As I’ve mentioned in prior articles, real estate is an under-appreciated but critical piece to the comprehensive view of a family’s investments. Often, this substantial asset (or assets) is not considered by traditional asset managers because it’s not something on which they can be paid. However, I believe all forms of real estate, from a personal residence, to rental properties or an ownership interest in a commercial property, need to be factored to the broader financial picture. Why? First, because equity in real estate can comprise a large percentage of a family’s net worth. Second, because this asset reacts differently than the stocks and bonds, which sadly are very often the only assets considered in an “investment portfolio”. Third, most of the time leverage (a.k.a. debt) is employed to purchase these assets which introduces many other inter-related considerations such as taxes, cash flow optimization, insurance issues…..you get the picture.
Realizing the critical nature of this asset in portfolios and recognizing the need for specialized industry knowledge, I recently sat down with Michael Zinicola the Team Leader of the EZ Sales Team (a team of 40 real estate agents) of Keller Williams Realty out of Westlake, Ohio. His team is one of the largest dealers in the State of Ohio. Michael is a 14 year industry pro and former real estate attorney and I believe he really knows his stuff. In fact, I personally completed two real estate transactions through Michael over the last 12 years and can attest to his knowledge and acumen. (Please note: I receive no referral fees, commissions or compensation of any kind for including Michael in this article or for any sale of real estate or any other products.)
The reason for my discussion with Michael was to not only gain a better understand of the current trends in the local market but also pick his brain on some of the most common mistakes, misconceptions and best practices he’s witnessed over the years.
Michael is the second in what will be a periodic spotlight of industry specialists in my blog articles, which are intended to provide a deeper dive into specialized topics. As a financial advisor who provides integrated advice families (full retainer clients), I believe it’s best to engage specialists for some aspects of my clients’ financial lives. I then coordinate the specialists’ knowledge into my clients’ broader financial strategy with an objective and conflict-free perspective along the way.
So let’s dive into it:
Current Market Conditions: Despite the successful growth of his team, Michael’s gauge of the broader demand trends is that the local market (Northeastern Ohio) is probably down slightly over the past 12 months. While it has certainly rebounded from the depths of the real estate crash in 2008 and 2009, the recovery has been un-even and spotty. Some markets, like downtown, are doing very well but other markets like lower priced urban markets are still struggling. From a financing perspective, Michael thinks banks are still pretty stringent with their lending standards since the financial crises. In addition, regulatory changes have made the appraisal market much more difficult and less flexible.
Biggest Mistakes When Buying a Home:
- The Price Perception Problem: Very often, buyers judge the success of a purchase negotiation based on how much they were able to get the seller to concede on price. This is a mistake because real estate is NOT a liquid market where “price discovery” can happen millions of time per day, like with an actively traded stock. For this reason, buyers must realize that the listing price is arbitrary and could be inaccurate, either too high or maybe even too low. What people should be looking to achieve is the right price relative to the market. Knowing this, it’s very important to consider all the factors of a house that may or may not show up as “comps” in the neighborhood. These factors include would be lot type, décor, finished space, etc. Buying close to the value is what matters, not how it compares to the original listing.
- Buying to Impress: Unfortunately, all too often Michael sees folks buying a home to impress others rather than to serve functionally as a residence. As he succinctly put it, “a home is an investment AND a consumable – it’s not a stock” and people often buy a home as one or the other. The best thing to do is balance the reality of your financial situation with the desire for all the trappings of a “dream home”.
- Using All Your Lender’s “Rope”: Asking your lender how much home you can afford to buy is like asking your credit card company if you should splurge on Christmas gifts this year. In short- their answer would be, “You have the credit- use it all!” Unfortunately, lenders typically use your credit score combined with back-of-the-envelope metrics (income based or loan-to-value) to come up with how big of a loan you qualify for or how much “rope” to give you. Of course, you need to consider your own financial situation (cash flow, goals, other debt) to assess how much you should be borrowing.
- Buying that “Unique Property”: People sometimes fall in love with a quirky or unique property that is unlike most on the market. It could be the Roman Emperor themed backyard or the serene view of the cemetery. While it may be a fit for you, the buyer, people need to think about how they would sell the property before they buy it. If they’ll live in the property for 20 years, it’s probably not as much of a consideration because usually, substantial equity is built up in that time. But, if they are likely to sell in three to five years, they may not want to limit their addressable market with their “unique property”.
Biggest Mistakes When Selling a Home
- The HGTV Effect: With the multitude of home improvement shows on HGTV, it’s easy to get stars in our eyes on those remodeling projects. But in the Cleveland area market, Michael believes a $40,000 kitchen remodel project may only get you $35,000 or so on re-sale ROI (return on investment) should not be considered as the main motivation for home improvement. What should be considered is improvements is of course to enjoy the improvement. Additionally, an improvement could offset a negative, like old, tattered carpet or other damage that should be repaired or most buyers won’t even consider the listing.
- Rose Colored Glasses: Because people have lived, loved and improved a home over 20, 30 or even 40 years, they very often value it much more than an objective buyer. Among other value-adds, this is where a realtor can provide perspective which in some cases, could be sobering. People need to take a step back and honestly consider a realistic selling price. There is no way a buyer will pay for all the memories in a home so people should not be offended by a cold, calculating assessment which is probably necessary to actually sell the home.
- Not Factoring in Opportunity Cost: Directly related to the rose-colored glasses effect is the idea that sellers aren’t factoring in the lost opportunity of the cash that is tied up in a home (in equity) and the cash drain from the ongoing expenses. With the equity, the seller could be reinvesting the sale proceeds in other assets or another home. In addition, people need to remember the cash drain comes with the taxes, insurance, utilities and even homeowners’ association dues that don’t stop just because you’re not living there anymore.
A home is a unique asset in your portfolio. First, it can’t be traded during the day like an ETF or a stock. Buying and selling a home is a labor-intensive and expensive process. Second, it’s very difficult to know with certainty the true value. Third, real estate reacts differently to different market conditions (interest rate trends, inflation, deflation, etc.). Finally and most importantly, a home holds sentimental value and emotional ties with all the memories, personalized touches and hard work which are all poured into it over the years. For these reasons, it’s beneficial to take extra care when buying and / or selling this asset and given its impact on a family’s net worth, a home must always be factored in to the broader financial portfolio.
Michael Zinicola contributed to this article and can be contacted at firstname.lastname@example.org or 440-465-4444