Young adult woman preparing fence to be painted or stained outdoors in natural area.

Be a Good Neighbor While Your Renovate

Having a good relationship with your neighbors can make life far more peaceful and enjoyable, so whenever you contemplate outdoor home projects—whether you’re installing a new deck or hiring someone to install a sprinkler system—it’s wise to consider how those projects will affect the people around you, not only while the project is underway, but after it’s complete.

First and foremost, communicate! Let your neighbors know about your plans, so they are not surprised by additional traffic from construction workers or disruptions caused by unexpected noises or smells. It would be a real shame if your neighbor planned an outdoor wedding in their backyard on the same day you planned to bring in hot, stinky tar to redo your roof. If you’re hiring workers to help you, tell them where they can park that will cause the least inconvenience to your neighbors.

Sometimes, it makes sense for neighbors to share the cost of a project (improving a private road or repairing a shared fence), so talking with neighbors ahead of time can benefit you and them. Other times, you may be able to get a discount if you can bring additional business to the trades people you hire. There are economies of scale for people who have to move big equipment to get work done. If a tree-trimmer brings his equipment all the way to your house, he’d probably appreciate some additional business from your neighbor. If you and your neighbor both need new driveways, you may consider approaching a contractor together, and asking if he would consider a discount for two jobs, instead of getting just one new account.

Whether you’re working on a joint project or simply doing a little home improvement on your own, it’s important to consider the safety of people and pets. If you have a construction site, be sure to clean up at the end of each day (or ask your workers to). Do not leave tools and/or equipment out where children or pets could stumble across them and hurt themselves. If you’re using nails, keep a close eye on them to prevent discovery later, with a bare foot or tire. If you share a property line with a neighbor and your work opens a hole between the two properties, be sure your pets and their pets cannot escape.

It’s also important to clean up for other reasons. No one wants to see a big mess day after day, whether it’s dirt and leaves from your landscaping project or scraps from your construction project.

Here in Ukiah in August and September, many people like to start work early, before the full heat of the day starts broiling everything. However, not everyone appreciates waking to the sound of a skill saw or Weedeater. If you plan to start before 9:00 am, it’s thoughtful to give notice to neighbors so they can plan accordingly. The same consideration should be given if you plan to work late into the evening, and the noise and/or light from the project could disrupt your neighbors. Keeping regular hours is especially important on the weekends, when people like to sleep in.

Most people can put up with a little inconvenience for a limited time. We all need to get things done around the house and that can involve noise, mess and increased traffic. However, before you start a new project, make sure you have the time and money to finish it so the project doesn’t languish for months or years to come. No matter how patient your neighbors may be at the beginning of a project, if it continues beyond a reasonable time, they’re bound to get frustrated eventually.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

Small house with rental label over a wooden background with space

Right Problem, Wrong Solution–Rent Control

 

In 1995, the California State Legislature enacted the Costa-Hawkins Rental Housing Act, preventing local governments from enacting rent controls on single-family homes and on housing built after 1995. Rent controls limit how much landlords can charge their tenants.

Proposition 10 would repeal the Costa-Hawkins legislation, thereby allowing local governments to adopt rent control ordinances without restriction. Before I tell you why this is a terrible idea, let me fully disclose that I personally own rentals and my company has clients who own rentals. We also sell properties used as rentals and we manage rentals. None of these things change the basic laws of supply and demand—and it is the laws of supply and demand that make Proposition 10 such a wrong-headed approach.

Prop. 10 proponents are big on emotional messaging and short on factual information. They share pictures of low-income seniors and disabled veterans with stories of them getting evicted next to slogans like, “The rent is too damn high.”

Rent control is price control. Does anyone remember trying to get gas during the 1970s? When President Nixon (and then Presidents Ford and Carter) artificially suppressed gas prices, they caused a huge mess and massive inflation. Stations ran out of gasoline and consumers could only buy gas on certain days. The artificial price caps prevented market forces from restoring balance.

