1347: Mortgage Market, Home Flipping & Inventory Levels with Chris Mason

I really need to thank you and Sarah for being there for me. You guys could have easily said, this isn't my problem, this is your problem. Your lack of due diligence is entirely your fault and not done anything at all. But you guys have been there for me every step of the way. You responded on Voxer at 3:42 in the morning. I know it might have been 6:42 depending on where you were, but honestly, who works at that time? So just the fact that you guys were there for me, I appreciate it so much.

Welcome to the Creating wealth show with Jason Hartman. You're about to learn a new slant on investing, some exciting techniques and fresh new approaches to the world's most historically proven asset class that will enable you to create more wealth and freedom than you ever thought possible. Jason is a genuine, self made multimillionaire who's actually been there and done it. He's, he's a successful investor, lender, developer and entrepreneur who's owned properties in 11 states, had hundreds of tenants, and been involved in thousands of real estate transactions. This program will help you follow in Jason's footsteps on the road to your Financial Independence Day. You really can do it. And now here's your host, Jason Hartman with the complete solution for real estate investors.

Welcome to episode 1347 and greetings from a beautiful Ritz Carlton hotel here in Florida. I tell you, Florida is just paradise. You can probably hear the wind and the water fountain outside. I'll come inside because it's a little noisy out there. Thanks for joining me today. We've got a few things to talk about. We're going to talk a little bit about mortgages. I interviewed a, a new mortgage representative today. I think you'll be interested in what he has to say. Some insights on the mortgage market there. But first, if you want to do something kind of fun and funny, do this. Ask Siri or ask Alexa. Alexa is the one I asked most recently. Ask Alexa for the definition of Trump Derangement Syndrome. Yes, tds. Trump Derangement Syndrome. It's pretty entertaining and you'll see that a lot of people have this. So it's a disease affecting or I should say afflicting at least half the population of the United States. So check it out. I think you'll get a laugh out of that. Anyway, this is episode 1347, the Florida. We get to our mortgage update.

Wow.

Home flipping. Home flipping ain't what it used to be, that is for sure. In fact, that's probably an understatement. It's an understatement. It is way down, way down, way down, way down. In fact, it is nearing a seven year low. Now, you know, we've had Darren Bloom Quest on the show several times and he has spoken at our Meet the Masters of Income Property event, which, by the way, we're about to announce a date and location for the 2020 venue. So stay tuned for that. It's coming right up. Coming right up.

Around the corner.

