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February 2011


There are two reasons a potential home seller might balk at selling his house in a down market. First, if the value of the house has decreased past the amount he owes on the mortgage, he’s underwater, and would owe money to the bank after he sells. But even if he has paid off the house, the fear of taking a loss might stop him in his tracks, even if it’s only a loss on paper.

For example, if he purchased the house for $200,000, at the peak of the market, he determined the house value was probably $800,000, and comparable homes are now selling for $400,000. Putting the costs of owning and living in a house aside, he would have a real gain of $200,000, but it feels like a loss of $400,000 from a theoretical peak.

The brain over-emphasizes the effect of a loss, and we are wired to avoid losses if possible. Many home sellers sell their current home at the same time they’re buying another. On average, the disadvantage one has as a seller is offset by the advantage one has as a buyer at roughly the same time. This is why the real estate market is slow to recover, however. People believe the myth about the great financial returns of real estate and rather than sell when they need to, they hold on until they can report that their home ownership was financially successful.

A recent article on NPR’s Planet Money illustrated loss aversion through a coin toss where the winning and losing scenarios were slightly different.

I recently visited Eric Johnson, a professor at Columbia’s Business School. He offered me a sweet bet on the flip of a coin. If the coin came up heads, I would win $6. If it came up tails, I would lose $1. I told him I’d take the bet. But then he changed the terms — if the coin came up heads, I would win $6. If it came up tails, I would lose $4. That bet I didn’t like.

Of course, this is irrational. The bet is still very much in my favor. If I took the bet 1,000 times, I’d almost certainly make a nice profit.

I think the key here is that over time, we know a coin toss will revert to positive performance 50% of the time. Although the overall probability remains the same when you look at one coin toss, there is no time for performance to even out. There is still the chance of losing $4, and it’s a good chance. It’s the same with selling a house. You don’t have the opportunity to sell houses over time so your performance reverts to average.

One problem with this analogy is that while the results of a coin toss are random, your selling price, while perhaps not exact, is relatively well-defined. You know going into the transaction whether you have a paper loss or a gain. While clinging to a house longer than necessary in a market that has fallen is avoiding a guaranteed loss (real or paper), choosing not to take a 50/50 bet when the losing outcome seems too painful is avoiding merely the chance of a loss.

There is also the assumption that the coin toss isn’t rigged. If I offered you the opportunity to win $5,000 if the coin I toss lands on heads or to pay me $4,000 if the coin I toss lands on tails, first you’d ask yourself why I would even offer such a bet. You would consider whether I knew something about the coin that you didn’t know.

I’m sure home sellers often think the real estate industry is rigged. In fact, it is — real estate brokers are the real winners, because they can take a piece of every sale regardless of whether the seller wins or loses. They also have a lobbying group that ensures a favorable environment for real estate transactions.

Would you wait to sell a house at a time when the market is more in your favor, even if it means buying a new house when you’d have to pay more than you would today?

NPR

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Today’s guest on the Consumerism Commentary Podcast is Dr. Doug Hirschhorn, author of 8 Ways to Great: Peak Performance on the Job and In Your Life. Doug and podcast producer Bryan J Busch discuss goals, risks, and what it takes to be successful, based on Doug’s observances through his unique background.

8 Ways to Great is available in the Consumerism Commentary store.

Consumerism Commentary Podcast #97
8 Ways to Great: Peak Performance on the Job and In Your Life: S04E19 / 122

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Table of contents

[00:00] Introduction from Bryan J Busch
[00:39] Interview with Dr. Doug Hirschhorn
[00:54] Doug’s path from baseball, to stock trader, to performance coach
[05:51] Who is 8 Ways to Great for?
[06:11] The upside and downside of strengths and weaknesses
[08:42] Resources for people who are bad at assessing themselves
[09:31] How does a person improve if they’re not competitive?
[10:35] Setting more effective goals with the CHAMP system
[13:18] Punishment and positive reinforcement
[14:30] How to make more objective decisions by using risk/reward analysis
[16:15] Women are hard wired to be better risk-takers
[18:38] It’s not just about the odds of winning or losing
[21:06] Baseball from a philosophical perspective
[22:16] End

We always welcome feedback from listeners. If you have any comments for this episode or for any other, or if you have suggestions for future episodes, please leave us comments here or email us at podcast at this domain name.

Theme music by Mindcube.

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While the most familiar credit cards come from big-name issuers like Capital One, Chase, American Express, Citi or Bank of America, some of the better offers come from less familiar banks. First National Bank of Omaha (FNBO) is one of the oldest and highly respected banks in the United States, known to Consumerism Commentary readers for their FNBO Direct Savings Account. This bank currently offers a credit card that rewards cardholders with cash back, a low interest rate, and a solid introductory offer. The First National Bank of Omaha Maximum Rewards® Visa is a decent overall credit card, requiring excellent credit for approval.

Consider the First National Bank of Omaha Maximum Rewards® Visa a rewards credit card because it offers cardholders one point for every dollar spent no matter what you spend your money on or how much of it you spend each year. Cardholders can redeem points for a variety of rewards including cash, and there is no limit to the amount of points you can earn. As long as you remain an FNBO cardholder with an account in good standing, your points will never expire.