Rent control will have a similar effect. The current waiting lists for rentals will get even longer. When vacancies appear, the people rent control is intended to help will be the first to suffer. Why would a landlord accept a prospective tenant with a monthly income of $3,000 when they have another applicant for that same unit who makes $7,000 per month?

On the supply side, if rent is capped at $1,000/month, but the cost of construction is $200,000/unit, no one is going to build. That’s the primary problem with any kind of price control. Rents go up because demand is up. If you eliminate the profit motive for building new units, you’ll eliminate the supply of new units. The only exception is when the government steps in and says, “Gee, there isn’t enough housing. We’ll build some.”

The most recent government-sponsored housing in Ukiah can be found next to the Sun House Museum. According to the City of Ukiah, a finished unit cost $382,000, including the land and construction. No developer in his right mind would build units at $382,000 with an artificially low rent schedule of $1,000-1,500 per unit. (That means that those of us who pay state and/or federal taxes have just seen an increase in our tax bill.)

The true solution to the housing shortage, especially the shortage of rental properties, is not rent control, which will inevitably lead to further shortages. Instead, the answer is to increase supply. The way to increase supply is to reduce the cost of development. To reduce the cost of development, we need to make more land available—zone more land for residential use. We also need to streamline the permit process, which the county has promised to do for 30+ years. And we need to cut building costs by reducing onerous and unnecessary building regulations.

Perhaps the single easiest and most effective way to increase the local housing supply is to dramatically reduce or eliminate the uncertainty surrounding the approval of new building projects. Right now, developers must invest tens or even hundreds of thousands of dollars prior to final approval. Uncertainty leads to risk which leads to higher costs. Each time a developer starts a project that doesn’t receive final approval, the cost of that failed investment must be made up in the next project.

California definitely has a housing affordability crisis, but the problem is driven by a housing shortage that is driven by high development costs. Instead of rent control, let’s address the root of the problem—let’s reduce development costs.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

A spring and summer time show of weeds against a wall.

Maintain Your Property

As I was driving into town to come to work this morning, I noticed the weeds growing up in the median strip on Perkins Street near the Hwy 101 onramp and offramp. I’ve noticed these weed for weeks and they irritate me.

If you checked the median near Hwy 101 on Gobbi Street, I expect you’d see the same thing. While the City of Ukiah and other local government entities promote tourism by telling people what a great place Ukiah is (and it is!), seems to me they could put a little effort into improving visitors’ first impression of our town by trimming the weeds near the highway offramps.

For visitors who take Perkins Street into town, they will be greeted with properties along Perkins Street that are in desperate need of a little TLC. We’ve all seen these properties—with dead, overgrown landscaping and “For Rent” signs affixed with masking tape that’s peeling off in the summer heat.

If those visitors are here to scout out whether Ukiah would be a nice place to live, or even just to stay for a while, many of them are probably thinking, “No, thanks.” For those of us who travel those streets on a daily basis because we live here, it’s disheartening to see our town decline.

For property owners, this decline should be even more alarming. When adjacent properties aren’t maintained, the value of the whole neighborhood or business district goes down. And as for the occupied properties, patrons aren’t likely to have a very good impression of the business if the building and landscaping make it clear no one cares enough to mow the grass or paint the siding. Properties in disrepair leave customers with the impression that they’ll be receiving a lower quality of service and/or merchandise.

If a building is unoccupied—for sale or rent—a shabby appearance doesn’t do the property owners (or those nearby) any favors. Prospective tenants aren’t likely to think too highly about the caliber of the landlord. And they’ll take their cue about how to care for the place from the way it’s been cared for thus far. Prospective buyers are likely to wonder, if the landscaping and basic maintenance have been ignored, what other, more serious issues may have been ignored?

Although I cannot explain the physics of this next phenomenon, I’ve seen it enough to know it’s true: trash in a front yard does, in fact, attract more trash. The same goes for weeds and graffiti. By keeping up a little at a time, property owners prevent a snowball effect from occurring. One graffiti tag left unaddressed can lead to a building received a new coat of paint—spray paint, that is.

