PARAMOUNT MORTGAGE - LENDER'S BLOG

The Internal Revenue Service (IRS) has “issued a massive new set of regulations, with complex rules, in 2012” that will affect the profitability of owning rental and investment properties says Stephen Fishman, a tax expert, attorney and author.

Some of these new rules change the definition of what constitutes a deductible repair versus an improvement.

“The regulations will likely make it more difficult to classify fix-ups and other building expenses as currently deductible repairs,” states Fishman. “When it comes to taxes, repairs are far more valuable than improvements, up to 271 percent more valuable.” There are two big reasons why:

1.)  Repairs are currently deductible in a single year, while improvements must be depreciated over many years (39 years for nonresidential buildings, 27.5 years for residential buildings);

2.)  If you sell a building at a gain, you must pay a recapture tax of up to 25 percent on the depreciation you claimed in prior years.

So what's the difference between a repair and an improvement? An improvement is a major change or alteration to property. The IRS says there are three types of improvements:

betterments – improving property or repairing defects;
restorations – making older property like new and;
adaptations – adapting property to a new use.

In contrast, a repair doesn't make a property better, restore it, or adapt it to a new use. A repair is a minor change that just keeps property in good running order.

The IRS now says that fixing your roof, replacing heating and air conditioning systems, installing plumbing or electrical systems, even if relatively minor in scope, will be classified as improvements rather than repairs.

Add to this list fire-protection and alarm systems, security systems, gas distribution systems, elevators and escalators. Now, under new IRS rules, a property owner cannot “repair” these systems, he or she can only “improve” them.

Fishman says, “The new regulations require that buildings be divided up into as many as nine separate properties for tax purposes: the entire structure and up to eight separate building systems.

A significant change to any of these systems must be treated as an improvement and depreciated over several years. As a result, more costs will have to be classified as improvements rather than repairs.

If you own rental or business property, or if you should become an “accidental landlord” in 2012 by electing to rent your home rather than sell it at a loss, you should talk with your tax adviser about how these new regulations will affect you.

Until recently, home ownership was no bargain compared to renting, according to Paul Diggle, a housing economist at Capital Economics.

Recent data from the U.S. Census Bureau and published statistics from Thomson Datastream indicate that rising rents and falling mortgages are tipping the scales towards home ownership.

Diggle says the median monthly mortgage payment has fallen to about $700 which is close to a median monthly rent check.

Several economic factors have converged at the beginning of 2012 presenting a strong financial incentive for renters to buy a home. This has historically never happened before.

“There has been a 33 percent drop in home prices,” says Diggle, “a plunge in mortgage rates and a 15 percent rise in rents since the housing crash.”

Much of the decision to buy a house still depends on your personal finances and preferences, your career or family life, or level of financial security.

But if you’re comparing just the cost of owning vs. renting, buying a house is the better choice.

For someone who plans on staying put for seven years, they would come out ahead by about $9,000 if they bought a median-priced home rather than being a tenant in a median-priced rental.

Dingle has taken into account the total cost of owning versus renting by including closing costs, maintenance, insurance and property taxes, tax savings from mortgage deductions and gains or losses from home equity.

His calculations assume that rents keep rising by about 3 percent a year and that house prices stay flat in 2012 and 2013 and begin rising in 2014 at about 3 percent a year.

Renters need to consider broker fees and future rent hikes and make assumptions about future trends in housing prices and rents in order to make an informed decision to buy a home.

However, falling home prices combined with record low interest rates and rising rents may soon prompt renters to take a second look at buying.

Renters with a good rental payment history could now be rewarded with better credit scores.

Last year Experian, one of the three leading credit-reporting companies, added a section to millions of credit reports showing on-time rent payments.

Now two other companies, CoreLogic and FICO, have announced new credit reports and scores for 2012 that will incorporate renters' payment histories from landlords.

In addition to rental payment history, data on payday loan payments, other nontraditional loans and child support payments will also be reported. Utility payments and mobile phone bill information could be added later in 2012.

“Our research shows that one in three consumers in the highest risk score band will improve to at least the next higher score band with the addition of positive rental data,” states Brannan Johnston, vice president and managing director of Experian’s RentBureau.

For some borrowers, that could be a 100 point boost or more in their credit score, explains Johnston. But for renters exhibiting less than perfect credit behavior, their scores could take a hit.

Experian said that in 2012 it would add negative marks to renters’ files including notes about bounced checks and if they “bailed out” of their lease agreement by moving out before the end date of the lease.

Incorporating rental payments into credit scores could affect millions of people who have previously not been “scoreable.” That includes recent college graduates, students and divorced people.

