The Impact of Tax Reform on Real Estate

Cushman & Wakefield have posted The Great Tax Race: How the World’s Fastest Tax Reform Package Could Impact Commercial Real Estate. There is a lot of interesting insights in the report, notwithstanding the fact that ultimate fate of the Republicans’ tax reform is still a bit up in the air. Indeed, C&W estimates that there is a 1 in 5 chance that a bill will not pass this year.

Commercial Real Estate

C&W states that history

suggests that tax law changes by themselves are often not key drivers for transactions or for investment performance. However, there is likely to be a period of transition and market flux as investors restructure to optimize tax outcomes with implications for the underlying asset classes. Corporations are likely to separate the real estate aspects of their businesses. (2)

The commercial real estate industry is largely exempt from the biggest changes contained in the House and Senate bills. 1031 exchanges, for instance, have not been touched. C&W sees corporations being big beneficiaries, with a net tax cut of $400 billion over the next 10 years; however, they “anticipate that the tax cut will be preferentially used to return capital to shareholders or reduce debt, rather than to increase corporate spending.” (2)

Residential Real Estate

C&W sees a different effect in the residential real estate sector, with a short-term drag on home values in areas with high SALT (state and local tax) deductions, including California, NY and NJ:

The drag on home values is likely to be largest in areas with high property taxes and medium-to-high home values. There is also likely to be a larger impact in parts of the country where incomes are higher and where a disproportionate proportion of taxpayers itemize. Both versions of the tax reform limit property tax deductibility to $10,000. While only 9.2% of households nationally report property taxes above this threshold, this figure rises to as high as 46% in Long Island, 34% in Newark and 20% in San Francisco according to Trulia data.

The Mortgage Bankers Association (MBA) estimates that 22% of mortgages in the U.S. have balances over $500,000, with most of these concentrated in high costs areas such as Washington, DC and Hawaii—where more than 40% of home purchase loans originated last year exceeded $500,000. This is followed by California at 27%, and New York and Massachusetts at 16%. (6)

C&W also evaluated tax reform’s impact on housing market liquidity and buy v. rent economics:

The median length of time people had owned their homes was 8.7 years in 2016—more than double what it had been 10 years earlier. Now that interest rates have begun to tick upward from their historic lows, the housing market may face a problem called the “lock-in” effect, where homeowners are reluctant to move, since moving might entail taking out a new mortgage at a higher rate. This leads to the possibility of decreasing housing market liquidity in high-priced markets.

All things considered, the doubling of the standard deduction and the cap on the property tax deduction is likely to have the largest impact on the buy vs. rent incentive, especially as it seems likely that there will be minimal changes to the mortgage interest deduction in any final tax reform bill. (7-8)

Finding An Affordable Neighborhood

Trulia quoted me in How To Find An Affordable Neighborhood. It opens,

There’s more to consider when buying a house than the house itself. The neighborhood can be equally, if not more, important. You might already have must-haves in mind for the type of property you’ll buy — at least two bathrooms to stay sane, for example. Now you need to focus on finding the best neighborhood that fits your budget. Read on for some tips, techniques, and practices to help you find affordable neighborhoods, whether you’re looking at homes for sale in Seattle, WA, or anywhere else across the country.

1. Use the Affordability layer in Trulia Maps

The most important factor when looking for an affordable home is price. No surprise there. But the listing price doesn’t tell you the full story. The seller could have simply picked a number because that’s what they’d like to get, a price that might have nothing to do with reality.

Use the Affordability layer in Trulia Maps to compare listing prices with recent sales prices. Just scroll over your neighborhood of interest to see the median listing price, change your filter, and then scroll over the same area to see the median sales price. There may be a huge price difference between the two, which besides a too-optimistic seller could also reflect a softening market. A once-unaffordable neighborhood, based on listing prices alone, might now be in reach once you see what homes are actually selling for.