So, here’s my request. To the City of Ukiah, I ask that you take a couple hundred dollars out of the thousands spent on promotion and clean up the areas within your control. If you’re a property owner, take a little pride in your property. I’m not saying every building needs a manicured lawn and a new coat of paint every year, but I am suggesting that taking care of your property will improve its appearance, which will pay dividends for passersby, occupants and owners alike.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

 

 

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How to Avoid Getting Dropped as a Real Estate Client

 

In my office, we have a list of individuals and organizations we won’t do business with—most are vendors, others are past clients who behaved so poorly we won’t work with them again.

The reasons vendors get put on the list can include things like doing substandard work, having no liability insurance or workers’ comp insurance, or lacking the required contractor’s license. When it comes to individuals we won’t work with, my personal philosophy is this: if I can’t trust you, I won’t work with you. If you’ve lied to me, my staff or any of my Realtors about significant issues—or if I’m pretty sure you would lie to me—then you’re blacklisted.

As a rule, Realtors are a friendly bunch, but sometimes the chemistry between a Realtor and a client just isn’t there. If either party doesn’t have a reasonable amount of respect and trust, or if miscommunications seem to be the rule rather than the exception, the relationship probably won’t work. Call it off—quickly and amicably. If you’re the agent, refer the client to a better-suited agent. If you’re the client, find a new agent.

Realtors often invest hundreds of hours of their time into a successful purchase or sale, and they only get paid when they close a transaction; that is, when they find buyers their dream property for the right price or help sellers get top dollar for their property in a timely manner. For Realtors to be successful, clients must do their part. Clients need to communicate their needs and expectations, and respond to Realtors in a timely and decisive manner for everyone to get what they want—closed transactions.

The types of clients I recommend firing are those who do not allow Realtors to be successful, or who blame Realtors for their own shortcomings. I’ve seen plenty of prospective buyers who cannot make a decision quickly enough to take advantage of an opportunity and then blame the Realtor for losing the sale. I’ve also seen buyers who want a 2,500 square foot house in good condition on the Westside for $350,000 when the median price is closer to $450,000.

At some point, a good Realtor will conclude that the number of hours invested with a certain client probably won’t be worth it, given the likelihood of closing the sale. And it’s not just the financial toll, working with frustrating clients takes an emotional toll, too. It’s exhausting to work hard and do all the right things, only to have a client miss an opportunity because they couldn’t be bothered to return a call.

In a community as small as Ukiah, we have about 200 Realtors and most of us know more than one of them. This makes choosing tough. You don’t want to hurt anyone’s feelings, but the fact is, you can’t have more than one Realtor. Make a decision and stick with it, unless the Realtor doesn’t do a good job.

I once heard of a Realtor who was showing a property to a client when another Realtor showed up. The client ran to the other Realtor and hugged her and they talked for several minutes. When the client returned to the original Realtor, he asked, “If I find you a home, are you going to buy it through me or are you going to feel obligated to buy it through your friend, there?” The client hemmed and hawed, and admitted she’d probably buy through the other Realtor. Not cool. Don’t be that person. If you have a brother-in-law or cousin or family friend with a real estate license, hire them or don’t, but don’t waste a local Realtor’s time only to give the sale to someone else.

Successful Realtors know how to close transactions. If you’re serious about buying or selling, listen to your Realtor.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

 

 

First-time Homebuyer

Becoming a First-Time Homebuyer

Home ownership isn’t right for everyone, but it can be a great investment and provide a huge sense of satisfaction. Before you cross home ownership off your list because you don’t think you can afford it, let me tell you what it takes.

The median house price in the Ukiah Valley is about $425,000. Since you probably don’t have that kind of cash lying around, you’ll need a home loan . The good news is that many first-time-homebuyer loan programs require little or no money for a down payment, making this whole adventure a lot more doable.

In recent weeks, the annual percentage rate for a 30-year, fixed-rate mortgage with little or no money down has been in the neighborhood of 6 percent. That means, you’ll need about $3,000 a month to pay the principal, interest, taxes, homeowner’s insurance, and mortgage insurance. You’ll also need an additional $500 a month for home repairs and upkeep.