Not today, but soon enough. He's with Adam Data Solutions and they are out with a report that says in the third quarter of 2019, home flipping was down to the second lowest point since 2011. Now you might recall, since I've been doing this way too long and way longer than all my other competitors, especially the fake ones that say they've been doing it since 2004, I actually was doing this in 2004 for real. But there's a few people out there who say they were and they weren't. Actually, not a few. I definitely know of one. Okay, so back in 2011, you might recall that financing was incredibly difficult to get for home flippers. And as part of the financial regulation, there was just a slew of new things, including, not the least of which, including Dodd Frank Dodd Frankenstein, which really impeded business in, in the US in terms of real estate and I think slowed the economic recovery substantially. But it is what it is. These regulators, hey, they don't understand the real world. They sit there in their ivory tower, insulated from all things real. They pass laws and make rules that the rest of us little people in the hoi ploy have to follow. So all of these regulations made it very, very difficult for companies and entrepreneurs and individuals. Just, you know, Bubba with a pickup truck who wanted to flip a house made it very difficult for him to do it because they had all sorts of rules like that you had to wait a certain amount of time if a property was purchased in foreclosure, what was that rule? You had to wait like 90 days before you could flip it and then more time before you could flip it again. Right, right. And this was to like, just slow the whole machine down. And admittedly, you know, like many of these laws, I'll give them credit that many of them do have good intentions, but intentions meeting reality, where the rubber hits the road, oftentimes do not work out. They do not work out. Check this out. According to the report, 56,566 single family homes and condos were flipped in the third quarter of 2019. So here we got a country of about 320 million plus people now. And 56,000. Well, if you round off correctly, 57,000 single family homes and condos were flipped in the third quarter of 2019. But that was down. Get this. You ready? It was down 12.9% from the previous quarter and down 6.8% from a year ago. These marked, these drops were the largest quarterly and annual drops since 2014. Now, there's a few different time periods to keep in mind here. Right, because initially we talked about how it was down from 2011. Okay, the second lowest point. But another point here in 2014, they're also mentioning in the report. So this activity, definitely declining return on investment was down as well. Look, that's how the supply chain works. It's how capitalism works. If the seller of the property, who's selling it to you, the turnkey investor, can't make money, hey, they're not going to do the deal. And then you're not going to have anything to buy. So that's a problem. As the supply chain gets constricted, as these margins get constricted, there are fewer people doing it. Right? Because people do things for incentive. This is pretty significant. And look, I've been complaining to you for years and you've been complaining to me. So I'm just complaining back, right? It's a circular complaint cycle, right, where we're all complaining that inventory is down, there's not enough properties to buy, there's not enough out there. What am I gonna do? What am I gonna do? Well, here's what you're gonna do. This is prime advice. Are you ready? You are going to, reluctantly, but still, realistically, you are going to accept reality. And that reality is that inventory is tight and properties are more expensive. It is simply the law of supply and demand. But in accepting that reality, you'll be okay in the long run. And here's why. Remember, as I've mentioned to you throughout the years, prices always precede rents. Rents always lag prices. So give it a couple years. Get your properties, get this incredibly good financing, incredibly good financing. And you get to lock up the rate for three decades. But your renter only gets to lock it up for one year at a time. Little arbitrage there, right? A little arbitrage and your renter will see increases over the years. And if you can increase that rent by 3 or hopefully even 4% annually. Now you know how that works. One of my concepts, I teach the three dimensions of real estate. When interest rates are very low and housing affordability is pretty reasonable, then you, you're not going to be able to raise rents as much. But when you get into the cycle where the rates are up and the prices are up, right, when you have both of those factors at the same time, you're going to find that you have this magic thing, a magic two word thing. Do you know what that magic thing is? It's almost as magical as this beautiful ocean view from the Ritz Carlton hotel. Wow, it's gorgeous. Hey, by the way, maybe at Meet the Masters I will share my secret on getting hotel upgrades. Yes, I tend to be very good at that. I wish I could do it with airlines, I occasionally do it with rental cars. But hotels, I do it often and I succeed often because I am in this gorgeous suite. I've got two bathrooms and two big rooms and two balconies and a beautiful view. Did I pay for that? I just paid the regular price of regular Ritz Carlton room, which ain't cheap. But hey, that's why we work hard and invest in real estate. But the upgrade was free. Yes, free, free, free. So maybe I'll share my magic secret.

At Meet the Masters.