CoreLogic’s Core Score report includes about 100 million people. The three other major credit reporting companies, which include Equifax and TransUnion, have reports on 200 million.

TransUnion collects rental payment information and shares it with landlords, but Experian is the only one of the three so far to add rental history to credit reports.

Experian obtains rent history reports primarily from major property managers and apartment companies. Most small landlords are not reporting, but Experian is working on a system for them to send reports in the future.

If your landlord is not reporting to Experian or CoreLogic, says Maxine Sweet, Experian’s vice president for public education, you can build your rental history by documenting your own on-time rental payments.

Many consumers are "often confused as to where their credit score comes from," reports John Ulzheimer, president of consumer education at SmartCredit.com and Bottom Line newsletter contributor.

When these consumers hear the term "FICO credit score" they often think that the company Fair Isaac, the company behind FICO, creates their credit score.

Ulzheimer says this is a "common misconception."

Fair Isaac "does not calculate anyone's credit score," states Ulzheimer, "It simply developed the software that is used to calculate credit scores and licenses its software to the three credit reporting agencies: Equifax, Experian and TransUnion."

Although all three credit reporting agencies use FICO scoring software, each tends to produce slightly different FICO credit scores.

Ulzheimer says each of these agencies compiles its own credit history for each individual and inevitably misses certain credit accounts and events.

This can leave the consumer even more confused and wonder which of the three scores they should care more about.

It's important to consumers because the score can determine whether you get a mortgage, auto loan or credit card with attractive terms.

As a former employee of Fair Isaac and Equifax, Ulzheimer knows the inside workings of the credit reporting industry.

He says for a consumer applying for credit, "it depends on which of the three credit reports a lender happens to check. Only mortgage lenders check all three."

While many consumers have the ability to obtain a non-FICO version of their credit score through various Internet websites, those "scores are rarely checked by lenders."

In fact, a home mortgage borrower who needs to know quickly his or her credit scores and to receive an accurate interest rate and monthly payment calculation for a new home purchase, should contact a Paramount Mortgage banker.

The Federal Housing Administration's (FHA) acting commissioner, Carol Galante, announced on Wed., Dec. 28, it is extending the waiver for the agency’s anti-flipping regulation.

The waiver was set to expire Jan. 31, but will now be in effect through Dec. 31, 2012.

The law was originally created to maintain stability in the housing market by prohibiting the agency from insuring homes sold within 90 days of their acquisition.

FHA temporarily waived the rule back in 2010, saying a reprieve would allow buyers to acquire HUD-owned properties, bank-owned properties and private homes for the purpose of improving and selling them to revitalize neighborhoods.

Galante wants to help neighborhoods “struggling to overcome the possible effects of abandonment and blight," by accelerating the resale of foreclosed properties.

The waiver is subject to certain restrictions.

When the sale price of the property is 20 percent or more above the seller’s acquisition cost, the lender must provide documents that justify the increase in value and must meet other specific conditions.

All qualified transactions must be at arms-length, meaning parties to the deal cannot be striving to achieve some type of kick-back or special interest separate from buying and selling of the real estate.

The waiver applies only to forward mortgages and is not eligible for home equity conversion mortgages.

The FHA said it extended the waiver after finding it takes less than 90 days to acquire, rehabilitate and sell a distressed property.

Since the original waiver went into effect on February 1, 2010, FHA has insured nearly 42,000 mortgages worth more than $7 billion specifically on properties resold within 90 days of acquisition.

Link: Waiver

The National Association of Realtors’ research staff recently released its comprehensive annual report: Profile of Home Buyers and Sellers for 2011.

Market researcher, Paul C. Bishop, Ph. D., Vice President and Jessica Lautz, Manager of Consumer Survey Research state that they’ve identified “trends that have not been seen in the last 10 years,” which will affect the housing market as we enter 2012.

“Buyers now are facing tighter credit standards” and the successful home buyer will typically have “the very best credit” or buyers quite often will purchase “without financing,” states the authors. “This change is one that is so substantial, it is changing who purchases homes, who sells homes, and how the home is financed.”

Getting your potential buyers preapproved with a mortgage banker early in the home buying process may be the critical first step to ensure a successful sale in 2012.

Thirty nine percent of buyers “reported the mortgage application and approval process” was “more difficult than expected,” which underscores the need to obtain competent financial expertise to help buyers navigate through the entire mortgage process.

Younger buyers and first-time buyers are leaving the market. The report states “37% of home buyers were first-time buyers, a drop from 50% in 2010.” Your typical buyer is now “45 years old, a jump from 39 years old in 2010.”

To attract buyers, “41% of sellers offered incentives” such as home warranty policies or financial assistance with closing costs. The typical home sold at “95% of the listing price, and 61% reported they reduced the asking price at least once.”

