Wednesday, January 31, 2007

'You're Not Losing Anything If You're Not Selling It'

From the Stockton Record:

Dolly Cruz, a Bay Area investor who a year ago bought a single-family home in Lathrop's Mossdale Landing development for $625,000, figures if she had to sell now, she would lose $100,000.

The house is rented out at $1,500 per month - not even enough to cover the mortgage payment, she said, but she is still confident in the long-term real estate market and isn't upset about the slowdown.

"Even though the price is down, you're not losing anything if you're not selling it, is the way I look at it," Cruz said.
It must have been the toolbox and blanket!


Lander said...

Thanks to a reader for posting the link.

JR said...

Brilliant! Assuming she put 25% down, her monthly carry is $3700 PITI (excluding HOA and bonds, if any). Her $125,000 down payment buys her $2100/mon in negative cash flow. She loses $25,000 each year she hangs onto this millstone. If the property drops 20% in value (and it will probably be more) she loses her $125,000 down payment, if she sells.
According to Business Week, it is unlikely we will see any appreciation above 2005 prices until 2015 or later. Hmmm, so she can sell now and lose $125,000, or wait 10 years and lose $250,000. I guess she is choosing death by cash flow. There seems to be a lot of Flippers choosing that route. It won't take long for the pain to get overwhelming. They will start throwing in the cards after the first 12 months. A lot more of this to come.

drwende said...

jr, you are so on target!

My theory is that "death by cash flow" has a couple of advantages for specuvestors:

(1) It lets them continue to believe that rents will skyrocket any minute now. Using your $3700 carrying costs and assuming a 10% annual rent increase -- which is substantially more than the region has seen in living memory -- she'd need 12 years to have a single year in which she breaks even and 20 years to overcome the effect of all the years of negative cash flow.

(2) It prevents them from having to dig into their pockets to pay off the mortgage. I suspect the same people who can finagle another couple thousand a month to cover negative cash flow cannot come up with $125,000 to make up the difference between sale price and mortgage.

What I'd like to know is the tax implications of taking the loss in dribbles versus in one agonizing amputation. Anyone know?

drwende said...

Oops -- I put $1300 for rent rather than $1500. Make that 11 years to break even in a single year, then 18 years to break even overall.

But since rent won't increase 10% a year for 11 years, my original numbers are still too optimistic for reality.

Go for average annual rent increases of a more reasonable 3%, and she'll never break even over the life of the mortgage. She'll end up losing almost half a million just on the difference between rent and carrying costs.

drwende said...
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Anonymous said...

Rent losses are subject passive income rules unless she is real estate professional, then she can deduct them against ordinary income.

Capital loss has to be offset against capital gains, except for $3000 deduction against ordinary income for maybe 15 years.

I would say taking the loss in the axx now is better than slow death of renting the stucco crap box out.

Rentals can be a pain in the axx. Yeah she is pretty much screwed, nothing will save her.

TS said...

Buying lottery tickets would have a better bet than buying a home in this least you have a mathematical chance of coming out ahead.

drwende said...
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Anonymous said...

Bakersfield bubble has a couple more subprime fatalities. Subprime is going down the tubes.

Marin Family Guy said...

Her payments are almost certainly below $1,500 per month, because she probably took out a negative amortization loan and doesn't realize she owes more every month. I don't know anybody who could be so blite about being $25K negative every year.

Gwynster said...

I spotted this gem on CL tonight:

$1300 / 3br - I dont give a crep about your credit, money talks
Reply to: see below
Date: 2007-01-31, 9:37PM PST

3 bed 1 bath 1 car garage, nice size back yard no sob stories or bullshit, i need a tenant and need one now, you want it, you got it, money talks very loadly to me, bullshit keeps walking, call Glenn 916-416-6177

cats are OK - purrr
dogs are OK - wooof
Location: elverta
Posting ID: 271633589

Gwynster said...

Holy Cow!

The listings for rentals in Davis are exploding all of a sudden. I'm not sure why but there are more 3 Br sfr rentals then I've even seen before, even during the busy late summer months.

