Today we present a case study of a sleepy little town on the Pacific Coast of North America somewhere between Powell River and Portland. We have changed the name to Prosperity Harbour to protect the innocent. This town is fairly average; its heyday being some decades in the past.
Being an older place, the houses tend to be on the small side with plenty of cottages, each having less than 1000 square feet of floor space. As of today, the asking price on these little, older cottages ranges from $90,000 to $180,000. Prices have only sagged a bit since the onset of the Depression thanks to generous mortgage programmes from the Government.
Property taxes here are modest, averaging about 1% annually of the market value of the houses. Rents in Prosperity Harbour are low for a place on the West Coast. A typical two bedroom house rents for $600 per month.
The gross rental yields tend to range from 5 to 6%. After allowing 1% for taxes, 2.5% for maintenance, and .5% for insurance the net yield works out to only 1 to 2%.
Until recently, landlords were banking on appreciation to make up for the lack of yield. The last two years have been disappointing in that department, to say the least. Furthermore, there is no hope of raising rents or even maintaining them anytime in the foreseeable future. A great wave of rental construction completions has been hitting the market: luxury duplexes; low-income projects; warehouse district renovations; and everything in between - all begun at the peak of the recent housing mania. The major property management companies have even entered a price war as their efforts to whittle down their swelling rental listing portfolios become desperate. Even with asking rents down 1/3 or more from their peak two years ago, vacancies go begging.
Prosperity Harbor is not losing population. What is shrinking is the number of households. Or put differently, the increase in household formation - a fact of life in North America since the European settlement began - has gone into reverse, here as elsewhere. Unemployed and underemployed persons are doubling up and making do with more cramped conditions.
What hope is there for Prosperity Harbor's landlords? None. As long as incomes continue to fall, there will be less and less money available for rent. Property taxes will not fall. As assessed property values decline, rates will rise in order to maintain public expenditures. Even if a frenzy of cutting the public sector hits Prosperity Harbor's voters, it will only serve to shrink the incomes of the local public servants - furthering the vicious cycle of declining incomes.
In a word, Prosperity Harbor's landlords are f****d. This goes for the landlords who rent to themselves as well, a.k.a. homeowners. Housing here is a terrible, terrible investment and will be remain so until prices come in line to a sane multiple of rents - meaning those old cottages need to be selling for something like $9,000 to $18,000 - a mere one tenth the current prices!
Showing posts with label property tax. Show all posts
Showing posts with label property tax. Show all posts
Wednesday, November 25, 2009
Friday, April 3, 2009
The Worst is Yet to Come
What caused this Depression? Can anything be done to make things better? Can anything be done to make them worse?
A lot of things caused this Depression. It might be easier to to list what didn't cause it. At the top of the list would be 'a loss of consumer confidence'. In a nutshell, the origin of the Depression can be found in the prosperity which preceded it. Flaws in the economic system eventually crashed the system. There are many theories of what causes Depressions - many of them have much merit and they are not mutually exclusive.
One theory is that disparities of income and wealth create Depressions. These disparities were glaringly obvious in both the 1920s and the 1990s. So, to answer the second question, perhaps ameliorating these disparities would be helpful - some novel approaches could include creating a maximum wage, or introducing property taxes on financial assets. And, to answer the third question, if the opposite direction is being taken by public policy, it is probable that policy is actually making things worse.
In the present bailout-of-banks mode, financial assets are being protected even as millions of ordinary workers lose their jobs. The result of this is that the very wealthy are becoming less poor than they otherwise would in a freer system, while workers become comparatively much poorer. Thus disparities of wealth and income are not being allowed to narrow and lay the groundwork for a healthier economy. Public policy is actually making the situation worse.
Another theory of Depressions is that too much capital has been allocated towards uses where it is not really productive. This applies very neatly in the present circumstances to - say - automobile manufacturers or making McMansions in exurbia. What could be done to make things better is allow capital to slip away from these uses and towards what people want. Unfortunately, public policy is attempting to prop up both failing automakers and sagging house prices. Again, this will make the Depression worse.