Also look at the sales price per square foot, a real eye-opener. You can see exactly how much location affects a home’s price. “If using a price-per-square-foot comparison, the homebuyer must be sure to compare similar-sized properties or allow for the different results based upon the differences in size,” says Greg Stephens, chief appraiser for Metro-West Appraisal Co. in Detroit, MI.

2. Explore other neighborhoods

If you already have a neighborhood in mind, take some time to look at the bordering neighborhoods as well. You might find more affordable options that have the same benefits. “As home prices increase within desirable areas, generally speaking, locations on the periphery become in demand,” suggests Michael Kelczewski, a Pennsylvania and Delaware real estate agent.

Pick your neighborhood of interest and note the listing and sales prices. Then pick a bordering neighborhood that costs less to buy into. Compare amenities in Trulia Maps, and you can see where the restaurants, grocery stores, nightclubs, cafes, stores, arts and entertainment areas, spas, and active-life spaces are located.

Don’t rule out up-and-coming neighborhoods. Yes, you’re taking a risk here. “Up-and-coming,” as a description, might turn out to be a tad too hopeful if the neighborhood is really going nowhere. How do you minimize the risk? Look for warning signs. “Distressed areas generally are identified by low sales volumes, elevated value decreases, and poor access to amenities,” says Kelczewski.

3. Look for fixer-uppers

If your heart is set on a neighborhood that lets you bike to work and raise urban chickens, you might not be able to get a dreamy, move-in-ready abode with all new upgrades. Instead, target fixer-uppers, or remodels, or teardowns. You might wish to consider a house with “good bones,” as they say, meaning there’s potential in there somewhere. If the house doesn’t even have that, a teardown might be in order.

You can often find fixer-uppers in the foreclosure arena. But beware. “Purchasing an REO/short sale or auction property when the asset is sold ‘as is’ necessitates a network of professionals to understand the condition and to project rehab costs,” offers Kelczewski. “Contractors, electricians, plumbers, even structural engineers may be required in order to adequately analyze a property.”

You’ll also need to devote some time, or sweat equity, to save money when you buy a fixer-upper. “It is important to have a sense of how much work would be needed to get the house in the shape you would want it to be. You would need to get estimates for the work — the final cost will probably be higher than the estimates — and try to determine how long it will take to get permits approved and contractors in the door … [and] it will probably take longer than everyone tells you,” says David Reiss, professor of law at Brooklyn Law School in Brooklyn, NY. “But when you are pulling your hair out because you are cooking dinner in a half-finished kitchen, remember all of the money that you saved when you bought.”

Honesty Is Best

Grant Wood; "Parson Weems' Fable"; 1939; oil on canvas; Amon Carter Museum, Fort Worth, Texas; 1970.43

Grant Wood; “Parson Weems’ Fable”; 1939; oil on canvas; Amon Carter Museum


Trulia quoted me in 6 Things Home Sellers Are Legally Required To Disclose. It opens,

When it comes to selling your home, heed your mother’s advice: Honesty is always the best policy.

Denise Supplee and her husband, Jerry, had been in their new home in Horsham, PA, for just three months when they started to notice something strange in their bathroom. “You could see mold starting to seep through the paint,” says Denise, a co-founder and director of operations of SparkRental.com. “We had a contractor come in and he told us we were lucky,” she says. “It seemed to be an issue kept to the bathroom and occurred most likely because there was no exhaust fan.” The problem: The seller had blatantly painted over existing mold without ever disclosing it to the Supplees. Although the seller made good and paid for the mold removal — a $1,500 cost — the Supplees could have taken them to court for not disclosing the problem before the sale.

It’s a question that plagues many residential sales: As a seller, what do you — and don’t you — need to tell the buyer about your home? “My rule of thumb is this: If you’re not sure if you should disclose something, you probably should,” says Sam Pawlitzki, a real estate agent with Beach Cities Real Estate in Los Angeles, CA. “Think of seller disclosures like a Carfax report.” Plus, the harm in not disclosing something can result in some serious legal and financial woes. Here’s a list of what you legally need to include in your sellers’ disclosure to keep yourself out of hot water.