So be sure you come anyway. We'll, we'll announce a where you can get your tickets for that soon and all the details. Okay, so the great thing about the three dimensions of real estate is that you get to do that arbitrage, right? You get to lock in your cost. Of course you'll have some maintenance and repair costs, but that's fairly minor. You get to lock in your cost of borrowing, right? That's the biggest expense, that mortgage. You get to lock that in for three decades. Population keeps increasing, prices keep going up. And when that turn in the market comes, which it ultimately will, where you see higher rates, lower affordability, although affordability, you know, it ain't great right now. It's not, not that bad, but it's not that good either. You will have the magic two words. And you know what those magic two words are? They are the magic two words that the most successful companies on earth have. And I'm going to use one example because use some of their products and I like them pretty well. In fact, I think they're one of the more honorable tech companies. You don't hear me complain about them very much. I complain about Google and Facebook and their disgusting abuses of power. Even Amazon. But Apple, yeah, Apple I think is a little bit cleaner, not perfect slowing down the iPhone performance when they release the new version. That was pretty sleazy. But they're not Bad. Anyway, what do they have that you want as a landlord? They have this magic thing, pricing power, the Double P pricing power. As a landlord, you innately have pricing power because you have a scarce commodity, real estate. You have a commodity, everybody in the world needs shelter and you rent it to them. But when you get into a time where there are certain spots throughout that three decade long beautiful mortgage you have where you really, really have pricing power and you can really, really command higher rents through the law of supply and demand, it is a great thing. So you're gonna have to take that risk in advance. And I know the inventory is constricted, the prices aren't as low as they used to be. We all got spoiled. The deals were way too good back in 2009. 10, 11, 12, 13, 14, 15, 16, 17, 18 and 19. A little more expensive. Maybe in 20, 20, 21, they'll be even more expensive, who knows? And you'll be saying the reluctant investors lament saying you wish you would have purchased back then. Just like he says in that poem, that he wish he would have purchased everything, but he thought it was so overpriced in 1977. Yes, yes. That's what happens when you have a scarce commodity that everybody needs. Real estate. It's a beautiful thing. And actually that's an overall view of the market. But we've got some pretty good inventory now, I'm happy to say. Go check it out@jason hartman.com. talk to our investment counselors. We've got some good brand new construction inventory too. As you can see, the flippers, the home flippers, their inventory is definitely constricted.

And dried up a bit.

But we have both resale flip properties and new construction properties as well. All right, without further ado, let's get to our guest. Let's talk a little bit about the mortgage market. It's my pleasure to welcome Chris Mason.

He is an independent mortgage broker. He's located in California, my old home state. I met him online and he shared some really interesting thoughts about the mortgage market, about the increased loan limits that we've talked about recently on the show. And I asked him to come on the show for his insights into some of these things. And I think you'll find them valuable. Chris, welcome.

How you doing?

I'm doing good. How are you?

Good, good. It's good to have you on. So, you know, I guess the big news is that Fannie Mae Freddie Mac loan went up to a base amount. They increased by about $100,000, I guess in the last two years, maybe a base loan limit now of 510,000. But in the more expensive markets like where you're located, they can go up to, I believe, about $765,000, 150% of base, I think, is the formula. And in addition to this, FHA loan limits have increased and FHA reverse mortgage, something we don't talk about too much, loan limits have also increased. So kind of three areas we're seeing this additional flow of capital available to borrowers. What do you think that's going to mean to the real estate market?

What tends to happen is prices get home prices specifically, at least in my area, get sticky about that price that results in that one limit. Does that make sense?

Yes, it makes sense.

And one of the things I want.

To just distinguish for the listeners too is this is the loan amount, not the purchase price. So for example, if someone was buying, if they wanted to get that maximum $510,000 loan, they might be putting 10 or 20% down. So you'd add, you know, 51,000 or $102,000 to that, and that would be the price of the house.

I actually have a cheat sheet right in front of me on my desk that lists her all the time that has that relationship. So four areas that are not living. So most of the United States, you know that first time home buyer putting 5% down, they can get a maximum conforming loan at a purchase price of 537,000, 537,000. If they've got 10% down, they can go up to 567,000, 15% down, they can go up To 600,000. And what you'll find is that as you cross each increment, your buyer pool shrinks because people that are trying to go beyond that no longer be able to get a Fannie Mae or Freddie Mac back loan. But that's what's called a jumbo loan, which has more stringent underwriting criteria, thus shrinking your buyer pool. So you can go right up to those lim with the market as the free market doing its thing and figuring out whether or not you'll be able to sell it for that price and how fast this, that and the other. But as you hit those thresholds, what you're going to find is your buyer pool starts to shrink. So you start to get into sort of a diminishing marginal return range. Does that make sense?

