Forget Get-Rich-Quick Schemes, Property a Long-Term Investment

QUESTION: In early 1989, I bought my first rental house. It has a negative cash flow of about $200 per month. Since I bought this house it has gone up in value only slightly. I want to sell it, but after paying a real estate sales commission I will show a loss. I thought you said real estate always goes up in value. What should I do?

ANSWER: Real estate is a long-term investment, not a get-rich quick scheme. I never said real estate always goes up in market value. The long-term trend is for real estate values to appreciate, but there are peaks, valleys and plateaus along the way. Real estate usually goes in seven-year cycles, so your holding period just a little over a year is not long enough to produce much profit.

If you wanted a short-term real estate investment you should have bought a fixer-upper house to renovate, thus forcing the market value up. I aim for $2 of increased market value for each $1 spent on improvements.

If you want to make a profit, since you live in a good area with excellent long-term real estate potential, I suggest you keep your rental property for several more years.

Legally, Anything Can Make a Down Payment

Q: I recently attended a weekend real estate seminar where the speaker advocated trading discounted junk bonds for down payments on real estate. Since I own some junk bonds, this idea sounds very good to me. But when I talked with a real estate agent about the idea she said it is illegal. Is this true?

A: No. You can trade discounted junk bonds or anything else--a car, boat or widgets--as your down payment to buy real estate. It is perfectly legal.

However, you and the agent must disclose to the seller that the junk bonds are not worth their face amount, and they may never be paid off if the company obligated to pay goes bankrupt. Ask your attorney to explain further.

Property Records Are Forever--or Should Be

Q: How long should we save canceled checks and other records for our home and income properties? We have owned our home 23 years and keeping the records in the garage takes up considerable space. I heard a CPA say that taxpayers only need to keep income tax records for three years. Is this correct?

A: No. Save your real estate records and canceled checks forever. I hope you still have the purchase records from when you bought your home, because you will need them to determine your cost basis when you eventually sell it.

The CPA was correct that for normal transactions, such as credit card payments, you need only keep your canceled checks for three years, but real estate is a different matter, so keep property records forever.

Owner Needs Title Insurance Protection

Q: We are buying our first home. The mortgage lender requires a title insurance policy. We were asked if we also want an owner’s title policy. It seems to me we don’t need it, since the lender is getting such a policy. Do we need one too?

A: Yes. The lender’s title insurance policy does not protect you. In the event of a title loss, the lender would be paid, but you receive nothing from the lender’s title policy. You need an owner’s title insurance policy to protect your equity.

For example, suppose you buy a $100,000 home with a $10,000 down payment and a $90,000 mortgage. If an unexpected title loss occurs, such as a forged signature in the chain of title, the lender’s $90,000 loan will be paid off, but your $10,000 equity will be wiped out unless you have an owner’s title insurance policy, which lasts as long as you own the property.

Inheriting Means Smaller Tax Bite

Q: My father has a terminal illness, and I am his only heir. To simplify his estate he wants to deed the properties to me. But I seem to recall your saying that a donee takes over the donor’s cost basis. Since my father bought these properties many years ago and has large profits, would I be better off receiving these properties as gifts or an inheritance?

A: You will be better off inheriting the properties after your father dies than receiving them now as gifts. As you correctly explain, a donee takes over the donor’s cost basis. But an heir receives inherited property as its market value on the day of the decedent’s death.

In other words, if you inherit the properties you will have a much higher cost basis. This will minimize your taxable profit when you decide to sell the properties. For further details, please consult your tax adviser.

Where to Look for Lease-Option Houses

Q: You often advocate leasing a home with an option to buy. However, I haven’t seen any lease-options advertised in the newspaper. I talked with several real estate agents and they discourage the lease-option idea. The concept sounds great, but where can I find a lease-option here?

A: In many communities the real estate agents either do not know how to handle lease-options or they don’t like them because they have to wait for their commission until the purchase option is exercised.

The best place to find lease-options is in the “houses for rent” classified want ad column. When you find a house you like, ask the owner to lease with an option to buy.

Many house landlords will gladly enter into a lease-option, especially if you tempt them a little. My favorite tactic is to offer a year’s prepaid rent. Since most landlords are short of cash, they will often accept your offer.

However, if you can’t pay a year’s rent in advance you might try offering a year’s post-dated checks, so the landlord will have no rent collection problem. I’ve found that idea works almost as well.

Real Estate Agreements Should Be in Writing

Q: When we bought some rural property about two years ago the seller told us we could drive across his adjoining farm to reach the paved highway. This is much shorter and better than our other access to a dirt road that is often in bad condition.

But a few weeks ago the farm across which we drove to get to the highway was sold. The new owner erected a fence to stop us from driving across his land. When I drove up to his house to explain that the previous owner said we could drive across his land, the new owner claimed ignorance of the agreement and was very nasty about throwing me off his property. What can I do to enforce my legal rights?

A: Oral property agreements are usually not enforceable because the statute of frauds requires real estate contracts to be in writing to be enforced in court.

Since you have other access to your land, although it is not as convenient, you do not have a right to an easement by necessity. Similarly, since you had only been driving across the neighbor’s land for 2 years, you had not yet acquired a prescriptive easement nor was there adverse and hostile use of the neighbor’s driveway.

Unless you have some written proof of your easement across the neighbor’s land, it appears you have no legal right to continue that access. Please consult a real estate attorney for further details.

Reject Open-End Contingency Clauses

Q: Our home has been listed for sale for over two months. The agent finally brought us a purchase offer. It was slightly below our asking price, which we know is reasonable. But the big problem was that it contained a contingency for the sale of the buyer’s current home.

I refused to tie up our home with such a contingency because there is no guarantee the buyer will be reasonable about his price. He is trying to sell it himself without a realty agent. It was listed with a realtor, but the listing expired. Do you think I was wrong for rejecting this offer?

A: No. You were very wise to reject a purchase offer with an open-end contingency clause for the sale of the buyer’s current home. But I am surprised your realty agent did not suggest a 24-hour contingency release clause.

This means you can leave your home on the market for sale and when another acceptable offer is obtained, you then give the first buyer 24 hours to either cancel his purchase or eliminate the contingency clause.

Best to Let Farmers Invest in Farmland

Q: Last summer I visited my uncle who owns an Iowa farm. He leases about 200 additional acres. He told me land prices in his area are starting to go up. Do you think now would be a good time for me to invest in farmland?

A: No. Owning farmland is fine if you are a farmer and can use the land. But as an absentee owner you will have to rent the land to a farmer if it is to produce any income.

Then you will be worrying about farm crop prices as well as hoping the weather is good to produce a big crop. There are far better real estate investments, so I suggest you stay away from farmland, especially since you don’t know what you are doing.

The Market for Corner Versus Interior Lots

Q: We are considering buying one of two lots in a new subdivision. They both have the same square footage. But one is a corner lot and the other is an interior lot. The corner lot is priced $3,500 more than the interior lot. It is the only corner lot left in the entire subdivision.

The saleswoman says the corner lots are very popular because they offer more light than do interior lots, which have houses adjoining on three sides. Do you think a corner lot is worth $3,500 more?

A: You bring up a question to which there is no right or wrong answer. The advantages are a neighbor on only one side and in the back; driveway from the side street, leaving more open space, and two street exposures for light and air.

However, if the side street is busy and noisy, then you will have traffic on two streets instead of just one. If you have small children, you might want to construct a fence to keep them from running into the streets on two sides of your home.

As for the corner lot costing $3,500 more than an interior lot, many people feel corner lots are not worth a premium. I don’t think corner lots should sell for higher prices, but many home buyers are willing to pay extra for corner lots.