August 2007 - Posts
As a business journalist, I certainly get my fair share of press releases and media pitches on an endless array of products and services. Usually they find their way into the circular file.
So when I got a release this morning from a company called CreditXpert touting a new product the company developed that may double your chances of getting a home refinance loan or a new mortgage - - even if your credit is mediocre or worst -- I took a look.
In doing so, I think this credit optimization thing may have some merit. What's that about? I'll let CreditXpert explain.
"Credit optimization tools offer a viable alternative to crippling subprime mortgage payments. If borrowers facing unwieldy mortgage payments use credit optimization, two thirds of subprime borrowers can potentially refinance at conventional rates, avoiding a major cause of loan defaults. With whole neighborhoods of subprime borrowers likely to face loan workouts or foreclosures in the coming months, this strategy has strong potential for stemming the tide of sub prime mortgage foreclosures."
If nothing else, CreditXpert certainly has good timing. With the ongoing credit crunch and the subsequent unwillingness by banks and lenders to loan money to people looking for a new home or to refinance on an existing loan, this credit optimization thing may warrant a closer look.
Says CreditXpert: "Credit optimization will also become increasingly critical to new loan applicants. In an effort to reduce defaults, lenders are raising credit requirements. These tougher underwriting standards limit options for even the most creditworthy borrowers and force home buyers to rethink their purchase or refinancing options. Other challenges will hit those on the fringe between prime mortgages and subprime loans. Borrowers with a credit score under 620 are likely to feel the most pressure."
According to CreditXpert, credit optimization can help 30 percent of declined applicants gain approval and 50 percent of applicants earn a better mortgage rate when included as part of the origination process. Of course, what the company claims and what it does is open to debate. But that's quite a claim.
So how does it work? According to CreditXpert, consumers can use credit optimization technology to legitimately raise their credit scores. Similarly, a mortgage broker or loan officer can use credit optimization technology to help applicants legitimately raise their credit scores. It does so in two primary ways:
-- Accuracy: Automatically scrutinize credit report data for potentially incorrect, missing and outdated information that may be hurting the credit score.
-- Credit Behavior: Automatically identify the most cost-effective actions to achieve a score increase, such as paying down debt, transferring balances and opening accounts.
Credit optimization software also uses credit simulation to test different scenarios (such as paying down a certain credit balance) to see how those actions will affect the credit score. The software also
automatically scans every credit report and displays potential score improvement on the cover of the report. This way, the consumer, broker or lender only needs to perform credit optimization on files where there is an opportunity for improvement.
I'm not saying go out and pick up the CreditXpert product. All I'm saying is a little research into credit optimization may be worth your while, especially if you can't get a loan in this increasingly tough home lending environment.
Allow me one last word on the credit crisis of last week.
I hope by now I've demonstrated that credit and debt aren't the sole domain of green eye-shaded numbers crunchers on Wall Street. As the green-eye shaded numbers cruncher in your own company's finance department can tell you, bad economics effects everybody. So is the crisis over? Hardly. But banks and other lenders should get back to the business of making loans and making sure businesses have all the capital they need to grow and prosper. Some experts even think that there is money to be made from the subprime mess. Stuart Greenbaum, an economist and former dean of the Olin School of Business at Washington University in St. Louis, says that financial institutions, believe it or not, will be at the front of the line of businesses making hay on the crisis crunch. “Banks that don’t have a lot of bad paper in their porfolios are going to see the credit spreads widen out, and they’re going to end up making money as a result,” Greenbaum said. “The situation has created a buying opportunity, and we’re already seeing the reaction in the price of financial stocks, such as banks and insurance.” Greenbaum adds that the subprime loan problem is a bit of toxicity that has entered the food chain. He says that although the toxicity is widespread and expansive at this point, the market is built to absorb a certain amount of default.
