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Sunday, October 18, 2015

Evaluating the strength of your offer…

Many times Realtors® may use the terms “strong offer” or “weak offer” when you suggest what you want them to offer to the other side in a real estate deal. What do those terms means and how is an offer’s strength determined?

The strength of the offer really refers to the attractiveness of the offer from the Sellers’ perspective. Your offer is usually evaluated by the Sellers’ agent as well and they will likely render their opinion and advice to the Sellers (even if not asked to do so).
So, looking at typical offers from the Sellers’/Realtor’s perspective, let’s explore offers from the strongest to the weakest, so that you’ll better understand where the offer that you are about to make might fit and how it might be viewed by the Sellers and their Realtor. Use the Infographic below for a quick reference guide.



CASH
There’s a saying in real estate that “cash is king.” The strongest possible offer is an all-cash offer at or over the asking price, along with clear proof of the funds necessary to get to the closing table and no contingencies or concessions. These offers also usually hold out the promise of a quick close, since no time is required for arranging financing. Who wouldn’t accept and all-cash offer for what you were asking (or perhaps even a bit more) from someone who produces financial statements representing the money in the bank and ready to go. Some of these offers go further (and get even stronger) by putting no contingencies (not even an appraisal or a property inspection) into the offer. I would never recommend that approach to a Buyer, but it is attractive to Sellers.  Most of the time there is a contingency that the property must appraise for the sale value and most buyers will request a property inspection. These offers usually do not carry requests for concessions to cover closing costs. Sometimes these are called “no-brainer” offers by the Sellers and their agents. While they are relatively rare, they do happen; especially at the lower end of the market, where cash buyers are often investors (or investor groups) looking to pick up rental properties.

MORTAGE OFFERS - The next strongest offer is usually one involving a mortgage of some sort. Within this category of offers there is a hierarchy of strength that depends upon several factors.

CONVENTIONAL
In general the strongest of these offers involves a Conventional mortgage with a good down payment (20% or more) and a pre-approval letter by the lending institution. Note that the letter is stating that the buyer has been pre-approved and not just pre-qualified. That means that the Buyer has been run through the Underwriting process and not just had some financial data collected and a quick credit check. It is a very strong offer if only the normal contingencies are specified – a good home inspection and an appraisal that supports the sale price. Conventional offers may have other contingencies or request Seller concessions; however, those both weaken the offer.
The next three offer types also have mortgages associated with them, but of differing types.

FHA
An offer with an FHA Mortgage is the most common type in this area. An FHA offer is considered to be slightly weaker than a Conventional offer because the Buyer only has to put down as little as 3%. For many Sellers that is a red flag that th3e Buyer may not have the wherewithal to get to the closing table. FHA deals often also carry Seller Concession requests for assistance with closing costs. Another reason that some Sellers (and their listing agents) don’t particularly like FHA deals is the FHA Appraisal process. Many people call it the FHA Inspection, but it is really not an inspection; there are just a bunch of things that the FHA appraiser looks for in the house while doing his appraisal walkthrough. Most of those things currently involved safety hazards in the home, such as not having handrails on stairs that are more than 3 stairs long or not having GFCI circuit breakers on outlets  that are within 5 feet of water (kitchens and baths) or are in the garage or are exterior plugs. IF the inspector finds those things FHA required that they be fixed and made safe before the loan can proceed. It required a second visit by the appraiser (which someone has to pay for) and adds time to the process. Still, an FHA deal is the strongest non-cash offer, assuming that the contingencies and concessions requested aren’t onerous. More on that below.

VA-
Mortgage loans backed by the U.S. Veterans Administration (VA) are next on the mortgage deal spectrum. Basically all of the FHA requirements are encompassed within the VA loan process, plus a few other things. VA still requires a pest inspection as part of the home inspection process and someone has to pay for that (usually the Seller). Not all condominium developments went through the VA certification process while they were being built, so the Seller may also have to do the paperwork to get his own condo development VA certified. That involves getting the Condo Owners Association or Management Company to submit the proper paperwork and may involve a cost that the Seller might have to bear. That can be a particular problem in Michigan, because we are the only state that allows subdivisions of free-standing homes to be built under the State’s Condominium Law. These are called Site-Condos, where the owners own their own site and the house on the site, but are also required to belong to a Home Owners’ Association which owns common elements in the sub – parks, play areas, sub entrances, etc.  The same cautions about contingencies and concessions apply to these loans. The more there are the weaker the offer is considered to be.