There also doesn't seem to be any rhyme or reason to the asking prices - anywhere from 1300 to 1950 for really comparable homes.

It's about time something exciting happened in Davis besides students cracking under the pressure and committing suicide.

patient renter said...

I wish I could say the same thing for Folsom rental inventory, but I notic the exact same thing with the price ranges: they are all over the place! I've seen comparable homes rent from 1400-2200. It's crazy.

Anonymous said...

Americans' personal savings are at a 74 yr low. The savings rate has been negative for 21 months in a row (ie spending more than they make; going into savings to spend). 74 years ago, we were in the Great Depression when Americans dipped deep into savings to get by. I almost bit the bullet and thought that this might be a bottom in housing (with all the data from Dec coming out, although maybe helped by the weather), but seeing how for almost 2 years, Americans have spent more than they earn, while we've been saving as much as possible, I've gotten back on the "perfect storm" train.

Anonymous said...

She will $200,000 under in a few months.

drwende said...

Wowza -- as a means of avoiding real work, I did a quick back-of-the-envelope comparison of what happens if you bought at the top of the market versus buying where I think the bottom will be (median price around $250k in non-inflation adjusted dollars).

Once you include property taxes, it's the difference between never turning an overall profit at sale, once you include losses on carrying costs versus breaking even on rent in about 5 years, then doing nicely thereafter.

Guess it wasn't all that vital to "get into the market" at any cost.

JR said...

Gwynster, What you are seeing in the Davis housing market is an exact repeat of the 1990-1996 housing correction. It is difficult to sell a house, the owners then rent it out. Suddenly, you have 20% more rental units available. This drives the rental prices down, yet does little to help overall occupancy. In 1994-96 I watched a lot of apartment owners lose their units to foreclosure after paying top dollar in the late 1908's. Rents dropped 15%, occupancy dropped to 80%, and they became F'd Investors. Stage I is now happening. More to come. Ask Neil for more popcorn. This will be a double feature!

Gwynster said...

I've been watching the fallout trickle into the market here for 18 mos. I expected to see the flood gates open in late June through Sept as sellers here realized that the spring bounce was more of a flop.

In short, knew it was coming but didn't expect it quite yet.

I also expect it to really cause some drama. People have been buying here to get "free rent" for the duration of their child's stay here in Davis. So people who bought in spring 03' (assuming an undergrad) will be listing their properties now. They may have some room to negotiate but are the locals going to hate them as they drive the comps down. Remember - half of this town is retiring in the next 1 to 5 yrs or so it seems.

The real pain will begin next spring for those proud FB parents who bought in 04.

I'm hoping to capture some great photographic moments for my future pulitzer >; )

Anonymous said...

Ofcourse she's not losing ... the property tax bill proves that its worth 625K. Yea.

drwende said...

Heck, the property tax bill is probably on an assessment of $640k.

Wait until she petitions the assessment down to get some property tax relief... only to have the mortgage holder demand PMI because the loan is for more than 80% of the value of the property.

anon1137 said...

Hey Gwynster - I have a cousin whose parents bought a house in Davis for him while he was going to school there in the 70s. They kept it as a rental for something like 20 years - it was out on L St., I think - a little bit of a dump, but OK for students. So I guess everyone doesn't sell when their kid graduates.

Anonymous said...

Anon 1035
"Americans' personal savings are at a 74 yr low. The savings rate has been negative for 21 months in a row (ie spending more than they make"

Add to that personal debt, government deficits, a dollar falling by nearly 40% since 2000, US trade imbalance, etc...your perfect storm looks like Japan of the eighties. Not the right ingredients for a healthy and prospering real estate market

Anonymous said...

Anon 612

Regarding subprime loans. put out a report in Dec. '06 regarding subprime loans, foreclosures, and the effects on the overall market. Basically states that 19% of subprime loans done over the last two years (approaching 25% of the total loan market over this two year period) are likely to fail. Over the course of the 5 year boom they project 2.2 million subprime households will fail. I wonder what the subprime market is and was over that period for Sac? In any event this presents just overhang of many that's likely to keep prices down and the market stagnant.