Equity Vs. Liquidation Value

20130113-202631.jpgOne consequence of the real estate crisis that slammed the US (and hit our area particularly hard) was a collective consciousness of what it means to be “underwater”. People who had never heard the term “underwater” in reference to anything other than where they’d be able to cool off after their swimming pool was built now had a sudden understanding of what “underwater” and “negative equity” meant.

Yes, it was a painful lesson for many to learn – and you would think that there’d be a silver lining in terms of public’s the increased awareness of their home’s market value and mortgage balances, along with the rest of your financial picture.

But sadly, I’m just not sure that’s true.

A recent encounter with a casual acquaintance, we’ll call her A, made that all too clear. A is a friend of a friend and she’s been trying to figure out a way to get out of her house for the past few years. While she managed to stay current on her mortgage, she was forgoing a lot of other saving (and spending) that she’d much rather have been doing. But finally, she feels like she can breathe. She’s got an out. Her home’s value on Zillow is finally the same as the remaining balance on her mortgage. I believe her exact words to describe the situation were:

“I’m so glad I don’t owe anything anymore.”

She’s just an acquaintance, so it wasn’t my place to do a whole lot else besides nod and murmur supportively, but here’s the conversation I wished I could have had with her.


Talking To Myself

Okay, A, I get that there’s bound to be a relief when you realize that between continuing to pay down your mortgage and the local market’s recovery in your neighborhood, you’ve clawed your way back from 40% negative equity. For those of you unfamiliar, that’s when you owe the bank 40% more than what your house could actually sell for. That’s huge, and I applaud you for sticking with it.

But just because Zillow says you’re at 0% equity in the house doesn’t mean you’re not going to have to bring any money to the table if you list your house for sale now. Let’s go through a few reasons.

1. Zillow Sucks

Zillow Zestimates are wrong a LOT of the time. And they often tend to be over estimates on homes where the owners might have been struggling the past few years. Why is that? Well, think about it. Since you’ve been struggling to pay the mortgage, have you deferred any maintenance projects around the house? Are you in need of a new roof? Replacement siding? How well do your storm shutters work? Any leaks that you’ve been putting up with rather than calling a plumber in? It’s natural when you want to be rid of your house to stop putting money into it. But if you’ve got any deferred maintenance, a buyer’s home inspector will surely find it, and the offer will probably be adjusted down to cover the cost of those improvements.

2. What Assessments Are Left On The House?

Water and sewer assessments costing thousands were put on many homes in your area of town 10-15 years ago as the water and sewer lines were extended. Are you still paying the assessment monthly on your water bill? Does that sound vaguely familiar? The thing is, even though it only looks like an extra $30 on your water bill every month, that’s actually a structured loan that’s not assignable. That means it’s a loan that you, the seller, will have to pay the balance on in full if you want to sell your house. Judging from some of the other assessments we’ve seen, it wouldn’t shock me if that’s about $3K that will need to be paid out from your side of the HUD ledger.

3. Realtors Aren’t Free

Realtor’s commissions come out of the gross sale price – so that means the seller foots the bill for BOTH realtors. Typical realtor’s commissions in our area are 3% each for the buyer’s and seller’s agent, so 6% total. On the $150K that Zillow says your house is worth, that’s $9K in realtor’s fees.

Let’s look at this now, A. If you manage to get an offer for Zillow’s Zestimate on your house, which might be a big if, you’re still looking at probably having to pay $12K out of pocket to close the deal. How’s that for “not owing anything”?


I guess you can see why I chose to keep my mouth closed when she announced her “exciting news”. After all, nobody likes hanging out with a Debbie Downer. [Yes, there are possibilities that A might be able to negotiate lower realtor fees or try a FSBO or see if her mortgage holder will pay off the $3K water assessment and forgive the same amount on her loan. But that is a much more complicated process, and what A was most excited about was that she no longer needed to negotiate with a bank…]


Equity ≠ Liquidation Value

What A was missing is that equity is not the same thing as liquidation value. They are related, because:

Equity – Transaction Costs = Liquidation Value

But the higher the transaction costs, and RE in general has some pretty high transaction costs, the less your equity is going to accurately reflect the liquidation value of your asset.

We don’t talk about liquidation value much here at PoP because most of our assets are either long term holds (so the transaction costs are years in the future) or have very small transaction costs relative to the asset’s equity. But if your time horizon is different from ours, don’t forget about transaction costs. It might be an unpleasant $12K surprise like the one I fear that A might facing.