That additional $500 a month should go into a savings account each month and only be used for the inevitable expenses that come with home ownership. At some point, you’ll need to paint your home inside and out, patch the roof, replace the water heater, and buy new appliances. You’ll need to replace carpeting, fix windows, and if you have children, you’ll have reupholster your favorite easy chair to get rid of the Silly Putty. If you’re lucky, these repairs won’t all be necessary at once, but I can guarantee they’re coming eventually.

So how much income do you need to earn to be able to buy a median-priced house? Your total household income needs to be about $100,000 a year. If both contributors make the same amount, they each need to be employed full time making about $25 per hour.

And as you might imagine, reportable income is not the only requirement to get a loan. You need good credit (a credit score in the mid 600s) and job stability. Lenders want to do everything possible to assure that you can make your monthly payments, now and in the future.

To rent this same house, rather than spending $2800-3500 per month, you would pay closer to $1500-1700 per month. Of course, once that $1500 is spent, it’s gone. You are not building any equity. So although renting is a bargain, keep in mind there are more issues to consider than just the monthly cost. During the last 50 years, home ownership has created more wealth in the U.S. than any other investment.

And owning your own home has benefits that go beyond financial. Pounding a nail wherever you want doesn’t require anyone else’s permission. You can replace the lawn with a vegetable garden or rip out ugly bushes for an unobstructed view of your kids playing in the yard. You can allow your teen to paint her bedroom purple, knowing you can paint over it when she heads off to college. And your elbow grease benefits YOU.

When you rent, your home can be sold out from under you at any time, forcing you to find a new place to live in a market with very few homes available. For many, the tradeoffs make home ownership worth the expense. If you think you might be able to purchase a home, and you’d like to learn more, call your local Realtor and they can help you figure it out.

Before I go, I wanted to mention an issue facing local homeowners and renters alike. The water in our region depends in large part on the Potter Valley Water Project. PG&E has owned the hydroelectric project for years, but it looks like they’re selling. If the future owners are not good stewards, the water that irrigates our crops and provides our drinking water could be at risk from Potter Valley to Healdsburg. Visit www.pottervalleywater.org to learn more.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.comDick Selzer is a real estate broker who has been in the business for more than 40 years.

Ross Liberty

Way to Go, Ukiah!

Ukiah is my hometown and I love living here. I know it’s not perfect, but no place is. One of the many things I enjoy about Ukiah is our unique sense of community. Last fall and again this summer, when fires threatened local homes, Ukiahans came together in truly remarkable ways.

According to the logistics guy who manages the firefighters’ staging area, uniformed firefighters can’t pay for anything in this town. They go into a restaurant for a meal, and it’s covered. They go to Ukiah Valley Athletic Club (the old Redwood Health Club) and they’re given a free membership for as long as they’re in town. They walk into Starbucks, and the coffee has been prepaid by other patrons.

I was eating in Star’s Restaurant and saw a group of firefighters having dinner. I asked the waitress if I could pay for their bill, but she told me another patron had beaten me to it—the meal was already paid for. I even heard about a lemonade stand where kids were raising money for firefighters. I confess that I never pass up a chance to support kids selling lemonade, but this time I made a point to get in my car and drive around looking for the lemonade stand so I could support them.

As I drive around town, I see signs thanking firefighters for their service all over the place, and I just learned that a group of citizens with thank-you signs have been greeting firefighters at 7:00 am each morning, standing across the street from where the firefighters rolled out, so the first thing the firefighters saw was signs of appreciation.

In small ways and big ways, Ukiah has rallied around the firefighters who have come from as far as Australia and New Zealand to safeguard our families and our homes. My best friend, Ross Liberty, owner of Factory Pipe, has gone way above the call of duty. Ross owns the old Masonite property and when he learned the firefighters needed a place to set up, he offered the use of his land for free. Just so you know, the going rate for providing that kind of space is about $5,000/day. When people ask why he doesn’t charge, he says, “They’re doing us a favor by being here. This is the least I can do.” But of course, that’s not true. It’s not the least he could do; he could have charged them. Instead, he’s just a great, community-minded guy, like a lot of people in this valley.