The reaction to the subprime loan issue is compounded by several factors: First, the market was at a historically high level; second, interest rates were low; and third, the yield curve was flat and credit spreads have been very narrow, reflecting historically low volatility. “So the market is reacting to a somewhat exaggerated situation to begin with, and it has a particular vulnerability because credit spreads were narrow,” he said. “Volatility has been very low which has been driving the compressed interest margins. As a result, banks have been having trouble making money.”
In plain English, Greenbaum means that banks weren't making enough money to justufy lending more money out to borrowers. But he says that situation should get better, and more money should be freed up and will flow into the economy. Greenbaum also says bank stocks are a great place to begin taking advantage of the credit markets right now. With stock prices low, and interest rates apparently headed lower, banks may soon find themselves in a highly favorable business environment.
You know the old Wall Street saying buy low and sell high. That's not easy to do -- people get too emotional about their money to apply the level of disciplined thinking needed to buy and sell at the right time. But one thing is inarguable. Right now, stock prices are low. Way low. Act accordingly.
Contrary to popular thought, estate planning isn’t a “tomorrow” issue. Actually, estate planning is a guide for today.
As business management guru Peter Drucker puts it, “Long-range planning does not deal with future decisions, but with the future of present decisions.” More to the point, in the words of diamond philosopher Yogi Berra, “if you don’t know where you’re going, you could wind up someplace else.” That’s especially true of estate planning. Decisions made – or not made – today will surely impact your loved one’s financial security down the road.
So what’s estate planning? And how does the property you own impact the state planning strategy?
Let’s take these issues one at a time.
What is Estate Planning?
Estate planning allows for the transfer of an individual’s estate upon death to that individual’s chosen beneficiaries.
By establishing an estate plan ahead of time, you can minimize taxes and estate fees, direct your estate to beneficiaries of your own choice (and not some probate judge in the state you reside), establishes a crystal-clear plan on what happens with your home, your investment portfolio, your insurance policies, your business, or your employee benefits. It also establishes a plan for any properties you own besides your family home.
What Is An Estate?
While estate property laws vary from state to state, by and large, an estate is defined as all of the property an individual owns, be it in the individual’s name, in a partnership, in a joint-ownership pact, or through a trust. A short list of estate planning items would include:
- Your family property, including your home and any other buildings (like a barn or guest-house, located on the property)
- Any additional properties, like vacation homes, rental homes, commercial buildings, or undeveloped land
- Personal property, like investment, insurance, and retirement accounts, cars, furniture, jewelry, collectibles, cash, and pension benefits
- Any business interests, such as property owned, ownership shares, and inventory
How Much Can You Owe in Estate Taxes?
In terms of estate taxes and personal property, the more you can shield from Uncle Sam, the better. Congress has helped a bit on that front, passing new estate tax laws that allow you to leave $2 million tax-free to your heirs in 2007 and 2008, and $3.5 million in 2009. Under the law’s “sunset” provision, however, those numbers could be reduced in 2010, when the estate planning tax laws could be repealed.
Once you get past the $2 million estate tax allowance, the road gets tougher. For every dollar you leave behind, the Internal Revenue Service will take 45 cents – if you let them (see chart below).
||Estate Tax Rate
Source: Internal Revenue Service
What Does Real Estate Have to Do With Estate Planning?
In a word, plenty.
Real estate, in the form of your family home, second home, real estate investments, and real estate investment trusts (REIT’s) and other property-related investments, often comprises the bulk of an individual’s estate. In many cases, the family home is the estate holder’s primary financial asset. As such, it must be protected.
Tax issues come into play, as well. While cash and investments can easily be passed down to your heirs, not so with real estate property. There, the I.R.S. has erected multiple tax barriers that can be difficult to pass. So knowing what issues confront you as a property owners is half the battle in erecting an I.R.S.-proof estate planning
Some key issues with real estate and estate planning are:
Establishing Who Owns What? – The name that appears on the ownership properties has everything to do with your estate planning options. If your real estate assets are titled properly, you can minimize taxes and tee up your heirs for an easier exchange of property after you are gone.