All cardholders will receive a 0% introductory APR on balance transfers for 12 months and on purchases for six months, which allows for interest free spending and payments. There is a balance transfer fee of 4% during this introductory offer. The standard APR, which will be applied after the introductory period has expired is a variable rate between 11.99% and 19.99%, based on the applicant’s credit history. The standard balance transfer fee is 5%. The APR for cash advances is 25.24%, but cash advances should be avoided.

The First National Bank of Omaha Maximum Rewards® Visa does not have an annual fee, making it attractive to all types of cardholders. This offer might not blow you away in terms of rewards but it’s a straightforward, no nonsense credit card with a standard 1% return for cash back. Consider the First National Bank of Omaha Maximum Rewards® Visa the next time you’re in the market for a new credit card.

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The decision of whether to buy a house with cash or take out a mortgage may be one that most people never have to face. For the most part, American society is comfortable with the idea of going in debt to buy a house for two reasons. First, the value of a house is expected to rise over time, and second, if debt was not available for buying a house, many families would never be in a financial position to own.

If you are blessed with cash available to purchase a home without the help of a lending institution, should you do it? There are certainly many advantages of buying a house with cash, but some disadvantages as well.

Cash advantage #1: no hassle. The process of qualifying for a mortgage is a hassle, even if you show you have significant assets and income available. You need to have established credit for a lender to be able to evaluate its risk in you, but with cash, you are no risk. You save time with paperwork and, in theory, the purchase process will be faster. For a seller, a buyer who presents cash may have an advantage over those who are tied to a mortgage lender’s involvement.

Cash advantage #2: less expensive. You might be able to negotiate a better purchase price when you have cash to show, but there are many other areas you can save money. Closing costs might be less, and without a mortgage you don’t have to worry about paying points. Over time, the bulk of the savings comes from interest. On a $250,000 mortgage at 7% over 30 years, you could pay almost $350,000 in interest. Pay $250,000 up front and save your money.

Cash advantage #3: no payments in retirement. With thirty-year mortgages being the norm, families who wait before buying a house may find they’re still have a balance to pay their lender by the time they retire. During retirement, income could be significantly reduced, making those mortgage payments more difficult to pay. Those with a mortgage should do what they can to eliminate payments before retirement, but if you pay cash, you never have to worry about changes in your future income affecting your ability to hold onto your home.

Cash advantage #4: you’re not a slave. I don’t fully subscribe to the idea that debt is slavery, but when you owe money to someone else, you certainly lose some of your freedom. For example, a Philadelphia homeowner was notified by his lender, Wells Fargo, who may no longer even own the mortgage due to securitization, to increase his insurance policy to covered the full replacement value of his home rather than the house’s market value. The charges would have added $500 to his monthly bill. Although the owner might be able to fix the situation, without a mortgage, Wells Fargo wouldn’t have been harassing him.

Mortgage advantage #1: bigger financial reward. It comes with risk, but if you’re planning to stay in house for several decades, and you do stay, your financial gains could be greater if you finance the purchase. If after ten years the value of the house increases by $200,000, all that increase belongs to you even if you don’t own the home outright. You could even cash out that increase if you need the money for some reason. The other size of this is that if the value of the house decreases, you are on the hook for that loss, and in many circumstances, you could end up underwater, owing the lender more than your house is worth.

Mortgage advantage #2: afford a bigger or better house. Even if you have the ability to buy a house with cash, you may still want to choose a mortgage. If you expect to have more cash on the way, you can use your current assets to help you afford a much bigger home, if that is something that is important to you. With $400,000 cash available today, for example, you could either buy a home without a mortgage or use a portion or all of that cash for a down payment and closing costs. As long as you expect more income in the future to pay for the mortgage payments, you can use today’s cash to your advantage.

Mortgage advantage #3: get tax breaks. Yes, it’s true that at least as of today, there is a tax deduction for mortgage interest. This isn’t as great a benefit as most people believe, however. You get back only a portion of each dollar in interest you pay, and the benefit is limited by income. Even with a middle-class salary, you might be prevented from taking this deduction. Of course, if you pay cash for a house, you pay zero interest, which is much better than paying interest and getting a portion of it back from the government.

Mortgage advantage #4: diversification of assets. Just having the cash to spend isn’t the only consideration. If the house you want costs $450,000 and you have $460,000 in cash ready to go, you will be left with only $10,000 for all of your other savings needs, including an emergency fund. Using all of your cash to buy the biggest house your money can by is putting all your eggs in one basket. If you have enough cash so the home purchase only requires a portion of your assets, you may still consider your financial condition safe, but once you shift all your liquid savings into an illiquid asset like a house, you may have trouble getting cash when you need it.

Would you jump at the chance to pay for your dream home with cash, or would you consider taking out a mortgage even if you have cash available?