Local businesses aren’t only rallying around the firefighters; they’re also helping local people recover from the fire. The Lake and Mendocino County Rotary Clubs, North Coast Opportunities and the Community Foundation of Mendocino County have funds set up where people can donate to assist fire victims, and the Savings Bank of Mendocino County is giving a discount to people seeking construction loans if their property burned in the fire—whether it was last fall or this summer. Details are available by calling either Cesar Lopez or Jose Cardenas-Ortiz at (707) 462-6613.

As we go about our daily activities, most of us don’t put our lives at risk very often. Most of us don’t leave our families for extended periods of time. Firefighters do both, and sometimes they pay the ultimate price. My condolences to the family of Utah firefighter Matthew Burchett and my thanks to all the firefighters who came to fight the Mendocino Complex fire.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

Mortgage To Do List

Mortgage Do’s and Don’ts

Buying real estate is one of the biggest investments you’re likely to make. As such, mortgage lenders have to make sure you can afford what you’re buying. Here are some things you can do to improve your chances of qualifying for a loan.

YOUR MORTGAGE TO-DO LIST

DO provide your lender with your homeowner insurance agent’s contact information as soon as possible. If you don’t have homeowner insurance, now is the time to talk to an insurance agent. Insurance can be difficult to get and more expensive than you realize, so providing your agent with enough lead time to find the best policy is a good idea.

DO keep copies of all new pay stubs, tax returns, bank statements and any other asset documentation. You’ll want at least two years’ worth for the lender, and you should keep tax returns for seven years. Be aware, any asset on your current tax return needs to be documented to its original acquisition date, the date when your tax basis starts and all the deductions since.

DO keep proof that your earnest money and option deposits have cleared your account by keeping a copy of the cancelled check(s) – front and back – and the bank statement showing funds cleared.

DO notify your lender immediately if any of the following change: income, assets, credit history, or address. If the change decreases your assets or income, be sure to discuss the changes at the earliest possible moment, and certainly before you spend a couple thousand dollars on property inspections.

DO submit a completed gift letter if your loan allows gift funds and you plan to accept them. The letter must be signed by all gift donors and borrowers.

YOUR MORTGAGE DO-NOT-DO LIST

DO NOT change your employment. Your lender will use your current job and income—and your anticipated future income from that job—to secure a loan for you. Changing this information complicates things. If you change jobs but maintain (or increase) your income—and remain in the same field—it’s not as big a deal. If you change industries, lenders can get a little nervous. They like stability. If you do make a job change of any sort, share it with your lender immediately.

DO NOT change your marital status. I recognize this is a bit more difficult than the job situation. If you and your spouse need to separate, then so be it. If you can stick it out, this is a good time to do so. Certainly, you shouldn’t stay married if the loan is the only reason, but staying together to help your spouse purchase a home that will provide a safe and comfortable place for your children to live can be a reasonable thing to do. If you must divorce, remember you and your former spouse will need to divide the equity in any jointly held property. Again, keep your lender in the loop.

DO NOT change your debt-to-income ratio or your asset-to-liability ratio. Said another way, do not take on new loans while you’re trying to get approved for a mortgage. Do not apply for a new car loan. Do not run up your credit card debt. Do not finance that boat you’ve always dreamed of. Just wait until you’ve closed escrow. If you can afford to pay your mortgage and buy a new car or boat, more power to you. Just be aware that before a new mortgage is finalized, they run a final credit report where any new financing will show up, and this can derail your loan.

In today’s world of greater regulation and loan scrutiny, little changes can lead to big problems. If you’re in the process of qualifying for a loan, stay in touch with your loan officer. Explain any changes as soon as you become aware of them.

If you have questions about getting into real estate, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

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Play to Your Strengths

 For the past couple columns, you may have noticed that I’ve written about financial equations and analysis. This is my happy place. My favorite part of the real estate industry, and any other business venture, tends to revolve around concrete, numbers-driven data. I like working with things that are pragmatic and provable rather than abstract and subjective, which means in any discussion regarding real estate or investments, I immediately begin projecting revenues and expenses and calculating rates of return, so I can come to a wise investment decision.

