Zeflections on Zillow

Earlier this week we put up a story about Zillow’s view on the value of our home. It wasn’t the first time we’ve mentioned Zillow, and I’m sure it won’t be the last. Historically we’ve only brought up the site when we we’re frustrated or amused. This mention had an interesting result – Zillow found our article and weighed in directly, and helpfully (see the comments at the bottom). It caused some debate and reflection within the Bergquist household.

City Hall SculptureThere are aspects of Zillow that I genuinely like, despite the periodic venting. For example, they do a better job than most at aggregating information about a property onto a single page. They also present the information in a reasonably clean layout that is accessible to users. I even like the idea of creating a valuation algorithm, though it’s obviously difficult get it right and can produce some weird results. Most impressively, they have done a fantastic job of building a consumer real estate website with a large user base, and we give them our ultimate vote of support by paying to advertise on the site.

As you have previously read, we have mixed feelings about the Zestimates. The main concern is that there is a conflict in how the Zestimate is used by Zillow.

My interpretation of Jay’s point in the comments of the previous post is that Zillow considers Zestimates to be infotainment. Here’s their official explanation of what a Zestimate is. They are not appraisals. They are a starting point. Buyers and homeowners should get additional information from local professionals.

This position reflects reality since the values in our area have a median error of 7.0% and are considered their highest quality estimates. It’s also the smart legal thing to do since it should protect them if a user ever tried to sue after relying exclusively on the Zestimate for a real estate deal.

Despite the company’s effort to disclose the accuracy of their Zestimates, and downplay their role in valuing a property, home buyers we have worked with have not received that message. Buyers LOVE the fact that they can pull up the site and find out how much a home is worth.

The Zestimate was the site’s original hook – it’s how Zillow drew in users and built itself into the empire that it is today. They have since added many excellent features, but the Zestimate continues to be front and center. Disclaimers are there if you look for them, but honestly, how many consumers click through to see behind the curtain?

When navigating via the map, the Zestimate is the user’s first impression of a home. You see the house icon with the color showing its status and the value underneath. Clicking through to the detail page, the Zestimate point estimate (versus the estimated value range) is right at the top, and directly under the asking price for homes that are for sale. People believe what they read on the internet and what they see is the Zestimate.

Because the Zestimate is so central to the Zillow brand, it has to be presented as reliable. Why would anyone use the site (versus a competitor’s real estate portal) if they believe the prominently featured value splashed all over the place was inaccurate?

At the same time they also have to present it as essentially “for entertainment purposes only” for both legal protection and since the algorithm isn’t all that accurate according to the published stats or the real life experience of real estate professionals working in the market every day.

It’s a catch-22 for Zillow. Yet their success shows that they have found a good balance. The site thrives despite questionable accuracy – the consumer has spoken, and they want to be entertained. It’s up to real estate agents to educate the subset of Zillow users who are tying to buy a home and believe Zestimates to be infallible truth.

 

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The Right Offer Price

The Appraiser is Coming!

We are refinancing our home. Again. For the third time in eight years of ownership. Does that tell you anything about what mortgage rates have been doing? Dropping, dropping, dropping. Oh yeah, and also that we have no intention of moving.

In 2004 we started with a 30-year fixed rate mortgage. In 2005 we refinanced to another 30-year mortgage because we originally had a NINJA loan (No Income, No Job or Asset- hey, we were relocating here and starting jobs later that year in 2004, don’t judge!) so the rate was higher because we were higher risk. Then in 2010 we decided to refinance to a 15-year mortgage and dropped our interest rate another 1.5% and lopped off about $100,000 in interest we’d need to pay over the life of the loan. Now, one and a half years later, we are refinancing again. This time to a 10-year mortgage, dropping our rate about 7/8ths of a percent and getting rid of another $25,000 in interest. Can you see that I am not a fan of debt and want this burden relieved as soon as possible?

