When Opportunity Comes Knocking

Real estate opportunity has knocked several times for Oakland, California,
homeowners Rick, 41, and Felicia Bradley, 40, and every time, they have been smart enough to hear–and answer–the knock. Over the last decade, the Bradleys, with their two sons, Che, 12, and Antonio, 8, have made a series of strategic moves based on their intent observations of market dynamics, smart financial and tax planning, and, most important to them, how all of the above could be harnessed to serve their overarching priority: their family’s changing space, lifestyle, and location needs.

“Our home is our biggest investment and our largest monthly expense, by far. So we always pay close attention to what is or isn’t working about our living situation for our family’s lifestyle and our monthly finances,” says Felicia. “We have made every decision to move based on those two factors, but then we watched and waited to actually make each move until it made sense from a larger financial perspective or until we saw a major opportunity in the market.”

Rick, a fitness trainer, and Felicia, a pharmaceutical sales representative, began their adventures in homeownership in 2003, taking their real estate agent’s advice to get out of the pricey Bay Area market and buy a new, single-family home in a suburb of Sacramento for $266,000. They quickly realized they’d rather return to their circle of friends in the East Bay, but decided to stay put until the two-year capital gains tax waiting period was up. When they did sell, in 2005, the Bradleys realized more than $200,000 in profit on their property.

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That allowed them to purchase their next home in an upscale Oakland—area community for $800,000, also in 2005, believing their family would grow into the massive square footage and that the tony neighborhood would make it a great investment. But after a year or two, it was clear that this was not the right home for them. “It was too big, and so was the mortgage payment,” Felicia says.

By then, home values had already begun to decline on a national level, though home values were still relatively stable in the Bay Area. “We put it on the market and priced it to sell, at $899,000.” At the time, the house next door was on the market for $999,000. The Bradleys’ home sold for $865,000 at the end of 2008. The neighbors’ home never sold, and was eventually foreclosed and sold by the bank in 2011 for $548,000.

After getting rid of their meaty mortgage payment and noticing that Bay Area values had also begun a scary freefall, the Bradleys decided to rent one of thousands of newly built downtown condos that builders were beginning to rent out because of slow sales.

The Upside of the Down Market
Real estate headlines of recent years have focused on the trillions of dollars of real estate wealth that has been lost by American homeowners. A 2012 white paper by the Federal Reserve reported that American home prices have declined more than 33% since the housing market recession began in 2006, resulting in $7 trillion of lost real estate wealth nationwide.

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The impact on black homeowners has been especially traumatic, causing double the decline in homeownership rate compared with all ethnicities, according to a report of the Bipartisan Policy Center. And because homes are the primary asset in many black households, the real estate recession damaged the overall net worth of black families. According to the Pew Research Center, from 2005 to 2009, inflation-adjusted median wealth fell by 53% among black households, compared with just 16% among white households.

But the real estate market downturn has also spawned opportunities for the well-qualified to buy homes at low prices and on favorable terms from motivated sellers. After renting for a couple of years, for example, the Bradleys bought a new townhome in 2011 for $430,000–a model of which had been listed at around $730,000 at the top of the market. They were also able to negotiate a $15,000 closing cost credit from the builder, who was on a mission to move excess inventory.

“I just kept going online looking at homes for sale and seeing how far prices were falling,” says Felicia. “I was watching for the time when I felt like we could buy for the same amount we were spending on rent, and feel like prices were poised to come back up.”

Chance of a Lifetime or Trap for the Unwary?
In deciding whether and when to buy, the Bradleys faced the common down-market buyer dilemma of trying to catch the opportunity to buy while prices were low, while hoping not to see the home continue to decline in value after closing.

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The challenge is that the beleaguered real estate markets that seem to offer the steepest discounts on homes may be the riskiest in which to invest, if you’re looking for appreciation. Jane Hodges, expert real estate writer and author of the new book Rent vs. Own: A Real Estate Reality Check for Navigating Booms, Busts, and Bad Advice (Chronicle Books; $18.95), says that before she would buy a bargain basement—priced home in a foreclosure-riddled market, she’d force herself to find answers to these questions: “Why is it depressed, and will this ever turn around?”