We could go on. At almost every step, the reaction of policy makers is not only to not do helpful things, but to do exactly the worst possible thing. It's going to be a rough ride, folks.
A lot of things caused this Depression. It might be easier to to list what didn't cause it. At the top of the list would be 'a loss of consumer confidence'. In a nutshell, the origin of the Depression can be found in the prosperity which preceded it. Flaws in the economic system eventually crashed the system. There are many theories of what causes Depressions - many of them have much merit and they are not mutually exclusive.
One theory is that disparities of income and wealth create Depressions. These disparities were glaringly obvious in both the 1920s and the 1990s. So, to answer the second question, perhaps ameliorating these disparities would be helpful - some novel approaches could include creating a maximum wage, or introducing property taxes on financial assets. And, to answer the third question, if the opposite direction is being taken by public policy, it is probable that policy is actually making things worse.
In the present bailout-of-banks mode, financial assets are being protected even as millions of ordinary workers lose their jobs. The result of this is that the very wealthy are becoming less poor than they otherwise would in a freer system, while workers become comparatively much poorer. Thus disparities of wealth and income are not being allowed to narrow and lay the groundwork for a healthier economy. Public policy is actually making the situation worse.
Another theory of Depressions is that too much capital has been allocated towards uses where it is not really productive. This applies very neatly in the present circumstances to - say - automobile manufacturers or making McMansions in exurbia. What could be done to make things better is allow capital to slip away from these uses and towards what people want. Unfortunately, public policy is attempting to prop up both failing automakers and sagging house prices. Again, this will make the Depression worse.
We could go on. At almost every step, the reaction of policy makers is not only to not do helpful things, but to do exactly the worst possible thing. It's going to be a rough ride, folks.
Saturday, March 21, 2009
Your Single Best Investment
The notion that housing is an investment certainly has a lot of egg on its face these days. But behind every bubble, is a grain of truth. The truth behind the housing bubble is that affordable, paid-for, owner-occupied housing in reasonable repair is an excellent investment for many reasons.
What was lost sight of in the recent bubble was the affordable part, and the paid-for part. The system's idea of making housing affordable was to wildly dole out loans no matter how large, and uncovered by income.
The simplest rule-of-thumb for defining what is affordable is the house value should be no more than twice the household income. This is a figure that doesn't get much air time. More typical multipliers are higher. They are propogated by bankers (who want people to borrow money) and real estate agents (who want higher commissions).
People often buy houses to live in at an affordable multiple, but then hang on when market-based appreciation takes the multiple higher. This seems innocent enough, but is actually a mistake. The primary reason is the cost of property taxes which, in most places, is proportional to market value. The cost of both insurance and repairs typically rise to some extent with market value as well.
If you live in an area where you can't find a decent house in a decent neighbourhood for twice your income (or less), move to an area where such houses abound or accept that you will be a renter. It is as simple as that. Don't compromise the quality of the house or the neighbourhood to find a house to buy in an expensive area.
The paid-for part is very important. It is not an easy thing for renters to save up two years of income to buy a house. Mortgages are indeed a great convenience when used wisely; but absolute poison if abused. Once taken out, the mortgage should be paid as quickly as possible. The indebted owner should consider a severe austerity until the mortgage is extinguished - perhaps applying as much as half the household income towards it. This will pay off a mortgage on an affordable house in just a few years.
And now to the reasonable-repair part. There are two ways of turning your house into a money-pit. One is buying a house with excessive deferred maintenance, such as the "fixer-upper" that should have been torn down or the house that "just needs a new roof." A professional inspection before purchase may save a world of hurt after the purchase. Never buy serious problems, unless you are a skilled construction worker, or the price is low enough that you can perform the repairs within the overall purchase budget.
The second way to turn your house into a money pit is to over-maintain it. Your house is not a piece of precision military machinery, so it does not need to always be in tip-top shape. A little shabby is not a bad condition for a house to be in. Let the municipality tell you when you need to re-side.