When I first ventured in to real estate a few years (decades) ago, I tried my hand at selling homes. In 43 years, I would say I’ve been very successful: I’ve sold two homes (my mother’s and one to a cute, single young woman). It didn’t take long for me to come to the conclusion that residential sales was not for me, especially when I lost transactions because I did not care enough to respond encouragingly when people complained about décor.

If someone said, “Hmm, I just don’t see my couch in this room,” I’d stare at them blankly while thinking to myself, “I’ll buy you a couch. Do you like this house or not?” If I’d hear one spouse say to another, “It’s awfully dark in here,” I had no interest in discussing all the ways they could make a room seem lighter–paint the walls white, get some lamps, add a window. To this day, when I make improvements to my own home, I hire a decorator to advise me. In fact, I recently hired someone to pick out curtains—but it turns out they aren’t curtains or even drapes; they’re “window treatments.” Who knew?

By the same token, when I need to replace windows or have some other renovations done, I hire a contractor who can get the job finished in a few days. Yes, he will charge an exorbitant hourly rate, but if I do the job myself, based on the number of hours it will take me, I’m only saving about a buck and a half an hour, plus I’ll probably need to have my work fixed later anyway.

The point is, I hire experts to do what they do best, which leaves me time to do what I do best. I’m good at financial analysis, commercial real estate investing, and providing Realtors with the tools they need to be successful, whether they’re selling residential, commercial, land or industrial properties. Those who help clients buy and sell residential real estate not only understand the nuts and bolts of real estate law and finance, they also enjoy interactions with clients about how to turn a house into a home. I was good at the first part, but not the second. I really enjoy being a broker—it’s a win/win. I respect and admire their hard work and skill, and I can use my expertise to make sure we’re all successful.

So, I guess what I’m trying to say is I think things work best when we all do what we do best. Very few of us are good at everything. I didn’t hire an eye surgeon to replace my heart valve, and I certainly didn’t try to do it myself. I found a cardiac surgeon and here I am to tell the tale. What do you do best? Are you doing it and enjoying it? If not, why not?

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

 

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Basic Finance: Internal Rate of Return

This is the second in a series about finance. Because saving for a down payment can have such an enormously positive impact on which property you can buy, I thought I’d explain a few things about how to invest your savings as wisely as possible.

The idea of investing can feel quite intimidating, but once you know how to compare various investment opportunities, you’ll be able to figure out which ones will earn you the most money. Last week, I reviewed the concept of compound interest (earning interest on your interest). Now, let’s talk about how to measure your return—what you earn.

When you consider the best way to invest, you need to know how much you will earn over what period of time. Be cautious if any investment advisor who gives you gross return (overall earnings) numbers without including a specific time frame or someone who simply uses payback time to measure your return. These are methods used to conceal some aspect of the investment—to dupe unsuspecting investors.

With gross return, if an investment advisor says you’ll earn $1,000,000 over the life of the investment, but fails to mention what the term is, you may have to live to be 125 years old to enjoy those earnings. If an investment advisor tells you the payback time on an investment is three years, that sounds great—you’ve recouped your investment in three years. But what it doesn’t tell you is how much you could have earned on a different investment with a slightly longer payback time.

Because the idea of payback time is simple, I often hear people use this measurement when deciding whether to make a particular investment. Let’s say we invest in $10,000 worth of widgets. We get back $3,333 per year for three years the total investment is “paid back.” On the other hand, if you invested that $10,000 in something that paid you $3,000 per year for five years, your internal rate of return would go from zero to about 15 percent, a far higher return. This is why I avoid payback time as a measure of return. Using the payback method, you would choose the first investment instead of the one with higher return.

I mentioned “called internal rate of return” just now. This is the very best way to measure investments because it allows you to compare investments with different interest rates and payment schedules over time.

