We have put together a list of 50 essential real estate terms, and simplified them. This blog post covers terms from A to D.
How often do you find yourself explaining real estate terms to your clients?
If you’ve been working as a real estate agent for a while, it’s safe to say that it’s been a lot. As frustrating that can be at times, it's actually a good thing to get these kinds of questions. Not just because part of your job is to educate your clients, but also because by answering questions, you prove your expertise and make your clients feel more confident in your abilities.
But wouldn’t it be great if explaining real estate terms were a little easier, and you had a concise guide that explained some of the most important real estate terms in simple terms?
If so, good news! We’ve put together a list of some of the most common and important real estate terms your clients often ask about. That way you can send this list to them, or use it to refresh your own memory as needed (or maybe even learn a few new terms yourself).
Let’s get started:
1. Absorption Rate
In real estate, a market’s absorption rate refers to how quickly the market absorbs or gets rid of its housing inventory. In other words, how quickly the current inventory gets sold off.
The absorption rate is an important metric for real estate agents and clients because it can provide a snapshot of the current state of the current real estate market and give you a good idea about how hot the market is, how quickly you can expect to sell a new listing, and whether right now it the right time to sell a home.
The market's absorption is calculated by dividing the number of homes sold in a specific period of time (such as the last 6 months) by the total housing inventory in a given area.
Let’s say that your city has 3,000 homes for sale. If home buyers purchase 500 homes per month, the absorption rate is around 16% (500 sold homes divided by 3,000 home inventory).
Traditionally, an absorption rate above 20% indicates a seller’s market, while a rate below 15% indicates a buyer’s market. And between 15 and 20% indicates a balanced market, where neither buyers nor sellers have an advantage.
2. Adjustable-Rate Mortgage (ARM)
An adjustable-rate mortgage is a type of mortgage whose interest rates vary throughout the life of the loan.
Most ARM mortgages’ interest rates start out as fixed for a certain amount of time. After that, the interest resets periodically at a certain period of time, which could be yearly, bi-yearly, and even monthly.
The most important feature of an ARM are:
- Initial interest rate: The ARM’s initial interest rate.
- Adjustment Period: The length of time in which the ARM’s initial interest rate remains fixed. This period varies from lender to lender. But at the end of it, the ARM’s interest rate is recalculated periodically (usually monthly).
- Index: The index that the lender uses to adjust its interest rates. Indexes vary from lender to lender, but some of the most commons are the maturity yield on one-year treasury bills, the 11th District Cost of Funds Index (COFI), and the London Interbank Offered Rate (LIBOR).
- Margin: The percentage points that lenders add to their index rate in order to calculate the ARM’s actual interest rate.
- Interest rate caps: The limit to how much the interest rate or the monthly payment can be adjusted each time the interest rate is recalculated.
- Initial discount: A promotion that many mortgage lenders offer at the beginning of an ARM. Many times the initial discount offers interest rates below the average rate for a limited time in order to attract more clients.
- Conversion: A clause that allows borrowers to convert their ARM into a fixed-rate mortgage at fixed points throughout the length of the ARM loan.
3. Addendum and Amendment
There are times during a transaction in which some issue comes up that may make it necessary to make changes to the contract. Either because of previously undiscovered issues (but hopefully not undisclosed on purpose) with the home rear their ugly head (such as a leaky roof), or other reasons.
If this were to happen, the seller’s agent would have to add an amendment (or change) to the contract. This amendment is usually a page long, and refers to the original purchase and sale agreement, and needs to be signed by both the buyer and seller.
On the other hand, an addendum is an addition to the contract. This could happen when, say, the buyer wishes to keep the seller’s furniture, light fixtures, etc.
Addendum = Addition to contract.
Amendment = Change to contract.
Of all real estate terms in this list, this is probably the most beneficial to buyers. Amortization is the process of spreading a loan payment over an extended period of time, by scheduling monthly (or bi-monthly) payments. These regular payments are split into two main portions: principal and interest payments.
By spreading loan repayments over a long period of time, amortization allows the majority of us to buy goods we otherwise couldn’t afford, such as homes, new cars, etc.
In the case of mortgages, the amortization period is typically between 15-30 years, though longer and shorter amortization periods are not unheard of.
Appraisal refers to the process of calculating the real market value of a piece of property by a qualified expert. The main objective of an appraisal is to help lenders determine the real value of a home in order to not lend the borrower more money than necessary.
If the property’s value appraisal is lower than what the buyer offered, the lender could ask the borrower to cover the difference himself.
Assessment in real estate is a process almost identical to an appraisal in that both terms refer to a calculation of a property’s value. But the main difference is that an assessment is done by the local government, primarily to calculate a home’s value for property tax purposes.
7. Balloon Mortgage
A balloon mortgage is a short-term loan, usually between 5 to 7 years long, that has an initial period of low or no monthly payments. However, at the end of its term, the borrower is required to pay off the full balance in a single lump sum.
The monthly payments typically have a very low-interest rate, and sometimes the borrower only has to pay the interest.
This type of loan is usually used by home flippers, construction companies, and investors who rely on year-end bonuses for the majority of their income.
8. Breach of Contract
A breach of contract happens when either the buyer or seller violates any of the terms or conditions of a binding contract.
This breach could range from something relatively minor such as being one day late on a payment to something series such as not delivering an asset, completely halting payments, etc.
9. Buyer’s Agent
As its name suggests, a buyer’s agent is a licensed real estate agent that focuses on representing a home buyer’s interests during a real estate transaction.
A buyer’s agent responsibilities include negotiating the best possible price for a home, securing the best terms, researching the home’s neighborhood and the surrounding area, making sure the home has been thoroughly and properly inspected, and facilitating the buying process for their client.
