Recent media stories on investment real estate have implied that speculative home buying is widespread, and quote a recent study by the National Association of Realtors on second homes that showed 23 percent of homes sold in 2004 were purchased by investors.
However, if speculative buying is defined as reselling within a short time span, survey data doesn’t support that premise. One of the surveys used in the NAR study shows that only three percent of all homebuyers sell their home in a year or less.
NAR President Al Mansell, CEO of Coldwell Banker Residential Brokerage in Salt Lake City, said people buy homes for the long-term regardless of whether they’re owner-occupants or investors.
“Even if you assume that all of the people who sold their home in a short timeframe were investors, it still would be only a fraction of that market segment,” he said. “Real estate simply isn’t the kind of quick-in, quick-out investment that Wall Street is fond of. It’s a tangible asset that provides solid gains over time and isn’t subject to the kind of volatility that’s common in the stock market.”
An earlier benchmark survey of all existing second-home owners, conducted in 2002, showed that typical respondents had owned their second home for nine years.
“Anecdotally, most of the stories we’ve seen on investment speculation have focused on the new home or condo market, and they’ve been confined to a handful of areas with very tight supplies of available homes and sharp double-digit price gains,” Mansell said. “It’s true that some people have made fast profits, but it’s not to be expected. In fact, it can be risky, and prospective buyers need to be aware of the facts before they think about jumping in.”
NAR’s recent second-home study showed that 79 percent of investment properties were a detached single-family home. The major share of investment homes, 83 percent, were existing homes.
“In other words, the typical investment property isn’t a new home or condo as generally described in the stories on speculation,” Mansell said.
In a normal market that is balanced between home buyers and sellers, home prices rise at the general rate of inflation, plus 1-to-2 percentage points. In those market conditions, buyers typically need three-to-five years to build up enough equity to trade up to a larger home; most people stay in their home for six years.
“If you sell in a short time frame, you may not be able to recoup the transaction costs,” Mansell said. “Real estate investment is not for everyone. You should have sufficient resources to cover your expenses for six months - things don’t always go your way in the rental market. In addition, if the timing of your purchase coincides with the top of local market prices and you’re hoping for quick gains, you’ll be sorely disappointed - and if you’re not prepared to be a landlord, you’ll need to find someone to manage the property for you.”
On the other hand, market rents typically are higher than mortgage payments, but conditions vary widely.
“Investment buyers need to study and understand the cash-flow scenario and home-price patterns for the neighborhood where the property is located,” Mansell said. “A good resource would be a real estate professional who specializes in investment property and has experience in the neighborhood or area of interest. Realtor members with certain professional designations, such as Certified Commercial Investment Member (CCIM), Certified Property Manager (CPM), or Counselor of Real Estate (CRE), can offer specialized services to investors.”
Eighty-three percent of second-home buyers financed with a mortgage and made a median downpayment of 22 percent, the NAR study shows. Although 45 percent use savings for a downpayment, 29 percent used equity from a previous home. Nearly two-thirds of all second-home buyers purchased investment property.
“It appears most buyers like to have at least 20 percent equity in their property to avoid the need to pay for mortgage insurance,” Mansell said. “The reason that buyers who make smaller downpayments have to pay MI is pretty simple - those loans are considered to be riskier. The less headroom you have, the more likely things could go wrong.”