Yeah, makes perfect sense. And for investors, they're going to be putting 20% down. And of course, hopefully they're not buying properties this expensive because the Rent to value ratios ain't never gonna work. But you know, if you want to be more speculative, sometimes that works. So that's interesting. Now, you know, in terms of the overall climate out there, you said, when I just kind of casually asked you how business is and you said it's a banner year. How much of your business is refinance business and how much is purchase business overall?

The industry this year leaned a lot more towards refinance than normal because what happened is 2018 rates had a seven year high and then in 2019 rates at a three year low. So basically over this last summer that just passed, everyone that bought a house in 2018 did or should have refinanced over this summer. Or even right now is still a good time. My personal Production is about 20% refinance, 80% purchase. That's unusual. Most people chase the easy money of the refinances, say hits dollars.

The easy money of what?

Just cold calling people and doing refinances. I don't find that very satisfying. But a lot of people do.

Right, right. Sort of easier to get the refi business. And you know, I owned a couple of mortgage companies over the years and I tell you, those refi guys, when rates are low, you get very envious of all the money they're making. It's like they're printing money. But their business is extremely volatile because the refis are a complete numbers game. You know, it's just simply does it make sense to refi or not? Whereas purchases have a more consistent flow of business.

Right, I agree with that. And I think the only way to build a sustainable mortgage business is to be purchase focused. Because you cannot have your livelihood and your ability to put food on the table dependent on the neck of nations of Wall street, which is all you're doing if you're trying to focus everything on refinances.

Right, right. As my listeners will know, I'm no fan of Wall street, that's for sure. But hey, it does determine a lot, no question about it. You know what's been interesting to me, Chris, is this talk about new credit criteria and you know, the FICO score system seems rather flawed to me. Is that a popular notion? Would you agree with that or do you disagree? What do you think about the FICO scoring model? Is that really a good criteria for borrowers? I think it leaves a lot to be desired.

I would actually tend to agree with you. So I'm in the San Francisco Bay area, so a lot of what goes on here is centered around software FICO scores are an algorithm. And software people understand algorithms because they do that for a living. And people around software people kind of via osmosis start to understand it. So my average FICO score is 766, which makes it a pretty useless metric because everyone's in the best category. Now I say average, that's the average of people that actually get loans. So you either have like a 766 or you have like potato. So there's not a whole lot in the middle, which is kind of interesting. And I don't think that's how it's supposed to work. And again, granted, my bias is towards the Bay Area environment, which is where Silicon Valley is located, which means a lot of software people.

Right, right. And we have a lot of clients up in Silicon Valley as that are purchasing properties around the country and building investment portfolios. So that's a very high credit score. 766, obviously that's supremely good. But among those buyers, you know, if you do 100 or 1,000 loans and those borrowers have an average 766 FICO score, which is phenomenal. Still, some of them will default eventually, right? In the next five years, you know, we hit a recession, there are some layoffs, whatever, maybe strategic defaults, they're not all going to repay those loans. So the question is, what's the difference? Like you said, if they're all in that high tier category, how does a lender put in any risk premium for those loans? They just don't. Right?

Yeah. I mean, there are still adjustments. For, for example, down payment is one that we see a lot for single family house. And everyone knows the standard investment property down payment is 25%. You can actually go as low as 20 or 15% down and those will be considered higher risk loans. And your interest rate will of course take a bump. But that is the sort of difference we see. There are still adjustments for down payment amount.

Yeah, no question about that. And the less skin in the game, the more risky the loan. And we certainly saw that through the Great Recession, no question about it. So about the FICO scoring system though, you know, assuming that it's not 766, you talk about, like one of the things you wrote in, in this Post was an $800,000 home listed in Oakland, California, which by the way, years ago used to be a cheap area and it's not anymore, as of now, they can get that loan with 5% down on a 640 FICO score. Is that correct?

Yes. No, that is technically Correct. It's not going to be the best interest rate or anything else, but it is what it is and you can technically get into a house. The average FICO score for people that actually receive mortgages nationwide by the way is closer to 700 or 706 depending on your source.