How to Title Your Home – By and large, most married couples have both names on their primary home ownership papers. The primary reason for doing so is to ensure that, after your death, your family home will pass directly to your spouse, normally on a tax-free basis. And if your surviving spouse opts to sell the house, he or she will likely be able to do so while avoiding onerous capital gains taxes.
Leaving Your Family Home to Your Heirs – There are about half a dozen ways to leave the family home to your heirs, some of them more tax-friendlier than others.
- Sell on the Cheap - Some folks like to sell their homes to their kids at a bargain-basement price. That’s okay – just know that you’ll probably be using up much, if not all, of your annual gift tax exclusion, and there will probably be some taxes left to pay once you get outside the protective cocoon of the gift tax exclusion.
- Stay in the Home – If your estate value falls below the magical $2 million mark, this may be your best options. In most cases, the home can be bequeathed to your heirs on a tax-free basis.
- Gift the Home – You can move out of the home and “gift” it to your heirs, but know that you may be setting your loved ones up with a hefty tax bill in the process. In most cases, gifting your home to your children is a taxable event, especially if they decide to sell the property. Plus, you’ll be whittling away at your $2 million estate-tax allowance, as that amount is reduced, dollar for dollar, by gifts in excess of the annual exclusion amount.
Benefiting From a Qualified Personal Residence Trust – The best way to make an IRS-approved gift of your home to your heirs is through a qualified personal residence trust (QPRT) - - without having to move out. The QPRT allows the homeowner to place the home in a trust, while continuing to reside in the property. The I.R.S., based on a complex formula involving interest rates, the age of the property owner, and the length of the trust, can knock off up to half the property’s taxable liability, while at the same time paving the way for your heirs to own the house someday.
Managing Rental Properties Through an LLC – Many real estate investors who own property they want to pass on their heirs use limited liability companies to protect their assets from taxes. For federal tax purposes, the single member LLC is considered a "disregarded entity," so there is no separate income tax return for property you own, making it a cost-efficient and convenient estate planning mechanism.
The Takeaway - There is no shortage of strategies to pass along real estate property to you heirs and, at the same time, protect you and your loved ones from high tax bills, prying probate court judges, and expensive attorney fess.
In future blogs, I’ll go into greater detail on how some of the property-protection strategies mentioned above can provide peace of mind when it comes your estate planning needs.
When it comes to creating wealth, I’m with that famous billionaire J. Paul Getty. The legendary oil baron once said that the key to wealth creation was easy: “If you want to make money – big money,” said Getty. “Just do what nobody else is doing.” That’s what I love about foreclosure investing – the topic of last week's blog and an issue I'll be covering some more today. Practically nobody else is doing it. The thing about foreclosures is that there are few folks doing it right. Take the issue of finding good foreclosure properties. I’m not saying it’s easy, but if you apply a little science and elbow grease to the process, it sure seems easy.
Here’s a primer on finding good properties. Use it and see if you don’t strike some foreclosure gold.
The easiest way to begin your search for possible locations is to immediately eliminate those foreclosure properties residing in places that are in decline and have little chance of improvement in the foreseeable future. These are the “dogs” of the foreclosure investment world, and you want to avoid them as if you were the mailman. Even if you can obtain these properties at a bargain price, you will spend a considerable amount of time, effort and ultimately money to convert such acquisitions to cash. It's better to avoid these problems and pursue more lucrative endeavors.
Here’s a List of Eight Location Pitfalls You Should Avoid:
- The area shows a lack of pride in the ownership. Un-mowed lawns, overgrown trees or bushes, broken or torn fences, damaged sidewalks.
- High crime rate areas. Graffiti, vandalism, burglary, assault–random crimes to property and/or persons.
- Several abandoned buildings and boarded up properties reside within the surrounding blocks? Surrounding homes or lots that appear severely damaged, vandalized and vacated for extensive periods of time.