1. Lead paint

One item is a must when it comes to being upfront with potential buyers: the use of lead-based paint in your home. “If the home was built before 1978, each party in a transaction needs to sign a lead paint disclosure,” says Pawlitzki. “This is a federal law and applies to every state. No matter if you think the lead paint has been removed or not, it still needs to be disclosed.” However, David Reiss, a professor at Brooklyn Law School in Brooklyn, NY, explains, “If you are not aware of a lead-based paint issue in the house, you are not required by the act to investigate whether there is any.”

Signs You Are In A Bubble

photo by Jeff Kubina

Trulia.com quoted me in Signs Your Local Real Estate Market Is A Bubble. It reads, in part,

If you were burned in 2008, the last time the housing bubble burst, you’re probably (and understandably!) gun-shy about jumping into the housing market again — especially if you think your local area could be experiencing another bubble. If you buy during a bubble, overpaying for your home, you might be forced to sell for less than the property is worth — either that or stay put longer than you’d like until you build up enough equity to sell. So if you’re thinking of buying, it’s important to have a sense of the signs that point to a real estate bubble. Here are five of them.

1. Shaky loans are common

As we learned from the 2008 recession, subprime lending (lending to anyone with a pulse) is not sound practice. And we have made changes. “Credit remains relatively tight,” says Jonathan Miller, CRE, CRP, and president of Miller Samuel Inc., a New York, NY, real estate appraisal company.

Yet the U.S. government still backs loans that some might consider risky, particularly ones that require only a 3.5% down payment, which the Federal Housing Administration (FHA) offers. Before you get too alarmed, keep in mind that the FHA has been helping people become homeowners since 1934. The underwriting standards are higher with FHA loans than with some of the subprime low-down-payment products offered in the early 2000s, explains David Reiss, professor of law at Brooklyn Law School in Brooklyn, NY.

2. There’s lots of leverage

When you take out a mortgage, you’re leveraging your money — the smaller the down payment you make, the more you have leveraged the deal by using the lender’s money to make the purchase. “A bubble means lots of leverage,” says Miller. “And this [current] cycle has been remarkably devoid of leverage.” Miller cites New York City as an example. “About 45% of the transactions are cash. And for the price points below half a million dollars, the average person puts about 35% down.”

3. Home prices are rising faster than salaries

When housing prices are rising and your salary isn’t, you’re left with two options: continue to rent, or buy a house you can barely afford. If you think your market is in a bubble, you might want to wait to buy, especially if you’re really stretching to make ends meet.

“I would review the mean income levels and employment levels compared to real estate prices for signs of discord,” says Michael Kelczewski, a Pennsylvania and Delaware real estate agent. “Indicators of a local real estate bubble are asset values exceeding the local market’s capacity to absorb prices.” Reiss says that when home prices rise faster than salaries, “It could be the sign of froth in the market.”

Miller agrees that a “rapid run-up in prices that don’t match wage growth leads to discussions about bubbles.” But he says that as long as credit conditions from bank lenders are tight, you won’t have runaway price inflation. In New York, prices aren’t rising like they were, but they aren’t falling either. Miller says they’ve leveled off and are “stuck on a high plateau.”

So what do you do when affordability isn’t improving in pricey markets like New York, NY, San Francisco, CA, Los Angeles, CA, or any other high-cost urban market? Buy in the burbs. Miller notes that for New York, the market is booming in the outlying suburbs.

 *     *     *

When there are no signs

Of course, you might think your market is (or isn’t) in a bubble, but you could be wrong. “The problem with bubbles is that we don’t know them when we see them,” says Reiss. He explains that San Francisco, CA, for example, a hugely unaffordable city for most people, isn’t in a bubble just because prices are high. “Bubbles do not refer to rapid price appreciation. They refer to unsustainable rapid price appreciation. [The market] is unsustainable because fundamentals do not support the appreciation.”

