Tales from the Trenches

Part two of this mini-series on home inspections covers houses that look good but have hidden flaws. Show homes are sometimes described as “painted ladies.” Despite their designer flair and top-end appliances these homes can conceal a multitude of problems.

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This is the second part of a two-part series on home inspections. Part one gave us a graphic example of how a home inspection can help find a hidden problem. Part two shows that an inspection can find multiple problems, too.

“Painted ladies” is what some people call show homes in new real estate developments. Builders construct show homes in new subdivisions to let customers have a look at what their new home might look like. Those show homes often get top-of-the-line appliances and decorating, but they also get a lot of hard traffic in the 2–3 years that they are open. The show home is sold once the subdivision is completed or the builder doesn’t need the show home anymore.

If you are looking at a show home you’re probably asking yourself, “what could go wrong? Surely the builder wants to look good. He must’ve done a great job.” Not so fast…

In this Tale, a client of mine wisely decided to be cautious and get a home inspection. Here’s what she found:

If you’re buying Alberta real estate, let Barry inspect your legal documents first. Contact him now!

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“House/Home Inspection” image by Mark Moz (https://electrosawhq.com) used under CC Attribution 2.0 Generic.

Sometimes Tales from the Trenches shows narrowly avoided real estate disasters, and this is one of them. Old, unsafe knob and tube wiring was discovered by a home inspection. The buyer avoided a $30,000 repair bill!

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“I don’t need no stinkin’ inspection!” Effectively, that’s what a lot of buyers say when they fail to get a home inspection. It is wrong, wrong, completely wrong. Home inspections have gone from an oddity, hardly ever done, to an essential tool in every home-buyer and investor’s toolbox. This is the first part of a two-part series on home inspections. Part one gives us graphic examples of how a home inspection can help.

Knob And Tube?

This Tale comes from an e-mail that was so descriptive I am reprinting it here. To help understand the e-mail, please note that ‘knob and tube’ is an out-dated and now forbidden way to wire a house. Wikipedia says, “It consisted of single-insulated copper conductors run within wall or ceiling cavities, passing through joist and stud drill-holes via protective porcelain insulating tubes, and supported along their length on nailed-down porcelain knob insulators”. Google ‘knob and tube’ for more info and especially pictures of fires caused by knob and tube wiring.

Now here’s the e-mail:

We went to Saint John New Brunswick to look at properties mainly because of the price point in the area. Put an offer in on a 3-plex that was eventually negotiated down to 185K. Rents were a little more than $3000 a month total including heat. Cap Rate on the property was over 19%, tenants had been there on average for 2-3 years, so it looked great.

Went through our due diligence on the property. Expenses, rent rolls, etc. all came through as expected. We also had a property inspection done which was even more of a requirement than usual because of the age of the building in Saint John as opposed to Alberta. The inspection was thorough and discovered some minor problems we expected and one major one we didn’t. All of the visible electrical including the service coming into the building, the breaker panels, and wiring that was visible had been replaced however, none of the wiring in the walls had been replaced and was the original knob and tube wiring that the pig tailed to the new visible wiring. They tried to pass the building off as new wiring building when it wasn’t.

Getting insurance for the property and passing fire codes now became an issue if we didn’t want to replace the wiring. If we did replace the wiring we would have had to kick out the tenants to complete the task which was estimated at a $30,000 repair bill. We went back to the owner to discuss what we could do about this, negotiate a lower price or cash back for repairs or something. He told us he wouldn’t negotiate further and would hope any new offers wouldn’t be as diligent with their property inspection as ours was.

A $500 property inspection can save tens of thousands of dollars in nasty surprises down the road.

Home-buyer’s due diligence is more than a physical inspection, so get a lawyer who will handle the important documents. Contact Barry now for your Alberta real estate legal needs.

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“Knob and Tube 1930s” image by Laura Scudder used under CC Attribution ShareAlike 3.0

Part two of this mini-series on the basics of real estate investing continues the discussion of situations as black, white, or grey. You’ll hear three more real-life scenarios to make the idea of mortgage fraud concrete.

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You already own your personal residence and are looking to buy your first investment property. Your friend/realtor/lawyer/mortgage broker says, “Get one of those 5% mortgages. Using the 5% down payment strategy means you can use your limited funds to buy at least three properties. It’s okay as long as you move into the property for a while.”

Is It Black, White or Grey?

Inexperienced investors often think this scenario is White for at least a couple of reasons. Firstly, there is inexperience. Because they are inexperienced, they frequently don’t know because it has not been properly explained that these ultra-high ratio, small down-payment mortgages are strictly for owner-occupiers.

