by Deborah Goonan, Independent American Community
Two hot topics in real estate these days are the current housing affordability crisis and real estate’s investment potential — or lack of it.
There’s no sugar-coating the truth. The U.S. real estate market has changed dramatically in the wake of a financial meltdown ten years ago. And today’s housing market is certainly much different from any decade since the post-World War II era.
At one time in the not-so-distant past, people used to buy a home primarily as a place to live.
Though this simple concept may seem quaint, when our parents and grandparents purchased their homes, they weren’t really thinking of them as investments.
A home is a place to live, not an investment
Increasingly, financial experts agree that the investment potential of a primary home ranges from minimal to risky. They argue that the monetary value of homeownership is only realized if and when the mortgage is paid off, or, alternatively, the owner can cash out on a sale and downsize with a cash purchase.
That reality became painfully obvious to millions of American homeowners trapped in homes with upside-down equity and subprime mortgages, beginning around 2008.
Home buyers had been tempted by the lures of affordable monthly payments, and the possibility of selling one’s home in a few years at a healthy profit.
But, the truth is, low mortgage payments don’t make housing affordable. They simply mask the true cost of financing.
The Affordable Investment myth
A recent article written by Daniel Hertz for City Lab confirms the reality documented here at IAC for the past 4 years. Ownership of a so-called “affordable” condo or “starter home” doesn’t deliver on its competing promises of housing affordability and a good return on investment.
That reality is especially true if the home you own is part of an association-governed common interest community. In addition to the carrying costs of a mortgage, property taxes, insurance, utilities and maintenance, HOA fees strain the household budget.
And, unfortunately, shared ownership arrangements rob homeowners of individual control. A homeowner cannot independently decide when and how HOA money is spent.
The more amenities and services managed by a homeowners, condominium, or cooperative association, the more it costs to own a home. And owners must pay for HOA amenities and services even if they don’t use them, even if poorly managed.
Even worse, when the HOA is controlled by a developer, a group of investors, or extravagant homeowners, homeownership quickly becomes unaffordable.
Housing Can’t Be Both Affordable and a Good Investment
The two pillars of American housing policy are fundamentally at odds.
NOV 19, 2018
Senior fellow at City Observatory
Promoting homeownership as an investment strategy is a risky proposition. No financial advisor would recommend going into debt in order to put such a massive part of your savings in any other single financial instrument—and one that, as we learned just a few years ago, carries a great deal of risk.
Even worse, that risk isn’t random: It falls most heavily on low-income, black, and Hispanic buyers, who are given worse mortgage terms, and whose neighborhoods are systematically more likely to see low or even falling home values, with devastating effects on the racial wealth gap.
But let’s put all that aside for a moment. What if housing were a low-risk, can’t-miss bet for growing your personal wealth? What would that world look like?
Other affordability factors
In addition to Hertz’s considerations, there are other important affordability factors to consider:
1) Is the site of the neighborhood safe and healthy, and
2) Does the quality of construction create lasting value for the home.
Unfortunately, in many cases, condos, townhouses, and small detached homes marketed at relatively low sale prices fall short on one of both factors.
That reality is well-documented here at IAC. Yesterday’s post on the lawsuit filed by Fairway Oaks HOA in Jacksonville is a prime example of the long-term costs and liabilities of cut-rate affordable housing.
Property value mindset
Why do so many Americans still believe that owning a home is — or should be — a good investment?
It’s all about clever marketing ploys promoted heavily since the 1970s. The U.S. Civil Rights era was the start of what I like to call the “property value mindset.”
Real estate developers and brokers at that time began pushing suburban planned communities, transferring middle class households from cities and towns to covenant restricted communities, often with exclusive amenities such as private swimming pools or tennis courts.
In the decades that followed, developers and mass market home builders got more creative. They began building entire neighborhoods — some of them the size of small cities — around golf courses, equestrian centers, or recreational lakes. Gated communities continued the trend toward exclusivity.
Low- or no-frills commuter housing (bedroom communities) began popping up in the 1990s. Cookie cutter homes were sold to buyers who couldn’t afford high HOA fees on top of their high interest, low down payment, mortgage payments.
