Follow the money to some good news. What’s the most common misconception about home prices? That a home is a singular commodity. Homes actually have two components, the structure, and the land, each with a separate value and value behavior.
Losing a home, and especially the irreplaceable contents, is a terrible, life-scarring event. However, the financial effects are odd. The scaremongers are already out, warning of under-insurance and the need for a lawyer to fight. However, two-thirds of US homes have mortgages, and lenders want adequate insurance every bit as much as homeowners do.
In a refinance, we often annoy borrowers by telling them that their insurance is inadequate and must be raised in order to close the deal. Most insurance companies have engines for “replacement cost coverage,” and we lenders work from the appraiser’s breakdown of land versus improvements. Of course, at purchase, we must see evidence of adequate coverage in effect at the time of closing.
Most states have statutes forbidding the sale of excessive coverage, and we tip-toe on that line. Our general rule: coverage for a guaranteed replacement OR the loan amount, whichever is greater. A recent buyer with a 97% loan may be fully covered. The leading causes of insufficient coverage: remodels and additions, with or without a mortgage, or coverage not updated.
After a loss, the only source of good advice is your carrier, but the following is an example of the good news.
The land does not burn! It is scorched and may require hazmat removal, but then it is a prime lot, ready for construction like any other. Mortgage borrowers and their lenders (loan servicers) are named in the insurance as joint “loss-payees.” The proceeds of coverage first go to paying off the mortgage, except as to rebuild, possibly in combination with a construction loan. DO continue to make your mortgage payments, but you’re protected against double-payments by policy coverage for temporary housing, often for as long as two years.
Under-coverage alarmists point to the rapid run-up in home prices recently as a cause of under-coverage. But your insurance coverage has NOTHING TO DO WITH YOUR MARKET VALUE. The structure is insured, not the land. Homes inevitably fall in value (age, wear and tear, obsolescence), while the land appreciates in value. Costs of labor and lumber are up, but nothing like as much as the value of the land in Louisville and Superior.
In this fire, 1,084 dwellings were destroyed. All but a couple of dozen were single-family homes, perhaps 90% occupied by owners (too valuable to make good rentals) in affluent neighborhoods. In Boulder County, for decades, the real estate most in demand has been a building site for a single-family home. The county supply of single-family lots, which was effectively zero, has now increased by over one thousand. If your insurance pays off your loan, you will own free-and-clear a superb building site in high demand.
The only building sites available within many miles already have houses, and to build we must first “scrape them off.” No need for that on the fire sites, nor Boulder County’s green fervor that houses be deconstructed seemingly one shingle and stud at a time. The utilities, wells, septic systems -- those are all still in place. Market values for the sites under these destroyed houses is often more than half of the total market value of each property. Land-alone values run from perhaps $250,000 for the most compact neighborhood to an average of perhaps $800,000 for the quarter-acre ones, and $1,300,000 for an acre with one of our dramatic views. The few building sites available not in this fire are the new-age super-compact lots, where you can reach out your window, in through your neighbor’s, and change their towels.
In a year we’ll learn how many owners decided to rebuild, and how many flipped their sites for good money to buy elsewhere. Before flipping, check with your CPA as you may have a good-news tax problem!
What will be the displacement effect on the rest of the ultra-tight market? Homeowners may find it temporarily tighter to find housing, but astounding generosity has already eased some of that pain.
Lou Barnes from Cherry Creek Mortgage is a guest writer and speaker for WK Real Estate. To contact Lou directly you can email or call: lbarnes@ccmcleanding.com, 303-302-3837.