1. Equity and Selling Costs © Dr. B. C. Paul 2002 revisions 2008 Note – The subject covered in these slides is considered to be “common knowledge” to those familiar with the subject and books or articles covering the concepts are widespread.

2. Herby’s Home Buy Cash Flow Herby’s Home Buy Cash Flow $2,800 Down Payment $1,260 Loan Initiation Fees $600 Homeowners Insurance Bank also charged $378 in “Points that rolled into loan $230.31 $227.52 $224.55 $221.39 $218.03 $161.18 $132$139 $146$153$161$169$372.06/mo. $385.56/mo. $310.56 $316.56$323.05$329.84 $200 Home improvement loan initiation. $75/month for Home Repairs $106.24/month Bank Loan for Repairs $79.22/month Sinking Fund for Roof

3. One More Issue  Herby will sell the house when he graduates  Herby hopes to have built some equity  Herby’s has $22,792.47 left on his home loan  Herby’s house should have grown in value  according to tax assessment records the home value has increased 27.63% since he bought it  $28,000 + 1.2763 = $35,736  Herby has also made some home improvements since he got the house

4. Home Improvements and Equity  Many home maintenance items are needed to keep a salable house but add little to the selling value  There are guides on what kinds of things add value  example new Kitchen usually returns value  finishing a basement often does not  Many items add part, but not all of their cost to the homes value

5. Herby’s Home Improvements  Herby bought $5,000 in goods and put a lot of sweat into installing them.  Lets assume Herby gets his cash out, but not his sweat  Value increases $5,000  Herby has just reroofed  Herby may get 50% out of that  Value increases $2,100  Herby’s new home value  $35,736 + $7,100 = $42,836

6. Herby’s Equity  Home Value is $42,836  Buyers will usually try to hack at the price  In a sellers market you can get what you ask (if its reasonable)  In a buyers market you often have to be dickered down (Southern Illinois is a buyers market)  Lets assume Herby will get $40,000  Herby’s Equity  $40,000 - $22,792.47 = $17,207.53

7. Not So Fast  It costs money to sell a house  Real Estate Brokers Commission  7% of selling price $2,800  Title Insurance $400  Deed Preparation $200  Mortgage Release Recording $15  Real Estate Stamps (about 75cent/$100)  $40,000/$100 = 400 * 0.75 = $300

8. Taxing Questions  Property Taxes are in arears - Buyer will get a credit  Next years taxes will be about 5% higher than last years  $1,123.38 * 1.05 = $1,179.58  Herby sold part way through the year so he only covers 9 months of the 12  $1,179.58 * 9/12 = $884.66

9. Herby’s Windfall  Sellers Costs  $2800 + $400 + $200 + $15 + $300 + $884.66 +$22,792.47 = $27,392.13  Home Sells for $40,000  $40,000 - $27,392.13 = $12,607.87 Cleared  Herby can also cash in that Escrow Account  Account will have $3,657 - $2,051.89 + $177.78*9 = $3205.13  Herby can also cancel his homeowners insurance for last 3 months of year  $730 * 0.25 = $182.50 

10. Herby’s Homey Cash Flow $2,800 Down Payment $1,260 Loan Initiation Fees $600 Homeowners Insurance Bank also charged $378 in “Points that rolled into loan $230.31 $227.52 $224.55 $221.39 $218.03 $161.18 $132$139 $146$153$161$169$372.06/mo. $385.56/mo. $310.56 $316.56$323.05$329.84 $200 Home improvement loan initiation. $75/month for Home Repairs $106.24/month Bank Loan for Repairs $79.22/month Sinking Fund for Roof $15,995.50 from sale of home

11. Now How Do We Decide Whether to Buy or Rent?  That’s Right - The old subtract one alternative from the other trick  Our Thought would probably be that Herby Should Buy Rather than Rent.  Lets look at the cash flow

12. Look At Flow Note that the cash flow of the Preferred Alternative is just Preferred - Alternate.

13. Look at the Cumulative Cash Position Point at Which the Cumulative Cash Position Goes Positive is Called the Payback Period What are the Chances of Getting Your Rate of Return from a Cash Flow that never pays back? Payback Period can be a quick check for a looser proposition.

14. I Bet You Thought I Was Going to Show You Whether Herby should buy or rent But that would spoil all your fun in assignment #9