By this time, local governments across the country required virtually all new housing developments to be governed by a mandatory HOA. Private communities were expected to provide their own maintenance of storm water infrastructure and private roads, and to monitor security with limited assistance from local police.
By the early 2000s, with home prices spiraling out of control, U.S. cities and towns saw an influx of new condominiums, apartment to condo conversions, and townhouses — all of these properties advertised as affordable, low-maintenance alternatives to a single family home.
The HOA connection
The majority of these new communities had something in common — covenants, deed restrictions, and increasingly onerous rules with mandatory membership HOAs to enforce them.
Knowing that people generally hate rules, the real estate industry spent decades selling buyers on the promise of perpetually attractive and exclusive communities. Home buyers were told that an HOA was necessary to protect property values.
And, for developers and home builders in the early years of construction, home values remained strong.
In comparison to older homes, buyers were willing to pay higher prices in spite of the HOA — mainly because new homes and condos had modern amenities, or they were located in trendy neighborhoods.
But, as always, home prices increased when the economy was strong fell during times of recession, despite the presence of HOAs to enforce rules and standards.
Limited land and home uses
Time for another dose of common sense. A property with use restrictions is often less useful than a similar property that isn’t burdened by covenants or restrictions.
Put simply, if HOA or condo rules are strict — and many are — they will limit your investment and lifestyle opportunities.
And if your line of work, either as an employee or business owner, requires you to own a work vehicle, you’ll probably butt heads with your HOA when you try to park it in front of your home.
Want to save some money and grow your own organic fruits and vegetables? Your HOA might not allow you to plant that garden on the sunny side of your house, especially if it happens to be the front yard.
And forget about the kids having a lemonade stand.
So, if you cannot generate income from your home, or use the property in ways that save money, how can your home be a good investment?
Investors vs. owner-occupants
On the opposite end of the HOA spectrum, IAC follows reports of condominium or townhouse communities where the majority of homes are owned by investors, for the sole purpose of generating positive cash flow.
In these communities, a majority of units tend to be occupied by tenants instead of owners. The investor bloc often gains control of the HOA or condo board, and operates the community as a rental apartment business or a de facto hotel.
Some of the older, less modern association-governed communities devolve into run down, low-rent affordable housing, operating chaotically with multiple landlords and property management agents.
The only “homeowners” getting a good return on their investment in such communities are the ones who own multiple units, because they hold a majority of voting interests in the association.
Choosing independent control
All things considered, a home buyer seeking an affordable primary residence benefits from retaining independent control over his or her home.
Therefore, a home buyer should consider avoiding unnecessary covenants and restrictions, shared ownership housing communities, and mandatory membership HOAs.
Likewise, buyers interested in a good real estate investment must research the property’s revenue potential in relation to carrying costs. Rental properties, home-based businesses, and live-work spaces offer the greatest potential for return on investment.
If applicable, the savvy investor will carefully evaluate condo or homeowners’ association restrictions, rules, and management practices. Alternatively, the aspiring investor may ultimately choose to avoid HOAs and condos.
More articles on housing as investment:
Why Buying A Home Is Not A Good Investment (It’s A Service)
Jamie Hopkins, Forbes Contributor
Professor of Retirement at The American College
EDITOR’S PICK Jul 28, 2018, 10:58am
The risk of single homeownership has an annual standard deviation of roughly 12%, which is close to the standard deviation of a traditional investment portfolio of 60 percent stocks and 40 percent bonds. This means that a home is not significantly safer than most investment portfolios, and it provides a substantially lower investment return. Historically, home equity mostly just keeps pace with inflation and provides no real return. According to Professor Robert Shiller, one of the leading experts on housing prices in the United States, the real inflation-corrected prices of homes showed almost no change from 1890 to 1990, and showed losses in the 2000s.
The Truth? Your House Is Not An Investment
By Kevin Mercadante • March 13, 2017
The carrying costs of a house are too high for it to be an investment
Typically when you purchase an investment, it doesn’t require an ongoing investment of cash. But a house certainly does.
It would be bad enough if owning a house “only” required heavy carrying costs, but it gets even worse. A house you use as a primary residence generates no cash flow.