The bottom line is, it’s difficult to know whether it’s really a bubble. “If homeowners buy a house that works for their family and that they can afford over the long haul, they will have made a decision that benefits them every day, even if real estate prices drop significantly,” says Reiss. But heed his warning: “If homeowners instead buy a house that is a financial stretch in the belief that it will appreciate down the road and fund their retirement, there is a good chance that they have set down a road to ruin.”

The Housing Market Under Trump

photo by http://401kcalculator.org

TheStreet.com quoted me in Interest Rates Likely to Rise Under Trump, Could Affect Confidence of Homebuyers. It opens,

Interest rates should increase gradually during the next four years under a Donald Trump administration, which could dampen growth in the housing industry, economists and housing experts predict.

The 10-year Treasury rose over the 2% threshold on Wednesday for the first time in several months, driving mortgage rates higher with the 30-year conventional rate rising to 3.73% according to Bankrate.com. Mortgage pricing is tied to the 10-year Treasury.

Housing demand will remain flat with a rise in interest rates as many first-time homebuyers will be saddled with more debt, said Peter Nigro, a finance professor at Bryant University in Smithfield, R.I.

“With first-time homebuyers more in debt due to student loans, I don’t expect much growth in home purchasing,” he said.

Interest rates will also be affected by the size of the fiscal stimulus since additional infrastructure spending and associated debt “could push interest rates up through the issuance of more government debt,” Nigro said.

Even if interest rates spike in the next year, banks will not benefit, because there is a lack of demand, said Peter Borish, chief strategist with Quad Group, a New York-based financial firm. The economy is slowing down, and consumers have already borrowed money at very “cheap” interest rates, he said.

The policies set forth by a Trump administration will lead to contractionary results and will not spur additional growth in the housing market.

“I prefer to listen to the markets,” Borish said. “This will put downward pressure on the prices in the market. Everyone complained about Dodd-Frank, but why is JPMorgan Chase’s stock at all time highs?”

An interest rate increase could still occur in December, said Jonathan Smoke, chief economist for Realtor.com, a Santa Clara, Calif.-based real estate company. With nearly five weeks before the December Federal Open Market Committee (FOMC) meeting, the market can contemplate the potential outcomes.

“While the market is now indicating a reduced probability of a short-term rate hike at that meeting, the Fed has repeatedly indicated that they would be data-driven in their decision,” he said in a written statement. “If the markets calm down and November employment data look solid on December 2, a rate hike could still happen. The market moves yesterday are already indicating that financial markets are pondering that the Trump effect could be positive for the economy.

“The Fed is likely to start increasing the federal funds rate at a “much faster pace starting next year,” said K.C. Sanjay, chief economist for Axiometrics, a Dallas-based apartment market and student housing research firm. “This will cause single-family mortgage rates to increase slightly, however they will remain well below the long-term average.”

Since Trump has remained mum on many topics, including housing, predicting a short-term outlook is challenging. One key factor is the future of Fannie Mae and Freddie Mac, who are the main players in the mortgage market, because they own or guarantee over $4 trillion in mortgages, remain in conservatorship and “play a critical role in keeping mortgage rates down through the now explicit subsidy or government backing which allows them to raise funds more cheaply,” Nigro said.

It is unlikely any changes will occur with them, because “Trump has not articulated a plan to deal with them and coming up with a plan to deal with these giants is unlikely,” he said.

Trump could attempt to take on government sponsored enterprises such as Fannie Mae and Freddie Mac, said Ralph McLaughlin, chief economist for Trulia, a San Francisco-based real estate website.

“If he does, it’s going to be a hairy endeavor for him, because he’ll need bipartisan support to do so,” he said.