Secondly, there is bad advice. Sometimes inexperienced investors have an idea, or sort of understand, that these types of mortgages are for owner-occupiers. They aren’t really sure but they sense they could be in the Grey area.

What to do? Maybe you raise the issue with members of your team, and a trusted friend / lawyer / realtor / mortgage broker tells you it’s okay as long as you occupy the property for some period of time. In some people’s minds they have moved from that uncertain Grey area back to White. The problem is that “some period of time” isn’t very clear.

The real answer is that this situation is not White or even Grey, it is definitely Black. If you are getting a high ratio owner-occupier mortgage, you must really and truly mean to move in to the property and be an owner-occupier. Moving in for a day/week/month or even six months or a year does not make you an owner-occupier. It’s always about intention and if, in the end, your underlying intention is cheap investor financing, you are in the Black area. Just to be clear, knowingly buying investment properties with owner-occupier financing is MORTGAGE FRAUD!

A client called me and said that he had an unconditional real estate purchase contract to buy his new home. He and his family were really looking forward to moving in and enjoying the new schools and neighbourhood. Their financing was 5% down and the usual high-ratio, CMHC owner-occupier mortgage. One week before closing, their realtor called and said, “I know you love your new home but your dream home just came on the market”. He and his wife couldn’t resist; they went to have a look and fell in love. They had to have this home.

Since their first deal was unconditional, they were now buying two homes. They figured they could rent out the first one and turn it into an investment property. Our member thought that, because he 100% intended to move into the first home, he was okay keeping that 5% down owner-occupier mortgage and getting another 5% down owner-occupier mortgage for the new dream home.

Is their situation, Black, White or Grey?

In a similar scenario a client had only been in his brand-new home with his brand-new 5% down, owner-occupier mortgage for one month. Then, he got the email from his boss. “You’re being transferred to head office” (300 miles away). He could sell the home and not lose any money because of his company’s generous monetary transfer policies. Or, he thought, “what if I keep this place and rent it out? I can buy a new home and get another 5% down, owner-occupier mortgage.”

Is his situation, Black, White or Grey?

The answer to both scenarios is Grey. In both cases, our members purchased homes with 5% down, owner-occupier mortgages, one intending to and the other actually moving into the new home. Now that circumstances have changed, neither member knows if they are off side with their lender and CMHC. So, it’s Grey.

Saying nothing exposes both members to potential problems if a CMHC auditor bangs on the door of what was supposed to be an owner-occupier property and meets a renter. Audits are rare but they do occur. The answer for both our members is to sit down with their broker/lender and explain the new circumstances. The broker/lender should review the circumstances and follow internal policy which might mean consulting with CMHC.

In the end, the answer might be that each member has to pay down their 5% mortgage to meet current CMHC requirements for investor property. Or, policy might say that our member who was transferred one month after moving in, doesn’t have to do anything. Or there might be other answers. That’s the thing about policy, we never know quite what it is and it’s always changing.

Both of these scenarios were Grey—whether my clients knew it or not. There was an issue, a new element where it could be a problem, but no one knew the answer. By meeting with their broker/lender, disclosing the new circumstances, getting advice and acting on the advice, these folks move this Grey scenario to a White scenario. Remember, whatever advice you get from your broker lender, confirm with a letter or e-mail.

Getting and holding a mortgage can be tricky, which is why you need a lawyer. Contact Barry for reliable Alberta legal counsel.

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“House Question Mark Roof Protection” image by Geralt used under a Pixabay License (converted to black and white).

This mini-series on the basics of real estate investing starts with a discussion of how to describe situations as black (bad, stay away), white (legitimate, perfectly okay) or grey (uncertainty, could be offside, heading for black). Part one covers two real-life scenarios that illustrate the concepts of black, white or grey. Learn to tell the difference and stay away from mortgage fraud.

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It would be lovely if every situation had an obvious answer. But, that’s not reality. Situations often come up where there seem to be a number of answers. We say, “Stay Out of the Grey Area.”

In future Tales From The Trenches – The Basics we will be looking at joint ventures, contracts, and negotiating deals along with other interesting topics. For now let’s look at some of those scenarios that surround money and mortgages to decide whether the scenario is Black, White or Grey.

Lucky Logan is one of my clients and was fortunate enough to win $75,000 on the lottery. He is a very private individual and was quite happy that there were also a $1,000,000 winner and a $500,000 winner in his local area. His win was relatively anonymous, which suited him just fine.

