House to House: Managing Your Risk in Buying Real Estate, Part One 

by Andrea S. Alford, AREC Deputy Executive Director

When it comes to investing, risk isn’t just implied – it’s guaranteed. It follows that one of the first things most consumers do when planning for retirement is to conduct a thorough assessment of their own personal tolerance for risk.

Consumers who identify their willingness and ability to accept the risks associated with investing can then make sound decisions regarding the types of investment savings they choose for their retirement portfolios. For example, people with high risk tolerance levels often choose individual stocks and other equity investments, whereas those with low risk tolerance levels tend to choose the more conservative mutual funds and government-backed securities.

When purchasing real estate, consumers should employ this same method in evaluating their own risk tolerance level. After all, our homes are often the biggest investment we will ever make.

It is becoming more common for homebuyers to expect someone (besides themselves) to be held responsible for any problems that arise with their property after closing. One possible reason for this trend is the eagerness of buyers to buy low, often out of necessity. It’s an unfortunate truth that a buyer who struggles to afford purchasing a property will struggle to afford maintaining it.

Another possible reason for this trend is the widespread availability of warranties on appliances and electronics, combined with a consumer’s ability to return merchandise to a retailer if they become dissatisfied with the purchase for any reason – including simply having a change of mind.

For example, my iPhone malfunctioned while it was under warranty, so I took it to the Apple store. The problem was very minor and did not hinder my ability to use the phone or its features. What it did do was annoy me. Despite the fact that I look at/use my phone at least 100 times every day, it was less than one year old, and I expected it to work as well as it did the day I bought it. It sounds silly, but Apple agreed with me. They gave me a new phone, simply because the terms of their warranty entitled me to one.

My iPhone experience is not all that uncommon, and it is indeed this sort of experience that is shaping our expectations as consumers. If the retail goods market is willing to sustain this type of consumer-retailer relationship, so be it. But a homebuyer isn’t your typical consumer, and sellers aren’t big box retailers. Buyers and sellers are, by nature, investors. Nearly every seller begins as a buyer who makes an initial investment in a piece of property that should appreciate in value and offer that buyer-turned-seller the opportunity to realize a return on his investment down the road.

Beyond that, purchasing real estate is different than purchasing a retail product. One can reasonably expect to purchase a new iPhone and have it be without defect. One may not, however, expect the same in purchasing real property. Even under the best conditions, it is incredibly rare that a consumer purchases real estate and doesn’t eventually encounter the need for a repair or other unexpected expense. Simply put, there will be problems that arise with houses after they are purchased.

The Real Estate Commission often receives complaints from buyers who agreed to purchase a seller’s property “AS IS – WHERE IS,” then suddenly want to hold the seller or real estate broker (or both) liable for repairing problems that come up after closing.

To a seller, an “AS IS – WHERE IS” offer can be quite appealing. It indicates that the buyer is willing to purchase the property in its current condition, without expecting the seller to make any repairs. A seller may very well be willing to accept thousands less from such a buyer, as opposed to the buyer who wants assurances that there are no problems with the property, along with a slush fund for any repairs the buyer requests prior to closing.

The problem arises when the seller accepts an “AS IS – WHERE IS” offer from a buyer who doesn’t really mean it. Many buyers may assume a property is in good condition based on appearance, length of ownership, etc., and subsequently base their offer to purchase “as is” on those factors.

These buyers are inevitably the ones who discover problems with the property after closing and expect someone else to be held responsible for the repairs. This is why it’s crucial that buyers evaluate their actual willingness and ability to accept the risks associated with purchasing real property before making an offer.

Once a buyer has identified the level of risk they’re willing and able to tolerate, the next step is choosing how to manage that risk. Tune in next week, when AREC Executive Director Gary Isom will discuss the four methods of managing risk in purchasing real estate.

To be continued in next week’s House to House column…

 

House to House is distributed weekly by the Arkansas REALTORS® Association.  For more information on homeownership in Arkansas, readers may visit www.ArkansasRealtors.com.