200,000 home. When they sell, they get $300,000 from the buyer and have to pay $24,000 in closing costs. That gives them $276,000. After paying off their mortgage, they are left with a check for $1,000 at closing.
To buy that cheaper house, they need a down payment. Even a 3% down payment on the new home requires $6,000, so they need to come up with some cash to “save” money on their mortgage. Throw in your buying closing costs and prepaying taxes via escrow and the idea of trading down is now costing them money. Now, if you could get a bit more for the house, Say $310,000 you would walk away from closing with $10,200 and you might be able to “afford” that cheaper house.
I have been playing around with these number as we bought our house in 2006 with 20% down and we are still underwater. But, based on recent sales in the neighborhood we are getting closer to owing the amount the house is worth. After taking the time to learn more, I now know that we need to see our home price be at least 8% above our mortgage for us to be able to sell and walk away with a few bucks.
Keep this in mind as you are assessing your house. I talk to so many people who are eager to move and the pesky closing costs rarely come up when talking about real estate. Don’t forget – if you are underwater and looking for ways to increase your monthly cash flow, look into the HARP program which can let you stay in your house and refinance. It’s a great tool that I remind my clients about all the time.