Okay, so there's a good barometer to give some comparison. But the most startling thing you said is next was the debt to income ratio. They can have a debt to income ratio. It sounds like a 49.99% and no reserves. In other words, money in the bank is required. It seems to me like maybe we're getting a little too liberal again with this financing or am I wrong?

So it's been like that for a lot of years. That's actually not a new thing. The loan limit has changed. So before it was whatever it used to be and then it was the previous summer. So that does go up every year. Late November, early December. They look at the average sales prices across the nation, generate new loan limits accordingly. But that 5% down with a DTI, not quite at 50% that's actually been around for a quite a long time. What you will see is when you run the automated underwriting system, if you do have that person that does literally have 640 FICO score, no reserves, 49.99% DTI, 5% down. They may not be approved by the automated underwriting system. It's just case by case basis. The software looks at the totality of the scenario and makes a yes, no decision. But there's no hard stop. There's no automatic oh, you only did 5% down before you have to have an 800 FICO score. There's no hard stop like that.

And of course DTI is that debt to income ratio we were just talking about. Do you think another recession is coming around the corner? What are your thoughts on just the general economy? Because it relates a lot to how we are lending on properties. At least last time around it did got way out of hand and the criteria was just too lax. And then post great recession I think the lenders over corrected and now they're largely moving back into balance again. And of course here we're talking more about homeowners, home buyers, owner occupied properties than we are investment properties. But this all relates to the entire banking system and the entire real estate market. And that's why it's important to, to discuss even, even for investors that are buying $140,000 houses in, in the Midwest.

So there were a couple of things in There. The first one is recession right around the corner. You know, if I knew the answer to that, you and I wouldn't be talking because I'd be on Wall street charging Warren Buffett $5,000 an hour for my time, right? So I don't know if recession is coming. I don't know any more than you. And that's the question I have for anyone that claims they can predict the future. Why are you talking to me? Why aren't you charging Warren Buffett $5,000 an hour for your advice? That's the question I always ask.

I think we can say it is coming. It's only when, right?

No, no.

I mean, everything is cyclical. So yes, there will someday be another session. That is true. And they will someday be in their boom cycle and they'll be in a recession. And yes, that is true cycle. One thing in terms of the, you know how conservative or liberal lending is, lending right now is still more conservative than it ever was in the past. One difference is in 2006, you might have had a loan that looks like it's a 36% DTI and you're like, oh, that's a really low risk loan. I mean, all that sort of stuff. But then the problem with that is that's 36% DTI according to stated income. So what's the real DTI? You have no idea. So when we talk about 49% DTI in the current era, in 2009, going to 2019, going to 2020, that's actually a real number based on really conservative underwriting principles. For example, you know, self employed, you got generally got to be self employed for two years before that income will be considered at all. And I'll give you a ridiculous example, because usually ridiculous examples help us understand what's really going on. I had a doctor who had a three year contract for an Israeli company that was selling medical devices in the United States. And they only had very few people in the United States doing this, so they didn't want to set up payroll instead of an HR department in the United States. So the doctor had a three year, $20,000 a month guaranteed income in the contract. All he has to do is keep having a pulse and he gets 20 grand a month. There was no ambiguity in the contract. His Morris qualified income was $0. Because it just so happens that he was on a 1099 and not W2. Okay, if you're telling me that you know that underwriting is getting crazy, if that's the position you're taking, tell Me, why couldn't that doctor get a normal vanilla? Fannie made 30 or.

Right.

You should have been able to.

Right, right. And so the qualifying criteria, the underwriting is much more verified now than it was in the past.

Yeah. So you might be skeptical about 49% DTI, but it's a real 49% DTI. It's not 36 on paper, but in reality it's 76 or something absurd like that.

Right, right, right. And so you don't have the liar's loans the way we used to Are any lo are interest only or is that, I mean, negative amortization is a thing of the past, I'm pretty sure. But what about interest only? Are those available at all?

