The law

Four years ago I offered on a quirky building, saw that offer accepted, then had second (spouse-related) thoughts. “What,” she asked, eyes narrowing, nostrils flaring slightly, “were you possibly thinking?”

I slunk away to close the deal, since backing out was not an option. Reputation matters. The day of closing arrived and my money was sitting in the lawyer’s trust account when the call came. “The other side just contacted our office and indicated they will not have the necessary documentation in place to close today,” Peter said. “They’ve asked for an extension.” Good, I replied. Don’t grant it. We ain’t closing.

Legally, they’d dropped the ball. On the day the owners were obligated to hand over the property and the deed, they did not. I walked. Peter asked for my deposit back. They refused. The other side wouldn’t sign a mutual release, and without that, the listing broker (holding the funds, earmarked to cover the commission) told us to get lost.

It took weeks, money and a litigator to secure the refund. The owners then went on to sue their own lawyer for being such a stumblebum he couldn’t close a simple deal on time, and their new lawyer called me to volunteer as a witness. I laughed.

Buying real estate is not always easy, quick or efficient. Most realtors, who prepare a legally-binding contract called an APS (agreement of purchase & sale) have no legal training and may simply download clauses from the provincial real estate association website. What’s in that doc can be hugely important in the event of any dispute. So, kids, never ever ever ever make an offer (or accept one) without having your legal dude look at it first. Also include a clause giving you the right to secure your guy’s approval on any sign-back.

Be aware, too, of how deposits are handled. In almost all cases where a property is listed on MLS the deposit goes directly to the brokerage employing the listing agent, held in its trust account. The money is not given to the seller, or even the seller’s lawyer – unless specially designated. As shown in my little experience above, without a release signed by both parties in the event the agreement goes south, no funds will be released. So a buyer can walk away from a deal and the seller’s left with nothing but legal bills.

These days that’s happening a lot. People who entered into legally-binding contractual arrangements to buy real estate are turning tail. Yesterday’s post mentioned a few examples, like the new-home buyers in Oakville who want out of deals for $1.5 million houses they bought on spec to be built two years hence. They figured prices would continue to rise, but the opposite happened. The new homes have declined in market value (even before being finished) while their resale homes have also plopped. Now as closing day approaches, they’re moaning, whining, barraging the media, blogging, begging the builder and even telling the government to intervene.

Of course, there’s blog dog Derek. His buyer walked after over-paying in a bidding war, got sued when the house was resold for half a million less, and lost. It was a disastrous strategy, all flowing from the naïve belief he could sign a contract, repudiate it and lose only a deposit. Sadly most people cling to the same myth.

Yesterday half those coming to this pathetic blog to comment called Derek a greedy little weiner for going after the buyer and ultimately costing him hundreds of thousands in damages. This seemed to flow from the underlying sentiment that D ‘had enough’ already, still made a profit on his home and should cut the broken buyer some slack. Others defended our blog dog as a hero of righteousness punishing the stupidity and recklessness of a buyer who bid more than he could afford then tried to weasel out of a deal with zero legal justification.

At odds here are the concepts of legality vs morality. Derek was legally correct. The courts said so. Damages were determined and awarded. A deal’s a deal. Honour it or suffer. But was there a moral case for leniency, letting off the hook a guy who epitomized the behaviour that made real estate unaffordable for most families? Do you turn the other cheek? Weren’t both parties acting in their own self-interest?

Morality is fluid, so we need laws. When a beater house costs a million, involves extreme leverage and takes decades to pay off, the legal system exists to protect both buyer and seller. So if you can’t afford a property, don’t offer. If a bidding war erupts, go home. If you panic later, negotiate, or pray the seller’s lawyer is a doofus.

Going under

Here’s a safe prediction for you: expect far more media stories in the coming months on people being eaten by their houses. The latest was a TV news piece in Ontario Thursday night about a woman who fears losing her home since she cannot make outrageous mortgage payments to her private lender.

Why borrow from a high-rate sub-prime mortgage broker? Because she didn’t qualify for a bank loan. B20.

Lately housing anguish and suffering is all around us. There are the Mattamay Homes Refugees who think it’s unfair they paid $1.5 million for unbuilt houses at the peak which are now worth less. They cannot close deals, they say, since their existing homes have fallen in value. The company says, tough.

Then there’s blog dog Derek, whose tale was told here, then repeated across Canada in most media outlets. Buyers who ponied up $2.25 million in a bidding war for his house last spring walked, got sued, lost and now face a $470,000 judgment, plus having surrendered their deposit. Derek told me last night he saw one of the buyers in court this week as writs were issued against their property. “We actually felt really bad for him,” D says, “as he really appeared to be a broken man. But we gave him every opportunity to just close on the house. Really would have been the smartest thing to do.”

You bet. The fools will spend half a million and have nothing to show for it. Closing would have been so much wiser, securing an asset which may eventually rise again.

But not soon. The numbers are getting worse.

New house prices in the GTA, for example, just dropped by the largest amount in eight years – since the financial crisis. A 8% year/year surge last year has turned into negative numbers now, as sale prices in February fell more than 7% year/year. The reason, Stats Can says, is a rise in mortgage rates plus B20. The real underlying reason’s even simpler: few can afford a new detached house going for $1.2 million.

The result is an 82% crash in single-family home sales from this time last year, to a level almost 80% below the 10-year average. Condos aren’t immune, despite the price surge there. Sales of new units have crashed 50% in a year, reflecting the exodus of speckers, flippers and amateur landlords who face negative cash flow.

Meanwhile, something far more sinister is happening. Families continue to siphon equity out of their houses to do things like pay existing debt. HELOC borrowing has not slowed down even as real estate sales crunch across the country. The latest stats show Canadians have withdrawn (and spent) more than $283 billion from their houses – a number which is escalating almost 8% a year.

As mentioned here before, more than four in ten of those families are not paying back their home equity loans, while a quarter make interest-only payments. Thus, the debt load continues to escalate monthly as the outstanding balances grow. It’s a disaster in the making, since most HELOCs are demand loans at variable rates. As the Bank of Canada moves higher (looks like May could bring the next increase) that $283 billion will require over $700 million in additional payments each year.

That’s a ton of money to rip out of family budgets and send to the lenders (the banks). In total, Canadians now hemorrhage about $8.5 billion a year on HELOC interest payments, or tack it onto their outstanding loans. As interest rates rise, so will the toll. And if real estate values tumble in any particular location, lenders have the absolute right to demand immediate repayment of all or a portion of the borrowing to maintain LTV (loan-to-value) ratios. Go ahead. Read the fine print on your HELOC. Inebriate yourself a little first. Or a lot.

The tales of woe have just begun and as they ripple across the MSM, spill onto FB and into Twitter, the meme will spread of just how much risk is contained in residential real estate. Don’t plan on a quick drop, followed by a rebound. Instead, a steep correction, then a lengthy melt.

Derek will look like a genius.