Another consideration: The hardest-hit areas might also be the hardest in which to actually execute a bottom-of-the-market buy, given already-tight universal lending standards and even tighter appraisal guidelines that may apply specifically to areas that have been particularly affected by the recession.

The Bradleys may have defied the adage that opportunity only knocks once, but they have proven the saying that it favors the prepared. Keeping their proceeds from previous sales in an untouchable, interest-bearing account and maintaining strong employment and credit histories allowed them to buy in a down market, despite tightened mortgage guidelines.

Signs of a Good Real Estate Opportunity
There’s no one-size-fits-all rule of thumb about what makes for a great opportunity. But here are a few signposts that indicate that the time and place to buy might be here and now:

– Prices, interest rates, and price-to-rent ratios are low. Prices are low nearly everywhere, compared with their peaks of five or six years ago. And interest rates have broken record after record low levels as well. Lately, though, the price-to-rent ratio market metric that economists have long used to evaluate housing market health has become a popular gauge for would-be buyers who want to compare the costs of renting with homeownership.

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Numerous outlets publish indexes of the price-to-rent ratios of cities nationwide and provide calculators such as the one on the Ginnie Mae website, so you can do your own rent vs. buy math. For the most part, the preset reports come out in favor of buying. For example, real estate search engine Trulia.com reported in March that it is cheaper to own than to rent a home in 98% of America’s 100 largest cities. But as with anything, these rent vs. buy reports have caveats; they don’t take into account long-term depreciation or appreciation, nor do they account for the different levels of home-related tax benefits associated with individual variances in income.

– You want the tax advantages of ownership. The price-to-rent ratio reports are unanimous that a couple of markets such as San Francisco and New York buck the trend and might always cost more as an owner than as a renter. But even in those places, if your income is high enough, the tax advantages of homeownership may offset the costs. “People in high tax brackets can deduct more of the interest portion of their mortgage payments, which makes buying an even better deal for high-income taxpayers,” says Jed Kolko, chief economist for Trulia.

The Bradleys were paying $2,400 a month to rent downtown, and are now paying almost exactly the same amount to own their home, accounting for the mortgage and extra costs such as property taxes and homeowners’ association dues, then “reducing them by the mortgage interest and property tax deductions we get at tax time,” Rick points out.

– Local market dynamics look promising. Your deep dive into local market data should consider things such as housing inventory, days on the market, price trends, and percentage of distressed properties (see sidebar “Is My Market Recovering?”). Your local real estate agent or broker can help, but you can also help yourself on sites such as Trulia and the local Association of Realtors.

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Once you have them, go beyond these bare-bones numbers and think about the longer term implications of your area’s basic economics. Have all major employers fled the area, or are there a number of flourishing industries, universities, or other employers still in town? Has your area had a net influx or a mass exodus of residents over the last few years? The answers to these questions may indicate whether a market that is hard on its luck right now has the potential to come back over the long term, or whether values are unlikely to recover.

If your area is one of the latter, though, economist Kolko says not to necessarily count buying a home out. Assuming you can afford to buy, “in regions with long-term economic decline–or in markets where it’s easy to build new homes to accommodate economic growth–there might not be much appreciation over the long term, but buying might be incredibly cheap, relative to renting.”

– You’re ready to make a long-term commitment. The experts say concerns about losing money from buying into a declining market can be offset by adhering tightly to a long-term plan to hold on to the home. The longer you plan to own the home, the less worried you have to be about what happens to its value in the short term, and about hoping for appreciation substantial enough to offset the transaction costs like your down payment and closing costs. “If you might move again in less than five years, it’s probably not worth all the costs and effort that goes into buying a home,” says Kolko.

The length of time you’re willing to be committed to a property is an essential consideration. The longer you live in a home, the more chances you have of it penciling out to be a successful investment, as your tax and appreciation advantages accrue to outweigh the transaction costs of buying and as the home’s value has a chance to settle down from any recent volatility into the slow, long-term upward climb that seems to be the new normal.

“We bought this place because we felt like we could be happy here until the boys go off to college,” Felicia says, “but if something changes, we’re always open to revisiting whether any place is the right place for our family.” BE