Thursday, September 18, 2014

The Pitfalls and Risks of Buying New Construction

Don't you love the smell of new lumber and freshly poured concrete?  I do.  I love the VOCs that emanate from new paint and carpet.  Everything is so shiny, new and perfect... or is it??

Most buyers prefer new construction over resales.  While there are many advantages to buying a new home, there are also advantages to buying a resale.  Luckily, as  new construction is booming again in Atlanta, buyers have a choice.

Buying a new home falls into two categories: 1) buying a new  "custom" build 2) buying a "spec (built on speculation of the market)  home.  Most builders will not reduce the price of a new home- you pretty much pay asking price.  A possible exception to that is buying a "spec" home- a house that is either completely finished or almost completely finished.

The builder takes out loans throughout different phases of construction.  When the house is completely (or almost) finished, the builder is paying a maximum amount of interest on construction loans and therefore has increased carrying costs and higher risk of eroding profit margins.  In this case, a builder is more likely to make price concessions or give money towards upgrades in the house and/or pay buyer closing  costs.  In a subdivision that is being built, the builder would usually prefer to offer incentives to add upgrades or pay towards buyer closing costs rather than reducing the list price.  They need to keep the house prices up to allow for price increases and to validate appraisals for future sales.

When buying a spec home, the buyer would usually be able to negotiate the terms of the contract much like a resale.   The earnest money amount may be negotiable and held by the buyer's agent's broker in an escrow account (less risky for buyer).   The buyer may be able to negotiate a due diligence period (which during that period, the buyer can back out of the deal and get their earnest money back) and may be able to negotiate a finance contingency period (if they get denied the financing within the finance contingency period, they would get their earnest money back).  Also, the buyer can see exactly what the house looks like and what all the finishes look like.  The downside is that if the house is finished, the buyer doesn't get to make selections of materials and such.  All in all, buying a spec home does not present a high risk to buyers in my view.

There are substantial risks in buying a new build.  If a builder is going to build you a new house, he is not negotiating on price.  You will usually get a builder allowance for things like carpet and flooring, lighting, plumbing fixtures, appliances, countertop materials, etc. which would be included in the base price.  When you go to pick out these items, you will usually find that the allowance is not big enough to cover your expensive taste and you will actually spend over the allowances in upgrades. These upgrades usually have to be paid for out of pocket by you at the time of selection and are NON-REFUNDABLE if you don't close.  Speaking of not closing, there is usually NO finance contingency and no due diligence period.   Some builders won't even allow an appraisal contingency, meaning that if the house appraises by your lender's appraiser for less than the purchase price, you have to come out of pocket for the difference.

The Earnest Money for a new build is typically not held in escrow by the buyer's agent- it is given to the builder and he puts it in his operating capital account.  What if he goes out of business before he builds your house??  What if he takes the money and moves to sunny California??  In these cases, your money is gone.  And we're not talking pocket change- more likely up to 5-10% of the purchase price as Earnest Money may be required upfront.  On a $500,000 house, that's a cool $25,000-50,000 in case you don't have your calculator out.

Where are you going to live while the house is being built?  It may take MUCH longer to build than you expect it to.  Right now, there is so much new building going on that the city is backed up in the permitting department and permits are taking for-ev-er!  I just had a contract close where I was representing the buyer who signed a contract August of 2013 to build a new house (with a reputable builder) that was scheduled to close 8 months later.  Fast forward to more than a year later, the house finally closed.   There can be many delays due to city permits, unpredictable weather, and other unforeseen events.  Many times the contract will give the builder the right to delay closing due to acts of God and other delays.

The other potential pitfall of buying a new build is that unless you've actually seen a model of the floor plan you chose to build, the actual house may look different in reality once it's built than it did in your head.   The colors you chose from a tiny swatch may look like vomit on the walls.  What if you loved the granite sample in the showroom, but you hate how dark it turned out in the house? What if the living room seemed large enough on the floor plan, but now you have to buy a new sofa that is small enough to work in the actual space??  You get the drift.  I'm NOT saying don't buy a new custom built home, I'm just saying BE CAREFUL and know your risks.

As I said, I do love the smell of new lumber and freshly poured concrete!

If you're thinking of buying a new house, contact me and we'll go over all the details!  Jackson Bass, Keller Williams Realty Buckhead

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