Do you actively think about the liquidation value of your assets, or do you mostly focus on equity like the PoP’s? Why?



28 comments to Equity Vs. Liquidation Value

  • It amazes me how little people know about closing on their house. How do they think that realtors make money? And you’re right…Zillow sucks. By no means would I ever judge the value of any of my properties by Zillow.
    Greg@ClubThrifty recently posted..4 Ways to Save Money in the New YearMy Profile

    • What’s so odd about it is that in order to have a house to sell, they had to go through the closing process as a buyer… So it shouldn’t be a complete surprise!

  • So if you don’t use Zillow, but you still want an approximation for figuring out your net worth, what do you use? It seems unreasonable to get comps every tine you figure out your net worth.

    • I maintain a comps spreadsheet and update the value every 6 months or so or if there is a defined trend.

      Once you set up a spreadsheet, it’s easy to maintain adding the recent sales to it by subscribing to a (free) service like ePropertyWatch. I get an email every time there’s a home sale in our neighborhood, and if it’s an appropriate comp, I add it to the spreadsheet. It takes maybe 5 minutes.

  • I focus on equity as well because I have no intention of selling my place, even if I buy another one–I want to hold it as an investment property for as long as possible!

    I’m also pretty much horrified by how little some people know about their homes and equity–it can be pretty mind-boggling!
    The Happy Homeowner recently posted..Yes, My Boyfriend is Paying Me RentMy Profile

    • We’re pretty sure if we ever move from our home we’d rent it out, too.

      It’s crazy, but I think her basic viewpoint isn’t that uncommon.

  • Jonathan

    I’m curious…by “I’m glad I don’t owe anything anymore,” did she mean she believed that getting back to neutral equity was equivalent to paying off her mortgage?

  • I only put the equity into my net worth. I know the value of my property is up but haven’t updated as I’d rather have a low number. Your friend’s comment is weird, that she thinks she doesn’t owe anything, maybe she won’t lose that much money on a short sale but chances are she would still sell under that amount.
    Pauline recently posted..13 money resolutions for 2013: #7 Make more money!My Profile

    • Short sales have been tricky around here, too. Technically we’re in a recourse state – so they’re harder to get to closing, which was one of her “reliefs” that she didn’t have to do that to get out of the house.

  • Ivy

    Zillow has an excessively high value for our home. If I had trusted that value I would have never disputed our property taxes – something that saved us $1000 a year. Comps are the way to go, though I think 6-month tracking is a bit obsessive unless you plan to sell soon.

    I put equity (conservatively estimated) in our net worth, but if we were to sell I would come up with liquidation value estimate, it’s common sense.

    What you wrote about water and sewer assessments is interesting – my impression was that these are annual or bi-annual estimates that are paid as fees (quarterly in our case). I haven’t heard of these being structured loans that you owe regardless of when you buy or sell. Is this something that may differ by state and provider (e.g. if you had very high infrastructure investments in Florida)?

    • For our properties, Zillow has traditionally jumped around A LOT. (It also doesn’t realize our duplex is a duplex, which makes it’s estimate there weird.)

      As for the 6 month tracking, when our values have been changing so drastically, it’s a nice mental check-in every 6 months for me. But it really takes almost no time to do when you’ve got a spreadsheet that gets updated with recent sale alerts.

      Maybe our area is unusual for the assessments, but think of them like impact fees. When a developer is developing an area, they pay the city (and utility companies) impact fees to extend service to the area. But in this case, the sewer lines were extended to the area well after the developer was out of the picture, so each individual property owner pays their own “impact fee”, which we always just call assessments. There was a big expansion of sewer utilities in this area during the late 90’s-early 2000’s that people are still paying off. And controversially, a nearby city has been fighting a sewer expansion that was planned and approved during the boom, but when it came time to do it and home values had dropped by 50% or more residents were freaking out.

      The amount of the assessment varies depending on the lot size, but a typical home will have ~$6-$8K in fees, which they can either pay when the sewer line gets extended to their house, or they can finance it, usually into a 15 or 20 year term at rates ~ prime + 2%, which you pay off on your bill. But it’s somehow tied to you AND the house, so if the house changes ownership, you can’t just sign over the remainder. It’s got to be paid in full.

  • “I’m so glad I don’t owe anything anymore.” She really said that? ohdearohdearohdear…

    Zillow (like your friend of a friend) is full of beans.