10. Buyer’s Market
Whenever a housing market has a larger housing supply than demand for an extended period of time, causing buyers to have the upper hand in price negotiations, we can say that the market is a buyer’s market.
A closing is the final and most crucial step of a real estate transaction. During a closing, the property title passes from the seller to a buyer, all participants review, authorize, sign and date a number of legal documents (which vary from state to state).
Once the ownership of the property is successfully transferred from seller to buyer and the escrow company pays all relevant parties, then the buyer will be able to start moving in and/or begin renovating their new property as he/she sees fit.
12. Closing Costs
A real estate transaction’s closing costs are all the expenses that take place in the home purchasing process, beyond paying for the property's agreed-on price tag.
These closing costs include (but not limited to) loan origination fees, appraisal fees, title insurance, taxes, credit report charges, etc.
While there is no official enforceable law that determines which party pays for which closing cost, traditionally the buyer is expected to pay for any mortgage origination fees, while the seller pays real estate agents’ commissions and other fees related to the transfer of property.
But just like the listing price is negotiable, who pays for which closing costs can be negotiated as well.
In real estate, the commission is the real estate agents' fee for providing their services to buyers and sellers.
In a typical real estate transaction, the seller agrees to pay a certain percentage of the home’s sale price to the seller’s agent.
The seller agent then offers around half of that commission as an incentive to a buyer’s agent that brings a qualified buyer.
A commitment letter is a formal, legal and binding document that a lending institution gives to a borrower as proof of an agreement to loan him/her a specified amount of money to purchase a home or property.
This letter contains all the terms and conditions of the loan, including the interest rate, index, repayment terms, closing conditions, etc.
The main purpose of a commitment letter is to let the applicant know that his/her application has been fully processed, and the funds are available to the applicant. But in order to have access to those funds, the borrower must meet all the terms and conditions outlined in the commitment letter.
This commitment letter can be used by the borrower to prove to the seller that he/she has access to enough funds to purchase the home, and will be able to close the transaction within the agreed-upon period of time.
15. Common Areas
Commons areas are amenities that home and apartment owners in a gated community, apartment complex and other multifamily complexes have collective access to.
These could include gyms, lounge areas, golf courses, pools, community gardens, basketball courts, and parking lots.
Comparables (commonly referred to as “comps”) are homes that were sold recently in the area around a property being evaluated.
Comps are used in home valuations to get a fair value estimate of how much the market is willing to pay for the home being sold.
Comps are used both by individual real estate agents doing unofficial property assessments, as well as by professional property appraisers.
17. Comparative Market Analysis
A comparative market analysis is the process of using comparables properties to calculate how much the market is willing to pay for a home.
Since no two properties are exactly the same, and many factors can affect the price of a property, a market analysis must account for those differences (such as location, age, amenities such as a swimming pool) when coming up with a price estimate.
There are times when a real estate transaction doesn’t go quite as planned, or a homeowner faces economic difficulties, health problems, etc. after purchasing a home.
These unfortunate events are called contingencies.
To plan for contingencies, home buyers are recommended to set aside a certain amount of money as a cushion in case of emergencies.
Real estate agreements can include contingency clauses in case something goes wrong during the buying process. That way buyers have the right to back out of the deal or demand certain amendments to be removed or added into the contract.
A counteroffer is a rejection of the homebuyer's original offer, which is then replaced with another offer by the home seller.
This counteroffer gives the buyer three options: accept the counteroffer, counter the counteroffer, or reject it altogether.
20. Debt-to-income ratio
The debt-to-income (DTI) ratio is a metric used to measure a person’s ability to repay their loans. This ratio takes the amount a person’s gross income goes towards paying off his/her debt each month and divides it by their gross income.
The DTI metric is commonly used by mortgage lenders as part of their algorithm to determine whether to give out a loan or not.
21. Deed and Title
Deed and title are terms that are often used interchangeably in everyday speech, kinda like car and automobile.
But legally speaking, there’s a significant difference.
"Title" is legalese for the concept of ownership. A person can hold title (or ownership) over tangible goods such as a home or car, or intangible ones, such as a patent, a business idea, a song, etc.
A deed, on the other hand, is a legal document that gives evidence of a person holding title of a piece of property.
In everyday speech, the word depreciation is used to describe a good, such as a car, losing value over time due to the normal wear and tear of usage.
Depreciation is typically considered negative since it implies a loss of value. But in real estate investment, depreciation could actually be beneficial.
Structures, appliances, toilets, sinks, cabinets, and pretty much everything attached to a piece of property (with the exception of the land itself) depreciates as time goes by.
Many states allow the owner of a property to take a tax deduction to offset the property's normal depreciation. But if the property is an income-generating investment, such as an apartment building, the value of the investment itself APPRECIATES over time (as yearly rent increases take place).
Thanks to the property's depreciation tas deduction, the owner of the property pays fewer and fewer taxes as time goes by, while at the same time their property's cash flow increases.
A seller disclosure is a document provided by a home seller to a home buyer that lets the buyer know (discloses) known issues with the property, it's immediate environment (such as air and sound pollution), historical property maintenance requirements, and other factors required by law to be disclosed.
24. Down Payment
A down payment is a one-time payment made in cash, required by a financial institution before releasing funds for the purchase of an expensive good (in the case of real estate, a property).
This down payment is typically a certain percentage of the entire purchase price. For example, many homebuyers make a down payment between 3-25% of the total value of a home, while the bank covers the rest of the cost.
25. Dual agency
A dual agency is a situation in which a real estate agent or broker represents both the buyer and seller.
Dual agency is prohibited in many states due to the inherent conflict of interests it causes for the agent. It’s often frowned upon even when the law allows it, since the agent can’t possibly push for the best interests of either client, without sacrificing the best interest of the other.
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