Earnest Money: When More is Less

Law of Diminishing Returns

If you don't like technical, legalistic real estate posts -- stop reading here.

Earnest money (called "unrest money" by at least one recent Buyer) plays an overlooked but critical role in every real estate deal.

Typically 2% to 5% of the purchase price, given by the Buyer to the Seller as part of the offer, earnest money actually accomplishes two things: 1) it establishes the Buyer's financial bona fides and commitment to the deal (think of it as the "down payment on the down payment"); 2) it serves as what lawyers call "liquidated damages" if the deal goes south.

In layman's terms, it is an upfront, agreed-upon estimate of what the Seller's damages will be if the Buyer fails to close (typically, for lost market time).

In other words, if the Buyer walks, the Seller keeps the earnest money, and both parties move on.

Theory vs. Practice

Except that in practice, earnest money can become a bitter bone of contention.

That's especially the case if the Buyer feels the Seller shares responsibility for the deal not closing -- and the earnest money is unduly large.

Then, instead of simply forfeiting the amount and walking away, the Buyer may decide that it's worth fighting over.

They can threaten litigation; refuse to formally cancel the deal, which prevents the Owner from selling to anyone else (and can then require that the owner go through the hassle of obtaining a statutory cancellation to get free of the Buyer); or cause various other mischief and headaches.

Ironically, in the rare instance when one of the foregoing scenarios occur, Sellers belatedly realize that the hefty earnest money check that was supposed to protect them instead can mire them further in a mess.

"How Long Will My House Take to Sell?"

The Second Most Popular Question in Real Estate

What's the second most popular question in real estate? (the first being, "what's my home worth?")

"How long will it take to sell my home?"

Unless the Realtor is going to buy it, the honest answer is, "I don't know."

However, it is possible to give the owner an estimated range, based on the following four, inter-connected variables:

One. Price.

The higher, the longer.

Locally, for example, there is currently a two year supply of $1 million-plus homes for sale in Edina.

If you are contemplating selling one . . . that's how long you can expect to be on the market.

By contrast, smaller, more affordable homes in popular Twin Cities neighborhoods like Linden Hills and Fern Hill take an average of 3-4 months to sell now.

Lately, homes under $250k or so in particular tend to sell fastest because they appeal to first-time home Buyers, who by definition don't have to sell another home in order to buy.

Two. Condition and updating needs.

As I've blogged previously, homes that require major updating (over $100k) have been tough sells in today's market because Buyers have to have that money in reserve.

Cheap mortgages -- and they're now well under 5% -- don't make it any cheaper, or easier, to tackle a major remodel.

Three. Relative Value.

Homes that are well-priced, staged, and marketed relative to their peers sell faster.

Always have, always will.

Four. Broad or narrow appeal, or, "the quirky factor."

Yes, it's true that "all real estate is unique" -- but some real estate is more unique than others.

It's also the case that there's "good unique" and "bad unique."

So, views of the Minneapolis skyline from the west side of Lake Calhoun would be an example of the former.

A home with an odd floor plan and a hodgepodge of architectural styles, the latter.

The common denominator in all four of the above variables is, how broad or narrow is the potential pool of Buyers for the home in question?

As a general rule, the broader and deeper the pool of prospective Buyers . . . the shorter the market time.

Fewer Warm-Fuzzy Closings?

Uptick in Pre-Signings

Historically, the closing was when Buyers and Sellers put aside any hard feelings from their long-concluded sales negotiation, and wished each other well (and the Seller explained to the Buyer how that tricky basement light switch worked, amongst other things).

Is that tradition a casualty of today's more contentious housing market?

The uptick in pre-signings -- confirmed by several closers I work with -- could certainly be evidence of that.

Multiple Explanations

Buyers and Sellers pre-sign -- and therefore skip the closing -- for all kinds of reasons: conflicting business appointments; long-planned vacations; day care issues; medical problems, etc.

Another big reason that many Sellers in particular pre-sign is that they have already moved out of state — no doubt because their houses are taking longer to sell.

However, anecdotally, most active Realtors can report at least one or two closings recently where one (or both) of the parties absented themselves because of residual bad blood.

Closings and Closure

Which is too bad, in my opinion.

That's because it's preferable for Sellers who are moving on, to really move on.

Meanwhile, it's always nice to see incoming Buyers feel good about the home that they're about to occupy, hopefully, for years to come, and to receive their Sellers' good wishes.

Fortunately, the vast majority of closings are still like that.

How's THAT for Seller Candor?

"And the Mechanical's are Ancient, Too!"

I just tripped across this in the Agent Remarks field of a St. Louis Park duplex that's currently on the market:

Sale Subject to Bank Approval of Short Sale. Cash Low and is fully rented on Long-term leases. Owner could occupy though with proper notice. Huge 4 car garage (each unit has private 2 car garage). Great condition, new roof, Great location.