He put the money in his bank account and thought it would be sufficient to buy at least two more investment properties. He said to me, “Lenders often want to know where you got the cash portion of your purchase money. I’m not going to tell them because it’s none of their business.” Lucky’s plan is to not tell the lender where he got his down payment money. Is It Black, White or Grey?

If the lender doesn’t ask where Lucky got the money, then this is a White scenario. There is no obligation to flap your gums and tell everybody your private business. If the lender wants proof that Lucky has the money, they may ask to see a copy of his bank statement. At that point, depending on how long the money has been in the account, the lender may ask where the money came from.

To keep this scenario White, if the lender asks where the money came from, Lucky has to give a truthful answer. If Lucky says he won the money in a poker game he has moved himself, at the very minimum, into the Grey area. I say Grey rather than Black because, if the lender discovered it was lottery winnings rather than poker winnings, they might not care. The better practice is to make sure you always give truthful answers to your lender, because misrepresenting some types of information can be construed as fraud. That way you will always have a White scenario.

Here’s a scenario that comes up way more often than you would think. My client calls me and says:

My mom and dad are helping me with the down payment. The lender wanted, and I have provided, a gift letter from mom and dad saying that they are giving me the down payment. My dad wants some security and is going to call you to ask if you will prepare a promissory note. He wants it registered against the property until I pay him back. Can you help him?

I can tell my client doesn’t see any issues here, doesn’t even know there is a problem. He just wants to know about the promissory note. Let’s forget about the promissory note for a moment. Is the gift letter situation Black, White or Grey?

First off, what is a gift letter and why did the lender want one? Lenders always want you to put up some of your own money; the percentage varies depending on the kind of deal you are doing. They don’t want you to borrow all the money it takes to buy a property.

Sometimes, parents help out their children by giving them part of the required funds. If you say your parents are giving you some money, that’s when the lender wants a letter confirming the money is a gift. If the money is really a loan, this is an obviously Black scenario for my client because it becomes fraud.

Here’s the funny part, or maybe it’s not so funny. When I get the call that talks about the gift letter and how mom and dad are going to secure the money, there is always a shocked silence when I say that:

Remember I am, in almost all circumstances, the bank’s lawyer too. If I know that the bank is expecting ‘gift’ and my client is saying ‘loan’ then, then I am in the Black area too and participating with my client in yet another example of mortgage fraud. Folks, I am not going to do that.

If you’re getting a mortgage in Alberta, you must have a lawyer. Barry’s your guy, so contact him now!

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“House Question Mark Roof Protection” image by Geralt used under a Pixabay License (converted to black and white).

This Tale explains some of the pitfalls of relying on the portability clause in your old mortgage to buy a new house. It also talks about why your credit track record doesn’t trump bank policy. Consider making your sale subject to achieving an unconditional purchase.

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My client was buying a new personal residence. The four kids were now all out on their own. He had been made redundant with a reasonable severance package from his employer and he was eligible for substantial employment insurance (EI). He put his current house on the market and got a pretty quick, acceptable offer from a family with guess what, four kids.

The new buyer removed their conditions. Very pleased with his good fortune my client started looking for a new, much smaller home for himself and his wife. He checked his file and noted that he had a ‘portable’ mortgage from one of the big five lenders. In his mind, that meant that he could easily buy a new home quickly and without argument, he could ‘port’ his mortgage right over from the old home to the new home. In his mind, he wouldn’t need a new mortgage at all and that would mean substantially reduced legal costs if a new mortgage did not have to be prepared.

He found the right new home and went to his bank to advise them of his plans. They told him there would be a little bit of paperwork to go through. Long story short, a little bit of paperwork was a brand-new application for a mortgage. Because he had lost his job and was relying on EI and a small pension, he did not meet the lender’s income requirements. EI is temporary and not counted as part of regular income. It didn’t count that he had a gold-plated credit rating and had purchased two other personal residences with the same lender. It also didn’t count that he had loan to value ratio of 65% and therefore lots of equity in the new home. He just didn’t have the income.

He also wasn’t too happy to hear from me that a portable mortgage generally means that if the bank approves what is essentially a new mortgage application, you only get to take the same terms of your old mortgage over to the new property. However, you need brand-new paperwork with the usual legal fee attached. My client was outraged and called the highest levels of the lender to complain. In the end, the lender decided to relax their policies and approved his new loan.

Contact Barry now about porting your mortgage in Alberta.

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“Mortgage earnings” image used under CC0 Public Domain.