The chief advantage of owning the house you live in is that you have avoided paying for two significant costs: the bank and landlord's profit on renting to you; and the taxes on the money you would need to earn to cover said profit. As an investment, the owner-occupied house has the benefit of a guaranteed customer and a return more certain than every other investment.
The affordable, paid-for, owner-occupied house in reasonable repair is a great benefit to households, and ultimately to society as a whole. This latter benefit is perhaps at the core of the good intention behind the out-of-control promotion of 'home ownership' at all costs - the paver that led the world to a bit of economic Hell.
What was lost sight of in the recent bubble was the affordable part, and the paid-for part. The system's idea of making housing affordable was to wildly dole out loans no matter how large, and uncovered by income.
The simplest rule-of-thumb for defining what is affordable is the house value should be no more than twice the household income. This is a figure that doesn't get much air time. More typical multipliers are higher. They are propogated by bankers (who want people to borrow money) and real estate agents (who want higher commissions).
People often buy houses to live in at an affordable multiple, but then hang on when market-based appreciation takes the multiple higher. This seems innocent enough, but is actually a mistake. The primary reason is the cost of property taxes which, in most places, is proportional to market value. The cost of both insurance and repairs typically rise to some extent with market value as well.
If you live in an area where you can't find a decent house in a decent neighbourhood for twice your income (or less), move to an area where such houses abound or accept that you will be a renter. It is as simple as that. Don't compromise the quality of the house or the neighbourhood to find a house to buy in an expensive area.
The paid-for part is very important. It is not an easy thing for renters to save up two years of income to buy a house. Mortgages are indeed a great convenience when used wisely; but absolute poison if abused. Once taken out, the mortgage should be paid as quickly as possible. The indebted owner should consider a severe austerity until the mortgage is extinguished - perhaps applying as much as half the household income towards it. This will pay off a mortgage on an affordable house in just a few years.
And now to the reasonable-repair part. There are two ways of turning your house into a money-pit. One is buying a house with excessive deferred maintenance, such as the "fixer-upper" that should have been torn down or the house that "just needs a new roof." A professional inspection before purchase may save a world of hurt after the purchase. Never buy serious problems, unless you are a skilled construction worker, or the price is low enough that you can perform the repairs within the overall purchase budget.
The second way to turn your house into a money pit is to over-maintain it. Your house is not a piece of precision military machinery, so it does not need to always be in tip-top shape. A little shabby is not a bad condition for a house to be in. Let the municipality tell you when you need to re-side.
The chief advantage of owning the house you live in is that you have avoided paying for two significant costs: the bank and landlord's profit on renting to you; and the taxes on the money you would need to earn to cover said profit. As an investment, the owner-occupied house has the benefit of a guaranteed customer and a return more certain than every other investment.
The affordable, paid-for, owner-occupied house in reasonable repair is a great benefit to households, and ultimately to society as a whole. This latter benefit is perhaps at the core of the good intention behind the out-of-control promotion of 'home ownership' at all costs - the paver that led the world to a bit of economic Hell.
Sunday, January 4, 2009
The Problem of Economising and Sunk Costs
Today's post may seem a bit technical, but it has everything to do with day-to-day decisions for ordinary people.
This subject came up for us when we were trying to think about ways to save on our phone bill. We pay a fixed charge for our phone service. It is the cheapest plan we can get. We never use all the minutes we are allotted, and if we talk evenings and weekends we can jabber on endlessly if we choose to.
Why is the economic system set up to provide an incentive to consume as much as possible? It is because the cost of much of what we consume is largely in the physical plant and not in the material processed or delivered. For telephone, most of the cost is in sending up all those satellites,laying all that cable, setting up the switching networks, and building those towers. Once the infrastructure is built, servicing and maintaining it all is not as costly. Utility companies recover their fixed, or sunk costs by charging customer fees to be hooked into the network, not so much for their usage of photons, water molecules or whatever. Another way this plays out is in property taxes for municipal services. People do not pay for fire, police, or streets on a per use basis.