I could be wrong, but I've got a hunch that "Cash Low" was supposed to be "Cash Flow."

That can't be helping the market time (250 days and counting).

Blast from the Past, or, the "Hail Mary" Call

Turning Up the Heat on a (Very) Cold Trail

Once every month or so, I get a voicemail like the one I got today:

"Hi, this is Bob Smith at Smith Realty. I don't know if you remember or not, but you showed my client's home at 123 Elm Street in December(!), when it was $179,900. I don't know if your client is still looking or not, but we just dropped the price today."

While I always admire a hardworking, proactive agent, such calls -- especially at that price point -- are almost always a waste of time.

For one thing, if my client has serious, continuing interest in a listing, the other agent will know well before three-plus months have elapsed.

For another, I've probably shown or previewed several hundred homes since December. Jogging my memory on a December showing is like asking me what I had for lunch last July 17.

Sitting -- For a Reason (or Several)

But perhaps most importantly, three months of market time for a listing under $200k is an eternity -- for both Buyers and Sellers.

While the market for upper bracket homes is sluggish (to say the least), well-priced, well-marketed entry-level homes have been selling briskly, typically in less than 90 days.

That's due both to who's buying them -- first-time Buyers who by definition don't first have to sell -- but also because of the tax incentives available ($8,000 for first-time Buyers, $6,500 for move-up Buyers).

Those numbers loom much larger for homes under $200k than for $600k or $1 million homes.

So, bottom line, the only reason an entry-level home would be sitting in today's market is because of condition, price -- or both.

Which undoubtedly is what my client thought way back in December (I honestly don't recall the home; they subsequently bought something else shortly thereafter).

Oh, and the new price that the listing agent wanted me to know about?

A dramatic drop down to . . . $175,000.

How Long Should a Listing Contract Be?

Realtors' Investment?
Skill, Time, & Marketing $$

How long should a listing contract be?

The short answer:

Long enough to sell the property being listed.

How long that is -- assuming that the home is well-priced, staged, and marketed -- is typically a function of price.

Under $200k in the Twin Cities today, you'd estimate 2-3 months of market time.

For a move-up home ($250k - $450k), 3 - 5 months.

As homes cross mid-six figures ($500k-plus), average market time locally can easily be six months now; double that for homes over $1 million.

For each of the above categories, add extra time for properties that are especially unique, or only appeal to a narrow slice of the market (automatically the case for homes over $1 million).

Step 2

Step 2 of calculating a contract term is to allow additional time for the home to close, once it's under contract.

From the time the last addendum on the Purchase Agreement is signed off on, that's typically about 10 days to remove the Inspection Contingency, than another 4-6 weeks for the home to appraise and the Buyer's loan to be finalized.

Bottom line: to sell a $399k Twin Cities home today, just as an example, I'd typically ask for a six month listing.

Listing Contract "Subtext"

Why not a shorter listing contract?

Or none at all?

That's certainly possible, but that really isn't fair to the Realtor -- at least one who is conscientiously doing their job.

That's because much of the Realtor's investment of their time (and marketing dollars) is made upfront.

That's when the Realtor conceives and implements their marketing plan -- making sure the home is staged to maximum effect; professionally photographed; and all the marketing materials proofed (and re-proofed a couple more times).

Of course, before any of those things happen, many Realtors work closely with their clients making sure that their home is in good repair, and advising "strategic" (cost-effective) updates, if that's indicated.

While all that's going on, a good Realtor is already doing what's called "pre-list marketing," i.e., promoting the home to prospective Buyers, and building market awareness.

Sprint -- or Marathon?

Hopefully, all those efforts produce a quick sale at a good price.

If they don't, however, it is the Realtor's job to support the listing with ongoing marketing.

That means making sure that the home continues to look fresh -- both online and in-person; and keeping the home in front of prospective Buyers by continuing to "plug" it at Realtor meetings, through email, ads, etc.

Too, it is incumbent upon the Realtor to tell clients when a price reduction is indicated -- then aggressively market the new, lower price.

It's certainly possible to have a client extend an about-to-expire listing in the middle of all that.

But it's preferable -- and easier -- to simply ask for the right amount of time in the first place.

"Married to the Listing" (vs. . . .

"Dating," "Going Steady," & "Engaged"

If you're a homeowner whose house is on the market, here's a quick way to characterize your relationship with your (listing) agent:

Less than 3 months on the market: Dating
3-6 months on the market: Going Steady
6-12 months on the market: Engaged
Over 1 year on the market: Married

Unlike in real life, in real estate, there's no such thing as "happily married" clients and Realtors.

Instead, almost all such real estate "marriages" end in . . . divorce.

"Psst! Make Me an Offer!"