- There is junk in the streets. Cars disassembled, stripped or on blocks, broken glass, oil and chemical stains.
- There is a lack of appealing shopping close by. Numerous closed stores or poorly maintained storefronts, no major grocery stores or malls/retail outlets within close proximity.
- It is a difficult commute to major roads leading to work or points of interest. Poor signage, bad/heavy traffic conditions and roads in disrepair.
- The freeway/expressway system is too close by. There is nothing to obstruct the view of the road system (e.g. trees, hedges, wooden fences) and trash and excessive noise are caused by the presence of these major roads.
- Intrusive industrial/commercial sites are close by. Chemical, rendering or manufacturing facilities emitting dark smoke, foul odors and/or excessive noise.
Find Your Rising Star
Then there are those properties I call “rising stars” They should be your bread and butter.
How do you find them? Let’s have a look: Rising stars are those properties that may not be perfect “as is”, but have great potential to become so with a little effort. Neighborhoods that have an established reputation in the community for low crime and cleanliness are appealing to homebuyers. These are properties that new buyers realize have some flaws, but nothing that a little hard work can’t fix-up. Researching these types of opportunities has a great advantage because locations have existed for some time make it considerably easier to determine normal traffic conditions, the local attractions the surrounding areas have to offer, what the neighborhood feel is like and what the property values have historically been. Rising stars are where you have the greatest chance of finding a diamond in the rough. That one investment that will turn tremendous profit when you properly market it.
I’ve listed the key elements of locations with big upside potential below:
Seven Location Possibilities with Upside Potential:
- Predominantly clean, older homes. Houses established in the neighborhood but well kept by owners.
- Older neighborhood but no trash in streets or uncut lawns and abandoned cars. Homes in surrounding blocks look as though the owners have maintained them on a continuous basis.
- Neighborhood beginning to show signs of age. Trees are of significant height, traffic patterns well established, some homes have already changed owners once.
- Area appears to be improving. A few homes have already been rehabilitated. Significant landscaping, well built structural additions, quality decks or sunrooms, improvements to overall appearance from roadside.
- Shopping, churches, parks and schools close by. Facilities are clean, well maintained and popular with the community at large.
- Fix up costs 5-10% of purchase price-cosmetic improvements. Interior and exterior alterations are minimal and only for upgrades, not major repair or rehabilitation work.
- Little or no structural repair required. Solid foundations, siding and/or masonry undamaged, no sagging or settlement present.
Cashing in on “Cash Cows” Your cash cows are the investments in properties that you just want to keep making. These are the homes that are always in demand and require minimal effort to obtain their full market value. Why? Because the ideal location is, as its name suggests, perfect as it stands. The house and its lot are in pristine (or nearly pristine) condition. The residence has the features and amenities that are continually sought. The location meets the needs of the residents while surrounding crime, noise and pollution are virtually non-existent.
Here’s a list of ways to find your cash cow.
Nine Characteristics of The Ideal Location
- Clean, well-maintained streets with only a few cars parked curbside, others garaged, freshly cut and landscaped lawns, hedges and trees.
- Good curb appeal; the first impression from the roadside is clean and favorable to viewers.
- Upscale neighborhood; homes display signs of high to superior quality in materials and construction.
- No damaged homes, all well kept and maintained (including yard and sidewalk).
- Homes are homogeneous in size, styles and financial value.
- Recent renovation work was for the purpose of improvement/upgrading the property.
- Only basic cosmetic changes are required (e.g. carpet, drapes, linoleum and exterior paint).
- Not located on a main or busy street. Think cul-de-sac.
- Short drive/good access to expressways and public transportation systems.
- Short drive to grocery stores, churches, schools, recreational facilities and upscale shopping.
Do Your Homework A good foreclosure investor does his or her homework. Finding a cash cow and avoiding the dogs is all about good, common sense, and doing your research. If you can manage that, then finding your next great foreclosure property is only a step away.