Photo: bfishadaw

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Bank Branches Abandon Poor Communities

by Luke Landes

Whether banks are still dealing with the effects of the 2008 financial crisis, merging with other institutions, or taking advantage of increased automation opportunities, brick and mortar bank branches are closing more frequently than new locations are opening. According to the FDIC, 2010 was the first year in fifteen years that the balance tipped in ... Continue reading this article…

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Citi Forward® Card Review

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While it may sound counter-intuitive for a credit card issuer to promote responsible spending and credit usage, Citi has decided to provide a credit card with this approach. The Citi Forward® Card is unique in that it rewards cardholders for making their credit card payments on time as well as staying within their credit limit. ... Continue reading this article…

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Kraft Downsizing or Protecting Consumers?

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In last Sunday’s Consumerism Commentary Podcast, our guest from Consumer Reports, Tod Marks, talked about product downsizing. With commodity prices rising, companies — particularly food product companies — are trying to determine how they can cover their increasing production and distribution costs without losing their competitive edge. In order to maintain the same price point, ... Continue reading this article…

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Giving Your ZIP Code to Cashiers

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One of my first jobs as a teenager, twenty-some years ago, was a salesperson at Radio Shack. Our point-of-sale system functioned on phone numbers for some reason, so whenever a customer wanted to purchase something, we asked the customer for his or her phone number. Even if the customer was buying a pack of AA ... Continue reading this article…

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The Most Expensive Credit Cards

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American Express Centurion

It rarely makes sense to own a credit card that charges an annual fee. I own one credit card that charges an annual fee after the first year — Continental Airlines OnePlus Card which was replaced by the United MileagePlus Explorer Card– and I might cancel before they charge my first annual fee. Even if ... Continue reading this article…

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9 Ideas for Spring Break

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My girlfriend is a teacher who never takes days for vacation, so we schedule our time away from our regular lives over the summer or during one of several of the breaks in her academic calendar. I do my best to design my schedule around hers; when I worked for a corporation, I requested vacation ... Continue reading this article…

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H&R Block Online Tax Filing Review

by Luke Landes
hrblocka

This is a relatively long review of H&R Block’s online tax preparation and filing service. H&R Block has provided Consumerism Commentary with six coupon codes for H&R Block Premium Edition, the most complete service offered by the company. If you haven’t filed your household’s tax return yet, chances are taxes are on your mind. If ... Continue reading this article…

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Podcast 96: Product Downsizing and The Death of the American Investor

by Luke Landes

The first guest on today’s episode of the Consumerism Commentary Podcast are Tod Marks, senior project editor at Consumer Reports and author of the Tightwad Tod column. Host Bryan J Busch talks with Tod about consumer product downsizing and price increases in 2011. After the break, Bryan speaks with Nico Willis, author of Death of ... Continue reading this article…

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My Business Bank Accounts: Checking and Savings

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The economic environment is still not great for savers. Those who were smart or financially stable enough to have emergency funds and other savings accounts have been rewarded with low interest rates for the past few years. Take a look at these historical interest rates to see how low we’ve come. The good news is ... Continue reading this article…

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Federal Taxes on Bonus Pay

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With the holidays approaching, many companies are preparing their bonus checks, and employees who are looking forward to their bonuses are concerned about tax consequences. I gave up this “extra” part of my corporate pay for the benefit of working for myself when I left my day job last year. If this year were anything ... Continue reading this article…

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PenFed Premium Travel Rewards American Express® Card offers Bonus Points

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The most important thing to evaluate when shopping around for a travel rewards credit card is the quality of the rewards program, particularly when compared to other similar cards. The best travel rewards cards offer much more than the typical one cent per point conversion rate. It’s also important to look at the pricing in ... Continue reading this article…

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Tax Tips When Looking for Work is Your Job

by Leigh Mutert

About the author: This is a guest article written by Leigh Mutert, CPA. Leigh is the manager of the H&R Block Get it Right Community, a blog that focuses on breaking down complex topics for taxpayers, and the manager of social media, corporate relations for H&R Block. Leigh was a recent guest on the Consumerism ... Continue reading this article…

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Are You Better Off Than Your Parents?

by Luke Landes

It’s hard to compare myself with my parents. When they were my age — I’ll be thirty-five years old less than a month from now — they had two children, and the four of us were living in an apartment in upstate New York. I’m not married and I have no children. My father studied ... Continue reading this article…

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Discover More Card 18 Month Balance Transfer Offer

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When companies compete for the business of consumers, consumers are often the winners. One company presents a new offer to win customers, and other companies have no choice but to follow suit if they want to compete. Companies within the credit card industry has been quick to respond to competing offers. I’ve been following the ... Continue reading this article…

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How to Be a Good Boss

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Bad bosses come in many flavors, and they’re usually easy to identify. There was the workaholic who worked in the office until 3:00 AM every night, falling asleep as his desk, and expects everyone else to stay, as well. There was the micro-manager who didn’t communicate with his employees. There was the director who delegated ... Continue reading this article…

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Your Credit Card Doesn’t Love You

by Luke Landes
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Happy Valentine’s Day! That’s the message from Consumerism Commentary today. By my home office in central New Jersey the mid-50-degree weather is a welcome surprise, and I like sharing my resulting positive attitude. This isn’t today’s message from your credit card company, however. Several people have written to Consumerism Commentary today to let us know ... Continue reading this article…

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