The internal rate of return is the rate at which net present value (today’s value) of a set of cash flows equals zero. The cash flows include two things: the initial investment (as a negative number) and the returns (as positive numbers). Confused? Let’s use an example to clear things up.

Let’s say you have $10,000 in your bank account and you want to buy a house ten years from now. You don’t know whether you should invest your money at 1 percent for ten years or 2 percent for five years. If you only cared about gross return, these two investments would be indistinguishable: they both earn $1,051. However, the internal rate of return looks at the time it takes to earn the money. If you can earn $1,051 in half the time and then reinvest your earnings, clearly the second investment (the one with the higher rate) is a better choice.

If you want to play with numbers (one of my favorite pastimes), there’s a great website that allows you to calculate all manner of things: calculator.net. You can calculate payments and returns related to mortgages, taxes, all manner of loans, investments, and more.

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.com. Dick Selzer is a real estate broker who has been in the business for more than 40 years.

 

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Basic Finance 101: Compounding Interest

When it comes to buying real estate, many people tend to get a little overwhelmed by the financial side of things as they try to understand the short-term and long-term effects of the down payment, interest rate, points, and other financial factors. So, I thought I’d write a little series to explain some important financial concepts.

When you try to qualify for a home loan, lenders want to know your debt-to-income ratio. They calculate this by adding up all your monthly debt payments (car loans, student loans, revolving credit card debt, etc.) and dividing them by your gross monthly income (the money you earn before taxes and other deductions). Lenders’ primary goal is to make sure you can repay the loan. So, while it’s okay to have some debt, it’s best to have as little as possible.

To pay down your debt, the best approach is to consistently pay at least the minimum required to stay in good standing on all your loans. Hopefully, you have money left over, and if you do apply it to the debt with the highest interest rate. Also, try not to be tempted by credit card teaser rates, because when those zero percent offers jump to 24.5 percent a few months later, your bill will skyrocket.

Once you’ve paid off your debt, it’s time to start saving and this is where the power of compound interest puts you on an accelerated path to purchasing your own home. Albert Einstein called compound interest “the eighth wonder of the world.” He said compound interest is the most powerful force in the universe and the greatest mathematical discovery of all time. That’s pretty strong language for a guy who took his numbers seriously.

So what is this amazing force? Compound interest is the addition of interest to the principal sum of a loan or deposit. Said another way, it allows you to earn interest on your interest. Compound interest is the result of reinvesting interest rather than paying it out, so that interest in the next period is earned on the principal plus previously accumulated interest. The longer you allow the investment to grow by reinvesting the interest, the greater the magnification of this effect as compared to simple (non-compounding) interest.

Here’s an example. If a 25-year-old invested $1,000 on January 1, 2018 at 5 percent per year, then on December 31, 2018, the new balance on the investment would be $1050. A year later, the new balance would be $1102.50 (the 5 percent interest was earned on $1050), and so on. After 40 years, the original $1,000 would have grown to $7,040. Without compound interest, the original $1,000 would have only grown to $3,000 ($1000 original investment + $50 per year x 40 years).

Here’s a fun fact. In 1626, Europeans bought Manhattan Island from the local Indians for about $29 worth of beads and other goods. If those Indians had the opportunity to invest their $29 at an annual compounding rate of 5 percent, they would now have $5,262,336,110. Some investments have monthly compounding. If that were the case for the Indians, they’d now have $8,118,216,133. Whether it’s $5 billion or $8 billion, it’s a lot of dough.

Now, I recognize that most of us can’t wait 392 years for an investment to grow; however, even over a shorter period, money can grow at an impressive rate, especially if it compounds monthly, daily, or even continuously, and there are investments that do this.

Recognize that compound interest can also work against you. If you are in debt, especially revolving credit card debt, your debt will grow just as quickly as your investment would, which brings to mind another Einstein quote about compound interest, “He who understands it earns it. He who doesn’t pays it.”

If you have questions about real estate or property management, please contact me at rselzer@selzerrealty.com or call (707) 462-4000. If you’d like to read previous articles, visit my blog at www.richardselzer.comDick Selzer is a real estate broker who has been in the business for more than 40 years.