Part of the refinance process is the appraisal. Our refinance appraisal will not be an issue because we have a lot of equity in our home. But I can’t seem to get over the fact that I want the appraisal value to come in as high as possible. Maybe it’s the listing agent in me. Maybe I just want to hear a magically high number so I can point at it and yell “Woot!” Friends are starting to take bets on where it will come in.

So I have to save some face here. And get to work. The appraiser is coming on Friday. Tomorrow. That means staging. And cleaning. And presenting the appraiser with comps that I feel are most relevant. Maybe I’m going beyond what most refinance people would do. Maybe I’m a bit crazy. I don’t care. I’ve got to win the appraised value pool.

The City of Hartford thinks our house is worth $310,000 based on the revaluation in October 2011. Zillow thinks our house is worth somewhere between $161,000 to $585,000. Isn’t that helpful… Hopefully the appraisal will come in somewhere between the City’s value and the Zillow high end estimate. We shall see.

Quantifying Appraisal Risk

A while back we talked about how appraisals can impact a deal. A new twist is that buyers have recently been making their offers more attractive by voluntarily removing the appraisal clause. They take the risk that the appraiser finds that the “value” of the home to be less than the contract price, and they have to bring more cash to the closing. Today we’re going to quantify that risk.

Appraisal Risk CalculationBanks require appraisals to help confirm the loan-to-value ratio for a deal. For example, if the deal is supposed to have a 20% down payment and 80% mortgage, then those values have to tie back to the purchase price. If the appraisal value is less than the contract price, then the bank will only lend on 80% of the appraisal value.

Suppose a buyer and seller agreed to do a deal for $300,000. This buyer is getting a conventional mortgage with a 20% down payment, so they’re planning to put $60,000 cash into the deal while borrowing $240,000 from the bank. If the appraiser agrees the home is worth $300,000 or more, then everything will be fine.

The more difficult situation is if the appraiser feels the home is worth less than $300,000. Suppose the appraiser determines the “value” of the home is $285,000 instead of $300,000. Continuing with the example, the bank would only be willing to lend 80% * $285,000 = $228,000 for the mortgage. The buyer would need to come up with an additional $12,000 in cash ($240,000 – $228,000) in order to maintain the 80% loan to value loan that the bank is committing to fund.

Generalizing to any situation, the appraisal risk equals:

(contract price – appraised value) * (loan-to-value ratio) = extra cash required

($300,000 – $285,000) * 80% LTV = $12,000

Hopefully going into an offer the buyer’s agent has a good sense of whether or not the property will appraise, so that buyers can make a conscious decision about whether or not to include an appraisal clause in the bid.

One final note, this really only applies to buyers using a conventional mortgage. Buyers using FHA loans do not have the option of waiving the appraisal clause, which makes sense since the FHA program is geared towards helping those without much cash for a downpayment qualify for a mortgage.

The Evolution of Appraisal Risk

Real estate appraisals have been a hot button issue over the past few years.

First, appraisers were implicated as a contributing factor to the real estate bubble in the mid 2000s. The line of thinking was that they were focused less on the accuracy of their results than on their next deal.

Garden ArchesNext, the government responded by clamping down on the appraisal process to prevent lenders and real estate agents (who were both also implicated in the bubble) from exerting undue influence. Lenders have to hire appraisers indirectly through an appraisal management company. And although real estate agents have to let the appraisers into a home, we aren’t supposed to talk to them.

Then the real estate market headed south, with a dramatic decline in market activity (number of transactions), and a more gradual decline in prices. Appraisal risk became an important consideration when selling real estate in this new environment.

Would the home successfully appraise to the contract price? If no comparable properties sold within the past 6 months, then the appraiser was in a difficult position. Even if they were able to identify a value by making adjustments to not-really-comparable homes, there was still the risk that the bank’s underwriters would reject the appraisal. We saw this happen to our clients.

