Once again, real estate, within the discourse of market conditions is primarily negative: ‘Slow recovery’, ‘Brink of disaster’, ‘Homebuilders are devastated’, ‘Weak demand’, etcetera, etcetera, etcetera. The discourse is mixed, but the message is primarily ‘doom and gloom’.
Scratch the surface and there’s a bit more to the story.
1) Homebuilders had a significant oversupply coming into the mortgage debacle. Consider that new home sales were softening and Florida, Arizona and California were already feeling pressure to slow construction before lending woes went over a cliff. Next, consider that much of the foreclosure activity cast a net around homes five years old or newer.
2) The tax credit for first time and long term home owners ended on April 30 of this year. That tax credit termination squeezed a number of ‘on the fence’ buyers from an estimated two year backlog of buyers – is it a surprise that there are fewer first time buyers in the market after that big push?
3) Lending regulations have become so difficult to pin down that many potential homebuyers are afraid to even talk to a lender.
4) Much of the negative data is boiling up from areas of the country hit so hard and so early by the real estate downturn that their numbers will likely be skewed for some time to come.
Maybe I’m wearing rosy colored glasses, but here’s how I see it.
1) A real estate market is generally very slow to change. Much like a lazy river, real estate flows through the landscape and slowly carves its channel. True, there can be abrupt cataclysms which change the rivers course forever (we’ve just witnessed the event in the past two years). But on the whole, real estate wants to be a slowly evolving market.
2) Real estate happens on a local plane. Even in our ‘Global economy’, real estate remains a regionally affected market. Media tends to nationalize their comments which play to the lowest common denominator.
3) Thirty year fixed loan rates and house values are both at some of the lowest numbers I’ve seen in twenty years. The latest rate sheet I saw (November 3rd, 2010) showed a 30 year fixed rate of just 4%.
We are in for another year of bumpy roads, perhaps two. But our markets will eventually absorb the next wave of foreclosures. Investors will find resources to buy up most of those distressed properties (many should never have left the rental pool, if truth be told).
Traveling at the speed of real estate, we need to begin to think about how to insulate the market from this sort of impact in the future. I believe that one major adjustment should be made and one major tax benefit should be placed ‘off the table’ as I have been hearing that it is under scrutiny.
First, concerning the mortgage interest deduction – this deduction (a vestige from tax legislation in 1913 which assumed that interest paid was a capital investment in business) is now capitalized into the core of home values and acts as a strong incentive for first time buyers and an annual source of relief for responsible home owners. The deduction provides relief commensurate with the level of home lending. Most first time buyers use 95 to 100% lending and they receive the larger percentage of benefit from this deduction. Few homeowners who purchase million dollar homes use a million dollar loan to purchase. The majority of upper-end buyers finance a smaller portion of their expensive homes and thereby use only a small percentage of the potential interest deduction benefit. In essence, the mortgage interest deduction has the unique ability to scale itself toward those homeowners who need the deduction the most and pay the lower tax brackets. This tax deduction should be placed in a category which cannot and will not be touched. It has proven its worth.
However, the taxpayer relief act of 1997 has conversely proven itself to be at the base of our economic crisis. This isn’t getting much attention, but probably should and here’s why:
Prior to May 7, 1997 our homes were the vessel in which most Americans saved money. The home provided a secure roof over our heads and provided a simple easy repository for holding wealth. This is because of the one-time capital gains benefit which was allowed at age 55 or older. The homeowner was encouraged to protect his or her capital gains in the home by ‘rolling it over’ to the next home purchase of a house of equal or greater value. The logic behind the deferment was two-fold. First, it encouraged an increasing equity position in the homeowner’s house by moving equity forward. Second, the benefit came available at the point in time when most homeowners had finished their child rearing years and might logically be considering a downsize purchase and a means to fund a retirement plan.
Capital gains legislation in 1997 did away with any incentive to maintain a strong equity position in a homebuyer’s current residence. In fact a large number of homeowners sold, liquidated and spent that equity and repurchased with easy, high LTV (loan-to-value) mortgages (often 95-100% of purchase price). The assumption was that real estate had never lost value and would continue to increase 4ever!
Home equity acts as the shock absorber in the U.S. market. It’s the latent savings for most citizens. If a homeowner carried a 40% equity position or higher (reasonably common prior to 1997, and still the case with most older home owners), a downturn would simply mean that the homeowner would takes a smaller number of dollars from the closing table, but that they would still be able to compete in the real estate market. The homeowner would not be forced to be ‘under water’ (one of my least favorite terms from our present market cycle).
I’ve often found it interesting to look at the changes in the stock market that occurred from 1997 to 2002 (plug in the dates to get the graph). In that time the DOW increased from roughly 6,500 points to 11,500 points. Where did all that money come from? I don’t have the skills to track it down and prove it out, but I can make a fairly educated guess. We used our homes like ATM’s and took our savings to ‘Vegas.
We need a return to a more stable market economy based on sound principles. We need to use legislation to encourage this stability. I’d love to see a return of the one-time capital gains exemption. I firmly believe home equity is one of the best means to insure long term growth in our market. Between home equity and ‘making stuff’, (yeah, that’s another thing), our markets can once again perform at top levels and we can become the global economic power that our military power alludes to. Can you think of a better poised global leader than the USA? If you are within her borders, I hope not.
Concerning the idea of buying real estate – you may not see a better time to jump into home ownership or to make a move up or over than now. Interest rates are historically low and home prices are as low as you are likely to see in your lifetime. If you are selling a smaller home and wanting to move to a larger or more expensive home – take the loss on the smaller and bargain harder for the larger home. If you are downsizing, you may want to hold on for a couple of years as your dollar loss may be higher on the house you intend to sell. (Call me, we can talk).
If you’ve read to the end, thank you for wandering through the landscape with me.
Tucker Pennington is a real estate broker with ReMax Renaissance Realtors and is active in the Greater Chattanooga Area. He has worked exclusively in real estate since 1989, first as a real estate appraiser and since 1994 in sales. Tucker currently holds active real estate brokers licenses in Tennessee and Georgia. From 1989 to 2004 he held both Florida State residential appraiser and brokers license.
Tucker Pennington, Broker, Realtor
ReMax Renaissance Realtors
103 Cherokee Blvd., Ste 2A
Chattanooga, TN 37405
phone: 423.580-5314
fax: 706.820-7958
www.TuckerPennington.com