You’re a shrewd home buyer.  You’ve waited for prices to fall and the competition to evaporate.  Now you’ve got the deal, and the price is half of what the seller paid for it.  You’ve won!

It’s true, you have made a smart purchase, and I’m not saying that patience hasn’t paid off.  But there is a strange little quirk having to do with property taxes that you need to be aware of, and it’s more painful if you have a loan that requires impounds for property taxes.

A Little Nostalgia

Remember back when homes were appreciating?  Your property taxes were always a bit higher than the last owner’s. Why?  Well, because property taxes are reassessed on sale and rise correspondingly.  Now, property values are falling and so should property taxes, right?  Eventually.  Property taxes are established a year at a time, and your purchase does not immediately alter the tax amount.  It takes the tax assessor’s office awhile to catch up and issue the Supplemental Tax bills with which new homeowners are familiar.

With all the property tax appeals submitted by homeowners whose values have fallen, California recently announced that until they are able to complete the reevaluation–and that could take up to a year–new homeowners must continue to pay the previously established property tax amount.  In many cases here in the Sacramento area, that’s several hundred dollars more per month than it will ultimately be.

The Effect on Qualifying

Following that ripple out to the edge of the pond, several things become evident.  First, lenders are starting to require that borrowers qualify with the higher tax payment in their debt ratios.  Second, if you have a loan that requires impounds for taxes and insurance–FHA, VA, and conventional loans with less than 20% down–both your prepaid closing costs and your actual monthly payment will also be higher.

To be sure, this will ultimately correct itself.  But it can cause some unpleasant hardship in the interim.  In extreme cases, it can result in foreclosure.  I recently spoke with a retired gentleman who is losing his home because his lender had raised his payment from $1300 to $1900 to compensate for incorrectly calculated property taxes.  He couldn’t make the higher payment and the lender, refusing to work with him, had started the foreclosure process.

An Ounce of Prevention

To correct for this problem, I have recently started using the seller’s current property taxes in my loan calculations.  Despite this, the escrow officers often reinstate the incorrect numbers at the close of escrow.  So, keep an eye on this to make sure you can temporarily afford the higher payments, and make sure your loan officer knows enough to plan for this so that your loan isn’t declined at the last minute because your debt ratios suddenly went tilt.

“You only have to do a very few things right in your life so long as you don’t do too many things wrong,”  -Warren Buffett