    In our parts, Zillow tends to under- rather than to over-price properties. One way or the other, it’s usually wrong.

    Also here in the Wild West, I never heard of the city assessing for water, sewer, and street improvements. The city dings us every month for sewer maintenance — it’s part of the water bill. And the streets, I think, are paid for by local taxation. If you’re unfortunate enough to live in a homeowner’s association, however, HOAs do occasionally assess owners for maintenance and improvements to common areas, including the privately owned streets. That’s one of several reasons I wouldn’t buy in an HOA on a bet.

    One good way to get an idea of what your home is worth is to ask a real estate agent to run the comps. They’ll usually do it for free.

    The realtor’s fee is only one of a whole slew of nicks and gouges you’ll pay in closing costs on the sale of a house.
    Funny about Money recently posted..Totally Tubuler ICE!My Profile

    • Like I was saying to Ivy, maybe this is unique to our area and I just never realized it since it’s so darned common here. There were a lot of areas that got built out and developed with just wells and septic tanks initially, but as more people moved in, the utility realized it would be worth their while to service the areas. And since the developers were out of the picture, each individual property owner got dinged for the “impact fee”/assessment.

      But it’s really common:
      – Our duplex has public water, but not sewer – other areas nearby have both or neither.
      – Our home has an unused septic tank somewhere under the front yard from the days before the sewer lines were extended to our street. (I dream of turning it into a cistern someday…)
      – And while it’s not an assessment (that was paid off at close), we do pay monthly for the privilege of having the water and sewer lines run past the empty lot we own. (I think those would be the maintenance fees that you have…)
      But none of these properties have HOAs, in fact, sometimes the HOAs confuse matters, too.

      Everyone in Mr. PoP’s parents’ HOA got stuck with a bill (~$1K? 2K? per house!) a year or two ago for impact fees from the water/sewer utility that the developer had “deferred”. But when the developer sold to the HOA, it neglected to mention that they should expect a bill in 10-15 years.

  • Are there still tons of foreclosures on the market there? That would drive down any value she might expect. No one is going to pay market for a house with a foreclosure for sale down the street unless she has done some pretty amazing finishes. I do feel sorry for those who stuck with it and didn’t walk away when home values dropped, but now they are stuck holding the bag with all the ones that did walk away on the market.
    Kim@Eyesonthedollar recently posted..Improve Your Attitude: Turn Negatives Into PositivesMy Profile

    • There are still some foreclosures, but not the way they were. There are still some people trying to negotiate short sales, but it’s increasingly returning to a “normal” RE market. But that doesn’t change the fact that a lot of the homes where people were struggling or considering walking away have big projects that they’ve been putting off. And buyers can definitely tell that when they make their offer.

  • We’re definitely not to the point of needing to buy a house anytime soon, but I do love to look at Zillow just to see what home prices are in various parts of the country. It’s good to know some of those numbers are just a ballpark, and I’ve seen homeowners comment on their own properties explaining why the number should be higher on Zillow. Great post!
    Cat Alford @ BudgetBlonde recently posted..How to Sweet Talk Your Way Into First ClassMy Profile

    • I think Zillow’s pretty good with largescale trends like the stuff you’re looking at – but the homeowners commenting on why the Zillow value is off could definitely have merit! I’ve seen it both too high and too low at different times.

  • Life is about equity! Give me equity!

    Don’t write lines like “I’m glad I don’t owe anything” while I’m drinking coffee. Not great for my shirt….funny/sad commentary.
    AverageJoe recently posted..Hiring a Financial Advisor: Clues from the ReceptionistMy Profile

  • Thank you so much for this information. My husband and I are looking to purchase our first income property and I’ve been using Zillow’s estimates! Great post!
    Terah @ The Credit Report chick recently posted..How to Get a Free Equifax FICO ScoreMy Profile

  • This sort of story is exactly why I plan on putting down a very substantial deposit when I buy a place (in 5+ years). I have a few friends (some still at Uni!) who have put down 5% deposit on their homes. It is scary to think how much interest you’d pay, and how easy it would be for your mortgage to be underwater!
    Bryallen @ The Frugal Graduate recently posted..Is It Worth Selling Your Car?My Profile

  • Unfortunately ‘A’ doesn’t realize that Zillow value is different than market value. She might have a rude awakening when she tries to sell the house.
    liran @ ChooseTerm recently posted..Top 5 Reasons People Get Declined for Life InsuranceMy Profile

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