Overpriced Homes And
Phantom Negotiating Leverage

Is a too-high asking price negotiating leverage?

Apparently, some Sellers today think that it is.

Instead of pricing their homes within the range suggested by the "comp's" (comparable sold homes), they stake out a price as much as 30% above.

Why? Negotiating leverage (presumed, at least).

When their home doesn't sell, as it invariably doesn't, rather than drop their price, they then instruct their Realtor to quietly put out the word that "the price is negotiable."

Memo to these Sellers: 1) the price is always negotiable, no matter what you're asking; and 2) if you price your home 30% above market, and it then sits for 6 months (or 2 years), it's not exactly a secret that you're overpriced.

Sellers who overprice invariably shoot themselves in the foot, for two reasons.

One. Homes aren't sold in a vacuum.

Rather, they're sold in the context of a peer group -- one that the Seller picks, by dint of their asking price.

If your home is really worth $500k, but you ask $650k, guess what? You'll be compared to $650k homes for sale and found wanting.

What happens next is that the overpriced home sits. And sits.

Which leads to . . . . reason #2:

Time on the market is a home Seller's enemy.

Depending on the price range, a for-sale home starts to look shop-worn anywhere between 3-6 months. After a year, there's actually a certain stigma: 'the Jones home? It's been for sale forever.'

Instead of feeling a sense of urgency and overlooking flaws, prospective Buyers circle at their leisure, zeroing in on the smallest blemishes.

The net result?

To overcome Buyers' skepticism, not only does the overpriced home Seller ultimately drop to market value, it typically overshoots on the low side.

Performing "Listing CPR"

Resuscitating a Cold Listing

Clients may not always appreciate it (or even know), but there's a big difference between what an attentive, skillful Realtor does in the course of marketing a home (a "listing" in Realtor-speak), and what someone less capable or motivated does.

To take just one example, consider what happens when a home fails to sell after an appropriate amount of market exposure (the more expensive the home, the longer the market time you'd realistically expect).

A Realtor doing the minimum will simply let market time mount, and hope a decent offer materializes before the listing expires.

A more engaged realtor will suggest that the client cancel and re-list, to re-attract the market's attention.

"Reintroducing" a Property

By contrast, a Realtor offering the highest level of service will formally "re-introduce" the property to the market.

That means not just going through the motions to cancel and re-list, but also:

--Putting the home back on Broker Tour (Tues.) and doing a Sunday open house.
--Networking the price reduction to other Realtors via email, office meetings, and the Internet.
--"Freshening up" the photos and literature.
--Tweaking the marketing language on MLS.
--Addressing any easily corrected showing objections.
--Revisiting the "comp's" ("comparable sold properties") and recent activity to determine the likely selling price (monitoring the market is really an ongoing task).

Coordinated and done well, all of those things collectively act like a listing "booster shot," and dramatically raise the odds of the home selling.

Of course, one might argue that the very highest level of service would be not having to do any of those things . . . because the home sold quickly in the first place!

However, whether or not that happens is ultimately more in the hands of the homeowner -- and the listing price they choose, the amount of fix-up and staging they do, etc. -- than the Realtor.

Now You See It . . Now You Don't

Where: 4241 Basswood Rd. (Fern Hill neighborhood in St. Louis Park)
Asking Price: $699,900
Sold Price: $670,000
Tax Value: $731,000
Key Stat's: 3 BR/3BA; 4,300 FSF
Market Time: one day (12/31/2008)

"The reason dolphins have a reputation for saving drowning swimmers is that you never hear from the ones they push out to sea."
--Anonymous

There's no question that the housing market is soft in many areas of the Twin Cities.

However, one of the reasons that it appears softer than it really is is that everyone knows about the homes that aren't selling: they've got conspicuous "For Sale" signs in front, attract a steady stream of slow-moving traffic (or not), and almost seem to project a certain forlorn quality as time passes . . . and passes.

By contrast, a home that sells fast barely makes a ripple. The immediate neighbors certainly know about it -- they know about everything -- but anyone just driving past probably doesn't.

"Stealth Sale"

A great example of a home that just came (and went) before the general public knew about it is 4241 Basswood.

The listing agent networked the home via email to other agents, which is how I found out about it. However, the next thing anyone knew, it appeared on MLS "sold."

No "For Sale" sign, no Sunday open, no Broker open (Tuesdays). Boom . . gone. Total market time: one day.

Such "stealth" sales are more common than you might expect, and underscore two things about today's market:

One. Newspaper editors' favorite saying, "if it bleeds, it leads," applies to the housing market, too. Bad news is loud, good news is quiet.

Two. If you are a Buyer and want first crack at a choice property, you'd better have a Realtor.

In my experience, the most desirable homes attract a crowd, in strong and weak markets alike. By the time the general public knows about them . . . it's already too late.