Ann Arbor – 2013 Rental purchases

Why so many rentals in Ann Arbor?

 

It was time to gather a bunch of rental data together in order to be able to handle more rental property appraisals when the time comes. I was expecting that I’d find 20 or so houses/condos that had been purchased as rental properties in Ann Arbor, but to my great surprise, I located at least 49 condos and 17 houses, all purchased to be income producing properties within the past year! This represents only those transactions that were completed through the multiple listing service, indicating there are likely quite a few more. In one area alone, 32% of the sales were sold to would be investor owners.

What does this mean? It means that buyers are optimistic about the ability to buy a property, and rent it for a profit. They are optimistic that when they do eventually sell, they will sell for a profit.

What makes these buyers so optimistic? Is it the belief that the market is going to continue to increase at the current rate, or that there are going to be more and more renters in the market?

My thoughts on the increasing number of purchases as rentals is that mortgage interest rates are still low, even on income producing properties; that the buyers of these properties are expecting to rent for a few years and then sell at a profit when the market has reached a point where they see another peak; that the income is high enough to carry the mortgage, insurance, vacancy and reserves; and there is the expectation that there will continue to be a number of quality tenants available.

Think about this – once interest rates start to increase (and they will), affordability will decline unless prices decline as well. There are costs of home ownership over and above the mortgage and tax payment. There is general maintenance and upkeep as well as significant improvements such as replacing cosmetic items and mechanical/structural components. Home ownership, although attractive, is not for everyone. It is not attractive to people who plan on staying in an area a short time as they would essentially be playing the market if they bought and needed to sell in a couple of years. The downturn that was experienced in the Ann Arbor market from 2005 through 2010 is a good example of why a short term stay may make a purchase inadvisable.

Take for example a $139,000 condo that currently rents for $1,500 per month (real example from the search results). If the buyer bought the condominium with a 25% down payment, they started with around a $104,500 mortgage, and if the rate of interest is 5.5% (1% over owner-occupied rates) they have a mortgage payment of around $590 per month. Add in the condo fee of $275 per month, and taxes of $305 per month and the entire payment is $1,170 meaning they are clearing $330 per month that can be set aside for repairs, improvements and vacancy loss. They are locked in to this nice low rate and have a property that is easy to maintain and pays for itself after the cost of the down payment and closing costs. In ten years, their mortgage balance should be down to around $86,000 all the while having someone else pay the mortgage. Even if that owner sold at a level price they would have recouped their initial investment of around $40,000 and had cash coming in on a monthly basis, plus realized the benefit of a tax write off.

At this price, and at this rental rate, the purchase makes sense to some investors even if the market stays level.

There are pitfalls to this purchase though: the market could decline, leaving the owner in a negative equity position; the condo association could become insolvent, leaving the owner with a larger association fee than previously expected; tenants could refuse to pay rent and drag out the eviction process and destroy the property in the interim; the condo complex could become heavily investor driven, losing some financing options which could easily affect the resale value of the property, etc.

(to be continued on next blog post)

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