Single women are also leaving the home buying market dropping to “the lowest market share since 2004” at 18%, while married couples purchasing homes have increased to 64%, “the highest share since 2001.”

The real estate agent’s and broker’s job is secure however, as 89% of all buyers purchased their homes with these professionals, a steady increase from 69% in 2001.

Agents and brokers shouldn’t stop advertising and promoting themselves. Referrals from families or friends account for just 41% of an agent’s customer base. Once a buyer selects you as their agent, you’ll have a loyal client because “nearly nine in ten buyers would use their agent again or recommend to others.”

The report says the “financial aspects of homeownership are important, but they do not stand alone as the primary motivators for the purchase of a home.”

Agents who specialize in stable, quality neighborhoods will do better in 2012. Buyers consider the “top three factors” that influence their home purchase are “quality of the neighborhood, convenience to job, and overall affordability.”

“The House voted 234-193 Tuesday evening of last week to extend payroll tax cuts and jobless benefits,” reports Andrew Scoggin of Housing Wire. But this is bad news for the housing industry.

The House Bill HR 3630 would increase guarantee fees (G-fees) charged by Fannie Mae and Freddie Mac. The fees, however, would go directly to the Treasury Department, not to the GSEs.

The president of the Mortgage Bankers Association, David Stevens, reacted negatively writing, “In their effort to raise revenue in order to extend the current payroll tax holiday, policymakers have proposed imposing a new tax on homebuyers that will cost each homebuyer thousands of dollars over the life of his or her loan.”

“This new tax comes in the form of a proposed 10-basis-point increase in the guarantee fees charged by Fannie Mae and Freddie Mac,” continued Stevens. “For the average borrower, that could mean an additional $4,000 in fees over the life of a $200,000 mortgage.”

The Mortgage Bankers Association, the National Association of Realtors, and the National Association of Homebuilders told lawmakers that redirecting revenue from Fannie and Freddie for purposes unrelated to the health of the housing finance system is counterproductive.

Originally, the Senate had only proposed increasing the guarantee fees charged by Fannie Mae and Freddie Mac on sales of mortgage backed securities. In response to lobbying efforts from private mortgage insurers, the Senate agreed on Saturday to increase the mortgage insurance premiums on FHA mortgages to avoid giving FHA financing a competitive advantage.

Housing experts say it is easy to understand why Congress would decide to offset the cost of the payroll tax reduction with increased mortgage fees. The mortgage fees will not directly tax anyone that already has a mortgage. So, there is no existing group of tax payers that will be immediately affected by the hike in mortgage fees.

Time is running out on the Dec. 31 deadline. The take-home pay for 160 million Americans will decrease in January unless the House and Senate can come to a compromise and approve an extension of this year’s cut in the payroll tax.

A worker earning $50,000 a year would see take-home pay drop by $1,000 over the year. For those paid biweekly, each paycheck would be $38.46 smaller.

“The Federal Reserve said on Tuesday this week that it was closing the books on 2011,” reports Binyamin Applebaum, New York Times financial reporter.

The Federal Open Market Committee met and voted for the 16th consecutive time to leave the Fed Funds Rate unchanged.

Wall Street wanted QE3. It failed to arrive. So, mortgage rates are dropping.

The vote was nearly unanimous with just one dissent: a vote in favor of additional policy stimulus beyond what the Federal Reserve currently provides.

The Federal Reserve said that the U.S. economy is improving. It noted that since its November 2011 meeting, the economy has been "expanding moderately" despite some "apparent slowing in global growth," alluding to the Eurozone's financial issues. Read the Fed's Statement.

No Change in Fed Policy; No New Stimulus.

The Fed's economic analysis appears mixed. It acknowledged moderate growth expectations over the next year, but there are challenges.

As such, the Bernanke-led Fed added no new policies at its December meeting, and made no changes to existing ones.

It did reiterate its plan to leave the Fed Funds Rate within its current range of 0.000-0.250 percent "at least until mid-2013" and also re-affirmed "Operation Twist". There was no mention of a "QE3" program or other market stimulus. The Fed left everything as-is until its next meeting on January 24-25, 2012.

Play the Fed's Decision for Low Mortgage Rates

Wall Street expected the Fed to "do more." Because the Fed stood pat, though, a window to lock low mortgage rates just opened up. It did not exist before the Fed’s press release on Tuesday.

Market conditions look great. There's steady growth, low inflation, and no clear resolution within the Eurozone.

These three forces have combined to push mortgage rates down to levels we never imagined possible just six months ago, let alone six years ago.

This isn’t the time to sit on the fence. For a borrower wanting to buy a home, or an owner ready to refinance there is a short window of opportunity to take advantage of historic low interest rates.