Since he has alluded to ending government conservatorship and allowing government sponsored enterprises to “recapitalize by allowing retention of their own profits instead of passing them on to the Treasury,” the result is that banks could have their liquidity and lending activity increase, which could help boost demand for homes, McLaughlin said.

“We caution President-elect Trump that he would also need to simultaneously help address housing supply, which has been at a low point over the past few years,” he said. “The difficulty for him is that most of the impediments to new housing supply rest and the state and local levels, not the federal.”

Even on Trump’s campaign website, there is “next to nothing” about his ideas on housing, said David Reiss, a law professor at the Brooklyn Law School in New York. The platform of the Republican Party and Vice President-elect Mike Pence could mean that the federal government will have a smaller footprint in the mortgage market.

“There will be a reduction in the federal government’s guaranty of mortgages, and this will likely increase the interest rates charged on mortgages, but will reduce the likelihood of taxpayer bailouts,” he said. “Fannie and Freddie will likely have fewer ties to the federal government and the FHA is likely to be limited to the lower end of the mortgage market.”

Millennial Homeowners Following ‘Rents

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TheStreet.com quoted me in Potential Homeowners Follow in Footsteps of Parents. It opens,

Consumers tend to follow the strategies of their parents when they are faced with whether they should stick with renting or buying their first home.

Potential homeowners, including both Gen X-ers and Millennials, are influenced by the decisions made by their parents. As homeownership rates in the U.S. have fallen to a 51-year low, one reason Gen Y-ers tend to skip homeownership is due to the choice made by their parents while others are faced with mounting student loans and higher costs to purchase a house.

Consumers are nearly three times as likely to purchase a house if their parents were homeowners compared to parents who rented, said Felipe Chacon, a housing data analyst at Trulia, a San Francisco-based real estate website, which analyzed over four decades of data from the University of Michigan in Ann Arbor.

 “What the analysis in the report suggests is that people who grew up in rented homes are less likely to own their own home, even after you exclude those who have gotten financial help from their folks or their spouse’s folks,” he said.
As Millennials are heading toward their 30s, the impact of their childhood is taking effect as ones which grew up in homes the parents owned were 2.8 times more likely to seek the same goal, the researchers found. The trend of home ownership has declined among Millennials and part of the reason could be that people who are 19 to 34 years are less likely to have been raised in homes where their parents owned the homes compared to Gen X-ers or those who are 35 to 45 years old.
“It could simply be an issue of values, where those from owned homes make homeownership a more urgent priority and strive to reach it sooner simply because it is familiar and comfortable to them,” Chacon said.
Consumers are probably more likely to buy a house if their extended family can explain how the process works and what criteria should be prioritized from improving their credit score to saving for a down payment.
“It probably helps to have parents and relatives around who can help you navigate the system as a first time homebuyer,” he said. “Since Millennials, especially younger ones seem to be slightly less likely to be raised in owned homes, there could be a long term cooling effect on the ownership rate among this group.”
The attitude of Americans owning their homes and pursuing the traditional “American Dream” has remained pretty steady over the past five years. In fact, more Millennials are eager to purchase a home and 80% expressed this sentiment in 2015 compared to 71% in 2010, according to a Trulia survey. The overall population mirrors this belief with 75 % who agree in 2015 from 72% in 2010.
One of the hurdles to homeownership is accruing enough money for the down payment. Millennials who grew up with parents who owned a home received more help financially with 11.4% who were given money compared with 2.6% of those who grew up in mostly rented homes.
“The American homeownership rate carries a lot of political and social significance with it and for many, it is seen as a marker of the health of American society,” said David Reiss, a law professor at Brooklyn Law School in New York. “The significant dip in the homeownership rate that has occurred since the financial crisis has shaken the confidence of many that the nation’s households are on solid footing.”

 

Another Housing Bubble?

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Trulia quoted me in Warning Signs: Another Housing Bubble Is Coming. It opens,

Signs show another bubble coming. Some experts have a different opinion.

