Most of us have heard some crazy stories about bidding wars by now. Bidding wars take place more often in a seller's market, which is when there is low supply of homes and high demand. For a multitude of reasons, this description matches many Canadian cities right now. Per The Globe and Mail, "each time a listing comes out, there are five to 10 bids – often before the scheduled date for reviewing offers – and the homes are selling for hundreds of thousands over asking". We have even read about instances where there are 30+ bids on a home.
Competing with this many people on price is already challenging enough, but with the seller being in such an advantageous position - they have all the power. Besides competing on price, buyers are also being forced to give firm offers, and any offers with conditions are instantly disregarded. RE/MAX published an article in June 2020 called How Do You Win a Bidding War?. In this article, they specifically note "If the only objective is to buy a specific home, then offering the highest possible purchase price with no offer conditions is the way to go". To be clear - firm offers are nothing new. However, we are in a situation where bidding wars are so intense and geographically widespread that it is now almost impossible to buy any home with conditional offers in many metropolitan areas.
What are conditions? They must be something awful if sellers won't even look at this type of offer, right? Here are some common conditions that offers are subject to (well they used to be):
1) Financing approval
Even if you have been pre-approved for a mortgage (always get pre-approved!), it does not guarantee that you will be able to secure mortgage financing for the specific home you want to purchase. The home you are looking to buy needs to be appraised at your offer amount or you will not be approved for the mortgage.
Risk of making a firm offer:
If you cannot secure mortgage financing in time, you will not be able to retract your offer. The potential consequences of this are losing your deposit (typically 5% of the value of the home), or even facing a lawsuit. The deposit counts towards your down payment - imagine working for years to save a 5% down payment, then losing it because of financing falling through. In this Reddit article, one person describes being pressured by their realtor to modify their offer and drop all conditions if they want their offer to be accepted. Two days later they were notified that CMHC would not insure the mortgage - not for any reason related to the buyer, but due to a lawsuit the building's condo corporation was currently facing. This person had put down a $20,000 deposit and was not sure if they will be able to recover it.
2) Home inspection
The purpose of a home inspection is to understand if there are any significant issues that may impact the value or habitability of the home. A home inspector will look at many aspects of a home, including the structural condition, plumbing system, electrical system, and more.
Risk of making a firm offer:
Most of us do not know what potential issues to look for in a home. COVID-19 has added additional complications in many cities, as showings are by appointment only and typically only 15 - 30 minutes - not a lot of time to make one of the biggest decisions in your life. Especially with this time constraint, most people would not notice anything beyond minor cosmetic repairs. Per Chase, the average inspection takes about 2 - 2.5 hours (1 - 1.5 hours for a condo), as there are more than 500 components to review in the average home. Some repairs are not only extremely expensive, but also urgent - meaning that you may need to spend cash just to make the home livable.
We found a guide from MoneySense, which is ten years old and outdated, but will give you a rough idea of some potential costs. Here are a few of the major costs:
- Update all plumbing: $4,000 to $10,000 (one-time cost)
- Install ten new vinyl windows: $3,000 to $11,100 (every 10 years)
- Replace three external doors: $2,400 to $4,500 (every 15 years)
- Replace standard asphalt shingles on roof: $5,000 to $15,000 (every 20 to 30 years)
- Mold testing and remediation: $9,000 to $17,000 (one-time cost)
- External waterproofing of foundation: $8,500 (one-time cost)
- Rewire entire house electrical system: $6,000 to $15,000 (one-time cost)
- Replace furnace: $2,000 to $6,000 (every 20 years)
- Replace central A/C: $1,000 to $3,000 (every 15 to 20 years)
- Regrade property around foundation: $2,000 to $8,000 (every 25 years)
Even if the items above have been fixed/replace recently - that does not mean they are in good condition. Both older and newer buildings can have these problems that are expensive to fix. If you are not able to do a home inspection, you need to have a plan in case one or more of these issues arise. It is no longer enough to save for a down payment and closing costs, you also need to have a large safety net for these potential issues.
3) Review of condo status certificate
You may think that a condo does not have the same risks as a house, but remember that all of the unit-owners of a condo are collectively responsible for any costs relating to maintenance and one-time items. A condo status certificate provides critical information about the physical and financial status of a unit and of the condo corporation. This document provides details of any significant planned increases in condo fees, if any special assessments are planned, and if there are any upcoming costs that will come out of the reserve fund. The reserve fund is a pool of cash that has been collected over time through condo fees, which cover maintenance and other one-time cost. If the condo board determines that the reserve fund is getting too low, they can decide to increase condo fees or levy a special assessment to cover certain one-time costs instead of drawing from the fund.
Risk of making a firm offer:
If the condo board has planned to increase condo fees, this could significantly alter your monthly cash flow. Different buildings, even in the same city or neighbourhood, can have a wide range of condo fees and you should not expect to be paying what the past unit owner paid going forward. Consider if you could continue paying your mortgage if condo fees increased significantly. Special assessments can be even more significant and comparable to a large repair needed for a house. Would you have the cash lying around to cover this legal obligation?
- For one building in Ottawa, jumped from around $700/month to $1,400-1,600/month
- In Calgary, a special assessment of $25,000 was levied in February 2020
We have discussed just three types out of the many possible offer conditions that are designed to protect the buyer. Other conditions could involve setting a closing date, the sale of the buyer's current home, seller's assistance with closing costs, and requests regarding fixtures and appliances. If you are planning to buy a home, discuss this with your realtor and do your research to make sure the offer will work for you.
Let's do a recap of an offer consisting of just the three conditions we looked at in detail: the offer would be conditional on securing mortgage financing, a home inspection without discovering significant issues, and obtaining a condo status certificate. These are all reasonable conditions given the commitment the buyer would be taking on with a home, so why are sellers looking for firm offers? The answer is: because they can. We started this article saying that we are in a seller's market and with such high competition amongst buyers, the seller will be happy to accept a firm offer that could close as early as possible without waiting for conditions to be satisfied. While speed and convenience is the most common reason, the current environment has provided a great opportunity to sellers who are aware of issues and future costs regarding their home. Any major issues would normally affect the value of the home, but if the seller is receiving "as-is" offers, they can simply walk away and leave the burden to someone else.
We noted in the title that the current environment of offers with no conditions is an obstacle for first-time home buyers. The reason for this is a question - who could afford to take on such risks? Investors and those who have seen their existing home(s) appreciate massively in value are in a much better position to submit firm offers. Not only has saving for a down payment never been harder, but buyers also need to save a large pile of cash for potential issues that may come up. Some first-time home buyers will be able to save the necessary cash and submit firm offers, but they are subjecting themselves to significant risks.
Looking beyond one individual - what are the implications for Canada's broader economic stability? Unemployment rates are worrying and the path to economic recovery from the COVID-19 recession is uncertain. Yet - we have new generations of home buyers taking on significant personal risk and committing to long-term debt while rates are at record lows. RBC noted in October 2020 that "11% of mortgage borrowers from large Canadian banks - representing around $175 billion of mortgage debt - are not making payments". Time will tell if this manic rush of buying will pay-off for risk-takers, or end in defaults and regrets.
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