RURAL DEVELOPMENT
The last mortgage type that we see a lot of locally is USDA Mortgages under the Rural Development (RD) program. The USDA RD program was originally aimed at getting people to move into rural areas that needed people and development. These days, much of what we might call “the suburbs” actually qualifies for RD loans. These loans are also aimed at the lower-end of the market and at first-time buyers or people who haven’t owned a home for at least 3 years.  There are strict household earnings limits.  Much of the process and most of the rules are the same as for an FHA loan, but these loans can go all the way down to a zero down payment and the don’t have the onus of the FHA Appraisal associated with them.  Zero down loans really spooks some sellers and just looks a lot weaker than loans where the Buyer has at least some skin in the game. The contingencies and concessions issues are heightened in the Sellers’ minds if they see a zero down USDA RD loan in the offer.

CONTINGENCIES -
So, what are the contingencies that weaken your offer? Things like the appraisal value supporting the offer and a satisfactory home inspection are expected and pretty much accepted by most Sellers. Including such inspections as a well and septic inspection, a radon inspection or a pest inspection aren’t necessarily show-stoppers, unless you try to make the Seller pay for all of them. Just those four items could run well over $1,000 in costs to the Seller. Adding requirements for things like a staked survey of the property or an environmental study could runs over $1,000 by themselves and would probably get your offer deep-sixed if you asked the Seller to pay for them.

The most onerous contingency of all is the dreaded “Offer contingent upon the sale of the Buyers current home.” That is the kiss of death for most Sellers. Almost as bad, but perhaps acceptable is an offer “contingent upon the closing of the sale of the Buyers current home.” That says that the current home is escrow and awaiting a closing. Usually the Buyers will supply proof of the sale and usually they are ask to supply proof that the buyer of their home is capable of getting to the closing table on that sale. It can get fairly complicated to evaluate.

CONCESSIONS –
As for Seller Concessions; these are normally requested to help the Buyer cover his closing costs and usually are 3% or less of the sale price, but could be more. Sellers really don’t like concessions because it feels to then like they are paying the Buyer to buy their house (at least that’s what I hear a lot). Sometimes, when the appraisal doesn’t come back high enough to cover the sale price, Buyers will request a Sellers’ Concession to make up the difference. Many times a compromise will be worked out where the Buyer and the Seller both kick in something to make up that difference.

Why worry about the strength of your offer?
The main reason to be aware of the relative strength of your offer is so that the Seller doesn’t just turn it down because it is too onerous or because you look like a buyer that might not be able to get to the closing table with this offer. Remember that you are asking the Seller to take the house off the market based upon your offer. The other reason is that your offer may be compared side by side with other offers. Many times a Seller will take an offer that has a lower offer price but with less contingencies and no concession. You may see later that the house sold for $5-10,000 less than you offered; but what you don’t see is that the offer that was accepted was judged to be much stronger than yours and much more likely to close. Most times the accepted offer also resulted in a higher net to the Seller than your contingency and concessions laden offer.

A final factor impacting the strength of an offer as reflected on the Infographic is a more of a contingency on the buyer. It is the ability of the buyer to obtain a grant through the MSHDA (Michigan State Housing Development Authority) or to get a gift from family or others approved by the mortgage company.  The grant or gift will be used by the Buyer to make the down payment and perhaps to cover the closing costs that he/she incurs. The MSHDA grant program is unique to Michigan and is used my many first-time buyers.  A MSHDA grant is not considered to be a loan, since it does not have to be paid back if the Buyer lives in the house for at least 5 years. Gifts from relatives are not loans either; however, gifts must be qualified by the mortgage company and cannot contain any payback strings. The gift giver also has to show where the money is coming from. It can get a bit complicated and usually adds a bit of time, which is why the Sellers don’t like to see them in the deal.


Your Realtor should be able to advise you on the potential impact of the things that you want to put into the offer. They are working for you and trying to make the deal happen. They may have to tell you that you honestly aren’t ready to buy the house that you want to make an offer on, because the things that you need from the Seller are too expensive or onerous. They will point out that you are wasting everybody’s time with those kinds of offers. Listen to their advice. Lobbing in weak offer after weak offer is no more productive than lobbing in a constant stream of low-ball offers. A good Realtor won’t allow you to do that repeatedly. 

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