When the housing market crashed in 2008, it caused what came to be known as ”The Great Recession.” When the bubble burst, it ”sent a shock through the entire financial system, increasing the perceived credit risk throughout the economy,” according to a report published in The Journal of Business Inquiry.

The crash caused homes to lose up to half their value. People became underwater, owing more than their home was worth. And who wants to pay on a mortgage that’s larger than what the home could sell for? Although some people did just that, many more opted to short sell their homes or to simply walk away and have the bank foreclose.

Present Day

Fast-forward to 2016, and we are seeing hot, even ” overheated,” housing markets; bidding wars; rising home prices; and house flippers – all the signs of a housing bubble that’s about to burst. Are we repeating the mistakes we made before? Yes and no. Let’s explore four reasons the housing bubble burst and whether we’re experiencing the same conditions today.

1. Easy Credit

Before the 2008 crash, credit was easy to get. Pretty much, if you were breathing, you could get a mortgage loan. This led to people getting mortgages who ultimately couldn’t afford to pay them back. They lost their homes, and this contributed in large part to the housing crisis. Today the situation is different. ”Credit is still much tighter than it was before the financial crisis,” says David Reiss, professor of law at Brooklyn Law School. ”This is particularly true for those with less-than-perfect credit scores.” He explains: ”There are almost no no-down-payment loans as there were in the early 2000s. Those defaulted at incredibly high rates.”

But what about Federal Housing Administration (FHA) loans? They feature ”low down payments, low closing costs, and easy credit qualifying.” Those are the very features that should sound some warning bells. But before you get too alarmed, keep in mind that the FHA has been making loans to people who do not qualify for a conventional mortgage since 1934. ”While there are low-down-payment loans available from Fannie, Freddie, and the FHA, their underwriting standards appear to be higher than those for low-down-payment products from the early 2000s,” says Reiss.

2. Low Interest Rates

Mortgage rates have been low for so long that you might not realize that was not always the case. In 1982, for example, mortgage rates were 18 percent. From 2002 to 2005, the rates stayed at about 6 percent, which enticed people to take out mortgage loans. And in 2016, we’re seeing historic lows of under 3.5 percent. If rates go up, we might see housing demand and housing prices fall.

3. ARMS

Before the housing crash when home prices were rising fast, many people were priced out of the market with a fixed-rate mortgage because they couldn’t afford the monthly mortgage payments. But they could afford lower payments that were possible with an adjustable-rate mortgage – until that rate adjusted up. In 2005, 38.5 percent of the mortgage market was ARMs. But in 2015, that amount has dropped considerably to 5.3 percent.

4. A Buying Frenzy

There’s an old story that before the stock market crash of 1929, Joseph Kennedy, Sr., sold his shares. Why? Because he received a stock tip from a shoeshine boy. Kennedy figured, the story goes, that if the stock market was popular enough for a shoeshine boy to be interested, the speculative bubble had become too big.

Before the housing crash, this country saw a home buying frenzy similar to what happened before the stock market crash. Everyone from lenders to rating agencies to investors (foreign and American) to investment bankers to home buyers was eager to get into the mortgage game because house values kept rising. Today, we are seeing a similar buying frenzy in some markets, such as San Francisco, New York, and Miami . Some experts think that the price increases of homes in those areas are not sustainable. They say that because heavy foreign investment in those areas is part of what’s driving up prices, if those investments slow or stop, we could see a bubble burst.

So what do some experts think?

David Ranish, owner/broker for The Coastline Real Estate Group in Laguna Beach, CA, says: ”There are concerns about another housing bubble, but I do not see it. The market could stabilize, but a complete collapse is highly unlikely.”

Bruce Ailion, an Atlanta, GA, real estate expert, says,” ”Five to six years ago, I was a buyer of homes. Today I am a seller.”

David Reiss says, ”It is probably a fool’s game to predict the future of the housing market or whether we are in a bubble that is soon to burst.”