A problem arises when one is trying to economise, and one hits the floor cost of a service. With telephone service, we can go to a pay-per-call plan. That option is not available for water, electricity, natural gas. If all you want is a little bit of light or heat, it may well be cheaper to burn kerosene for light and for heat, because it does not require an expensive, special distribution pipeline right to your door. What happens if a lot of people, on account of poverty, drop out of the utility system? That forces up the the connection fees to the remaining users and prompts more drop outs. An adverse positive feedback loop (vicious cycle) is engendered, threatening the very existence of the service.
We suspect such a dynamic will soon be at work in many areas. Highways in particular come to mind. The USA has 4 million miles (6.4 million kilometres) of roads and streets. Even at a conservative estimate of the average cost at $3,000,000 per mile, this assigns a value of $12 trillion to the country's public pavement - on par with the value of all publicly traded companies, or an entire year of GDP. As people begin to abandon their automobiles en masse, who will pay for the hefty annual maintenance of this vast piece of capital? Will mileage rates replace gasoline taxes as the State of Oregon is contemplating? Can property taxes on depreciating property cover street costs? Will general taxes be dubiously and destructively allocated to an obsolescing technology? (Answer: yes - see car maker bailout and Obama infrastructure plan).
Streets are arguably necessary, and will continue to be funded in some form or another as long as humans are civilised. Roads on the other hand, are almost certain to gradually fade away as people relearn to transport themselves and their stuff mostly on navigable waterways. Water transportation, though slow, is and always has been the cheapest, so we may as well plan for it.
This subject came up for us when we were trying to think about ways to save on our phone bill. We pay a fixed charge for our phone service. It is the cheapest plan we can get. We never use all the minutes we are allotted, and if we talk evenings and weekends we can jabber on endlessly if we choose to.
Why is the economic system set up to provide an incentive to consume as much as possible? It is because the cost of much of what we consume is largely in the physical plant and not in the material processed or delivered. For telephone, most of the cost is in sending up all those satellites,laying all that cable, setting up the switching networks, and building those towers. Once the infrastructure is built, servicing and maintaining it all is not as costly. Utility companies recover their fixed, or sunk costs by charging customer fees to be hooked into the network, not so much for their usage of photons, water molecules or whatever. Another way this plays out is in property taxes for municipal services. People do not pay for fire, police, or streets on a per use basis.
A problem arises when one is trying to economise, and one hits the floor cost of a service. With telephone service, we can go to a pay-per-call plan. That option is not available for water, electricity, natural gas. If all you want is a little bit of light or heat, it may well be cheaper to burn kerosene for light and for heat, because it does not require an expensive, special distribution pipeline right to your door. What happens if a lot of people, on account of poverty, drop out of the utility system? That forces up the the connection fees to the remaining users and prompts more drop outs. An adverse positive feedback loop (vicious cycle) is engendered, threatening the very existence of the service.
We suspect such a dynamic will soon be at work in many areas. Highways in particular come to mind. The USA has 4 million miles (6.4 million kilometres) of roads and streets. Even at a conservative estimate of the average cost at $3,000,000 per mile, this assigns a value of $12 trillion to the country's public pavement - on par with the value of all publicly traded companies, or an entire year of GDP. As people begin to abandon their automobiles en masse, who will pay for the hefty annual maintenance of this vast piece of capital? Will mileage rates replace gasoline taxes as the State of Oregon is contemplating? Can property taxes on depreciating property cover street costs? Will general taxes be dubiously and destructively allocated to an obsolescing technology? (Answer: yes - see car maker bailout and Obama infrastructure plan).
Streets are arguably necessary, and will continue to be funded in some form or another as long as humans are civilised. Roads on the other hand, are almost certain to gradually fade away as people relearn to transport themselves and their stuff mostly on navigable waterways. Water transportation, though slow, is and always has been the cheapest, so we may as well plan for it.
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