Sellers often had to reduce their price if a home didn’t appraise. Buyers were few and far between for a while, and sellers often felt they had to do whatever it took to keep a deal together. Since mortgage companies would require buyers to contribute more cash to the deal (in order to preserve the lender’s loan-to-value), and buyers were very reluctant to “overpay,” the easiest answer was to reduce the purchase price to the appraisal value.

With buyer activity heating up in some towns, appraisal risk is evolving. Multiple offer situations are becoming more common and buyers seem willing to pay a premium for thoroughly updated, rarely available homes. It’s classic economics – supply is low and demand is high, so prices go up.

The new wrinkle is that even if a listing agent has three bids at essentially the same price for a home, the appraisal may come in much lower because the historical data isn’t there to support a new, higher, price. In a regional real estate environment with flat or falling prices, how will the appraisers account for pockets of rising prices?

One development we’re seeing is buyers taking on the appraisal risk in order to get the home under contract. They’re willing and able to bring additional cash to the deal in order to keep the lender happy just in case the appraisal doesn’t work out in their favor. Not all buyers have the cash, but those that do can sweeten their bid a little bit by dropping the appraisal clause from the offer.

It’s an interesting development, and something we’ll continue to monitor to see how appraisals continue to evolve.

Car Shopping vs. House Hunting- Day One

I'd Rather Be At The Beach Than Shopping For CarsYesterday was our first day out on the car shopping adventure. Kyle and I were both pleasantly surprised with the experience so far.

Based on the initial research we did, we’ve decided there are 4 car makes that we find acceptable for our needs. So before we start price negotiations we’ll need to visit at least 4 dealerships. We went to Dealership #1 where we asked to test drive two cars. The salesperson was helpful and knowledgeable and addressed us both equally. That made me quite happy. We only ended up test driving one of the cars after realizing that when we sat in the second car it made us feel claustrophobic. It was kind of like when I drive a client by a house and they say they don’t want to go in because they don’t like how it looks from the outside or where it’s located.

Drawing other parallels with real estate, I realized that houses can be a lot easier to customize to your needs in some cases, while cars have some limitations. You’re limited to what’s on the lot or what the dealer can source from another dealer in their network. If I go into a house and the layout is acceptable but I don’t like the bathroom, I can remodel it. If I find a car I like but want it in a certain color but without the climate package, I’m somewhat restricted by the available inventory. I’m probably not going to change the color of the car or rip out the climate package. So I need to make compromises, much like I would in a house hunt.

While at Dealership #1 we had them look at our trade-in and give us a value. This is similar to when an agent gives a seller a market analysis on the value of their home or when a bank appraiser issues their report. The value they provided was just about what we expected, fairly close to the Kelley Blue Book amount. We also visited another Dealer where we would only consider having them purchase our car, not actually buy a car there. They gave us another (higher) value. With our existing car we’re going to need to decide if we just want to directly trade it in to the dealer or sell it on our own. Typically you’ll get more if you resell a car on your own because a dealer will take your car, resell it to a wholesaler who will then resell it to another dealer. You get less for your car because the dealer that ends up with your car needs to pay a middleman.

Selling your car on your own is somewhat similar to a For Sale By Owner listing. The owner of the house needs to price the home on their own, do their own marketing, meet with prospective buyers and negotiate an acceptable price. We’re not sure what we’ll do regarding our current car. Our negotiations on price for the new car we purchase may end up influencing that decision. We’ve sold cars on our own before, but we’ve also traded them in because it ends up being easier. Sometimes the cost differential that a dealer would pay is offset by the time and effort it would cost us to do everything on our own.

Three more dealerships and 6 more test drives to go before we decide on acceptable options and start price negotiations. In this respect the search is nothing like house hunting. With houses you never have much visibility to what will be available and when, so it’s more of a waiting game. You could look at 5 houses or 50 houses before you find the right one for you.

Now, back to work and showing more houses for the next few days.