Yeah. So that's what's in the non QM bucket of loans. QM stands for qualified mortgage, which means it checks every single box you can think of from CFPB to Dodd Frank to, you know, all this stuff. And if it is a qualified mortgage, the lender is more protected in the case of a lawsuit. If it is a non qualified mortgage, the way I've heard it expressed is that the lender loses the presumption of innocence. One of those boxes you have to check to be a qualified mortgage is that it has to be a fully amortizing loan with a max term of 30 years, which means what I just said. Whereas a non qualified mortgage, they're not trying to check those boxes. They're not claiming that it's a paper type loan. So those ones can be interest only for the first 10 years, for example. Those exist.

Okay, so what you're talking about, Kris.

Is interesting because it's kind of the.

Background of the mortgage business. And I think it's important for consumers to understand this. When you're saying the qualified mortgage, the QM mortgage is where you check the boxes that it's Dodd Frank compliant, for example, and Dodd Frank is this 2,300ish page bill that's extremely complicated. And Bernie Frank and Chris Dodd were the main proponents of it. And we all remember this coming out of the Great Recession mostly. And when it's a QM mortgage, you say the lender has some insurance. What you mean is when they sell that loan off into the secondary market, whether or not they're going to have a buyback risk. Right. Is that what you're ref.

Not quite. So what you're talking about is whether or not it conforms to Fannie Mae guidelines. All Fannie Mae loans are qualified mortgages. Not all qualified mortgages are Fannie Mae loans kind of like every square is a rectangle, but not every rectangle square. Perfect.

Okay.

So generally speaking, if it is a qualified mortgage, that just means that, you know, if someone sues you or alleges predatory lending, the court's not going to start by frowning at you and thinking you're doing some shady. They're going to start by assuming you're acting in good faith and the onus will be on potentially the person suing you to demonstrate that you were not acting in good faith, that you did this fraudulent thing or you lied about this or you lied about that. If it's a non qualified mortgage like your, your position in that courtroom, in the eyes of the courtroom is going to be more disadvantageous the second you walk in there.

Much and so much more risky if the lender is ever pulled into court. Right?

Correct. Correct. So a standard QM agency mortgage example would be a Fannie Mae 30 year fixed or an FHA 3.5% down 3 year fixed, whatever the case may be. And other loans that are not agency, they're not backed by Fannie, they're not backed by fha, but they're still qualified mortgages, they're still terms of more than 30 years, they're still documented income, they're still, you know, have the nor DTI restrictions and all that stuff. You just can't sell to Fannie Mae, which means you might portfolio that loan on your books. But to make things even more complicated, that exists on the non QM side as well. There are people that will do a non QM loan and portfolio it. Most hard money loans are examples of that. You follow?

Yep, yep. Yeah, I'm a hard money lender so I'm definitely not doing QM loans.

There's another bucket of non QM loans that are the ones that you mentioned earlier are their interest only loans. There are institutions doing these non QM loans that have found people on Wall street that will buy that loan. So Fannie is not going to buy but Wall Street.

Do you have any stats or a sense of how much of the market is qualified and how much is non qualified?

I don't have a statistic or I don't know the source that I'm sure it exists, but just my feeling from doing it is that mortgages over 90% are going to be qualified mortgages that are actually happening.

Okay, we kind of lost you, so I'm just going to repeat that for you that your sense of it is 90% or more are qualified mortgages. So that's the vast majority of the market, obviously. Good stuff Chris. Give out your website and tell people.

Where they can find you.

Check my phone number is 415-846-9211 and my website is www.eastbaysmortgagebroker.com. that's East Bayes with an S at the end of their possessive S. You know the mortgage broker of the east base. East Bayes mortgage broker.com Good stuff.

So EastBays mortgage broker.com Chris Mason thanks for joining us.

Hey, no problem. Have a good day.

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