"Forget the subprime mess. These days adjustable rate mortgages (ARMs) are a good deal," reports Ashela Ebeling, Financial Reporter for Forbes magazine, especially for certain well-off home buyers looking to purchase or home owners wanting to refinance.

Many borrowers who purchased houses with ARMs during the subprime boom got hooked into using exploding ARMs; a 2% teaser rate could jump to 8% within two years, even if market interest rates didn't change. These products are long gone.

Ebeling says, "Today's ARMs are only a small part of the market, but here's the surprise: Most don't adjust for five or seven years," and that can make sense to buyers looking for exceptionally low interest rates.

Home buyers might ask, "Given that 15-and 30-year fixed mortgage rates are at historic lows, why even consider an ARM?" Ebeling offers "if you pay off your mortgage in a short period you can save a bundle."

That's attractive when you plan to move in the next several years or if you want to pay off a big mortgage before you retire.

The biggest savings come if you pay off the loan within the five to seven years before the ARM adjusts, effectively turning it into a very short, very low-rate fixed mortgage.

Ebeling cites a Jumbo ARM example from the experts. "Say you plan to pay off a $750,000 mortgage within seven years. Get a jumbo ARM at 3.125% for the first seven years and you'll pay $18,000 less interest than if you were to take a 15-year fixed-rate mortgage at 3.75% and pay it off over seven years."

Learn the lingo - Typically, the most common ARMs are 5/1 or 7/1 ARMs and 2/2/6 or 5/2/5 caps with adjustments pegged to an index. The LIBOR index is among the most common of benchmark interest rate indexes. The 5/1 or 7/1 part means the rate is fixed for five or seven years then the rate will adjust up or down in one-year increments annually.

The 2/2/6 part means the maximum first-year adjustment is capped at two percentage points above the initial offered rate. After that reset the rate can adjust up or down up to two percentage points each year with a maximum lifetime adjustment cap of six percentage points.

Don't go too short - If you anticipate selling your home in six years take a 7/1 ARM rather than a 5/1 ARM. The difference in monthly payment is minimal and you'll have some wiggle room to sell your home before the rate resets.

Don't go too big - ARM rates are lower than fixed-rate mortgages and can reduce your monthly payment. It may be tempting to purchase more house or to refinance for more than your existing principal to get extra cash. Just don't stretch too much when taking an ARM. You're still assuming interest rate risk, even if it's put off for five or seven years.

An extraordinary 18 percent of Realtors have experienced contract failures in the last few months reports Walter Malony, Senior Public Affairs Specialist with the National Association of Realtors (NAR), “which are double the levels of a year earlier.”

These contract cancellations are caused by declined mortgage applications, failures in loan underwriting from appraised values coming in below the negotiated price, or other credit or income problems affecting borrowers.

Maloney reports “in many cases, understanding how the credit system works would help buyers avoid problems,” which was the main theme for a recent presentation “Cracking the Credit Code” at NAR’s 2011 Conference & Expo in Anaheim, CA.

Chandra Hall, a Realtor, instructor and presenter at the Anaheim Expo wants Realtors to know a homebuyer’s “credit score is the key to his or her personal economic health. It’s imperative to know how credit scoring works and how to achieve the highest possible score.”

Credit scores are derived from payment histories acquired from credit card companies, home loans, car loans, and department store credit cards. But many borrowers do not realize that information also is obtained from court records including bankruptcy filings, tax liens and judgments which can negatively affect a score.

NAR analysis shows the average credit score for home buyers using conventional mortgages rose to 760 in 2010 from 717 in 2007. A score of 640 is considered to be a minimum score to get a mortgage, but varies among lenders.

Weighted average FICO scores for conventional loans purchased by Fannie Mae and Freddie Mac eased a bit in the second quarter of 2011, declining to 755, but remain well above historic norms.

Less than one percent of loans were offered to buyers with credit scores of 620 or below, and 70 percent of loans were provided to borrowers with credit scores of 740 or higher.

Twenty-five percent of Americans have credit scores below 599 which is almost double the level of two years ago.

Homeowners who have experienced a foreclosure on a conventional loan can expect to have that negative event affect their credit score for at least seven years, while a foreclosure on an FHA loan can have a three-year impact.

Utilizing a mortgage banker early in the home buying process can help educate buyers about activities that improve their credit score, such as paying bills on time. They can also learn what actions to avoid, including taking on new sources of debt like buying a car or getting a new credit card before applying for a mortgage.

Hall says, “If you’re planning to apply for a mortgage, don’t close an account within six to 12 months in advance. Keep older accounts, even if they’re unused, because the average age of credit accounts is a factor in scoring performance over time.”