By Jack Guttentag
The Mortgage Professor (MCT)
Recently I put my home up for sale, and because it needed a new roof, deck, and septic system, came face to face with this question. This article is based heavily on that experience, in which I made a serious mistake that other sellers can avoid.
It is easier to sell a house that is attractive to potential buyers, which means that you spend a little time and money on cosmetics. This is partly just a matter of making sure the house is clean, the yard is neat, the driveway is swept, bushes pruned and so on. Easily fixed structural defects, like a loose shingle, should be fixed.
Houses almost always look better when furnished than when empty - and they also look larger. If you are moving to another residence and plan to take your furnishings with you, try to arrange to show the house before you move out of it.
But if your house also has structural defects that are costly to fix, as mine did, the challenge is in deciding whether or not to fix them before sale.
Every house has defects, some obvious and others hidden. Both types will affect the price a buyer is willing to pay. It is a mistake to think that a potential buyer will assume that the only defects that exist are those that are visible.
Serious buyers will most likely invest in an inspection by a company that specializes in such services. The firm retained by my buyer produced a document of 22 pages of small print, plus many photographs. Buyers that don’t retain an inspector will probably assume the worst about the unseen condition of the house.
There aren’t many buyers who will pay a price based on the assumption that everything they can’t see must be OK. Pricing the house on that assumption is a good way to keep it on the market unsold indefinitely. While you continue to pay for utilities, taxes and insurance, the condition of the house worsens and your real estate agent loses interest in trying to sell it.
Facing up to the issue means asking yourself whether you will come out better if you fix the structural defects, or if you offer it at a lower price “as is.“ If the repairs cost $15,000 but it results in a sale price $20,000 higher, you want to do it. If the post-repair price is only $10,000 higher, you don’t. The likelihood of each outcome depends on the circumstances.
There are two circumstances that favor fix-up before sale. One is where there is a large variance in the cost of the fix-up, and a potential buyer is likely to over-estimate the cost. In the case of a septic system, for example, the cost depends on the condition of the soil, and if the seller knows that the condition is favorable and the cost low, it makes sense to fix it before sale.
The second and probably more compelling circumstance is where most potential buyers have the capacity to make only a small down payment, and are therefore not in a position to fund the cost of major repairs after purchase. By making the repairs before sale while setting a correspondingly higher price, a buyer is in effect financing the improvement in the mortgage. If a buyer with limited cash had to make the improvements after purchase, the financing costs would be substantially higher.
But note that fixing structural defects before sale takes more time, which a seller may or may not have. In addition, depending on the type of defect, the value to a buyer may be less than the cost to the seller if the “fix“ involves questions of taste.
I sold my house as is because I had already committed to a new one and wanted detachment from the old one as soon as possible. Furthermore, the buyer who fell in love with my old house had the financial capacity to pay for all needed improvements. She didn’t need the larger mortgage that would have been obtainable if I had made the improvements. In addition, one of the required improvements to my old house was to a deck, which could be done in a variety of ways based on individual taste, and it made no sense to do it according to my taste.
If a house has significant defects, the smart seller will order his or her own inspection, and in some cases, solicit estimates of the cost of required fix-ups. This will help in deciding whether the best arrangement is pre-sale fix-up, sale as is, or some combination of the two.
In addition, a seller-ordered inspection will tend to equalize the negotiating power of the two parties. I discovered this the hard way when the buyer used her report to drive down the price. Buyer-ordered inspections are designed, consciously or unconsciously, to provide bargaining ammunition for the buyer by exposing everything that is wrong or might go wrong. I did not have my own inspection, which would have emphasized the trivial nature of most alleged defects and the small cost of fixing them. That was a costly mistake.
Jack Guttentag is professor emeritus of finance at the Wharton School of the University of Pennsylvania. Comments and questions can be left at http://www.mtgprofessor.com. Readers may send email to jguttentagmtgprofessor.com.