Owners and lenders grapple with value drops in Ann Arbor student rentals
One local barometer of the economy is Ann Arbor’s student rental market, and a recent read of the 2010 leasing season shows improvement on occupancy and some stabilization of rental rates.
Both are good news for landlords.
But the bigger picture of the student housing market remains a concern, thanks to multiple factors: The lending market, years of softness that now affect values, and the growth in housing options for University of Michigan students.
The growth in housing options is obvious downtown, and promises still more change: Developers gave up on a lot of downtown construction, except in the student arena. At least two more high-rises are likely to join the existing mix, which includes three newer facilities: the North Quad dorm, Zaragon Place and 4 Eleven Lofts.
The lending climate also has been documented: Banks, having spent the last two years struggling amid chaos, clamped down on lending for these properties, following the lead of their regulators.
And they’re still not loosening up on mortgages for student rentals, I’m told.
Now, adding a new dimension to the picture is the change in value on the properties.
It’s only been five years ago that the area recorded record bumps in campus housing prices; some properties that sold at that time - described as the top of the market - sold yet again for still more in a year or two, effectively teaching investors that it was still possible to “flip” certain properties in this market.
What did that “top of market” promise an investor?
I recently looked up my coverage of the listing of a group of five student properties listed for sale by Three Oaks Group in 2005 on North Division Street.
The clustering of homes created excitement when the listing hit the market for the opportunity to own the sheer volume of rentals on a single block.
“This is about as good as it gets in terms of U-M student rentals,” Bill Godfrey, a Three Oaks partner, told me at the time.
The listing also created buzz from the asking price: A collective $3.45 million, representing a rate of return of 6.6 percent for an investor.
But that number was based on increases in both costs - like property taxes and insurance - and the gross rental rate.
Looking back, even though the average price per square foot for investment property grew in Ann Arbor from $173 in 2004 to $218 in 2005, the rental rates, on average, did not make that same climb.
And in the years since, they fell. Even today, as some landlords speak of flat or small increases in rates for this school year, others panicked and lowered them.
So while a look at the student housing market shows decent occupancy, an underlying issue is the fact that many landlords - particularly those that purchased or refinanced after taking out value in recent years - have negative cash flow.
In other words, they’re not making money - even if the property is occupied.
And now Realtors and lenders are joining some of those investors in mitigating the damage from a corresponding issue: falling values in the sector, which some experts estimate at 25 percent.
Buyers who invested a more conservative 20 to 30 percent downpayment before taking on a mortgage for the property have a chance of staying ahead of the loss.
But the buyers who leveraged a low downpayment now find themselves “under water” on their loans.
What’s happening now in Ann Arbor is that some of those loans are starting to go into default; other owners are struggling to keep pace with the value drop, which is directly tied to the income stream.
At one time, campus rentals were golden - and they made a lot of people in Ann Arbor a lot of money.
Today, the buyers who are able to purchase the properties for cash will pay prices close to eight times the rental stream - compared to 11 times the rental stream in 2005.
And there’s still no market for mortgages.
So experts expect a major resetting of purchase prices in coming years as these value drops and cash flow issues take hold in the market. “It’s getting to be a disaster,” says Jim Chaconas of Colliers International.
He adds: “It’s causing a lot of problems for a lot of people who thought they could retire on (their student rental investment).”
The average student renter may not see a difference, or they may see some “sweeteners” from their landlord when it comes time to renew.
But the ownership trends of the properties could dramatically shift, as some owners fight to hold onto the property and banks step in to control others - while buyers with cash, and possibly lowball offers, become the only exit strategy for both.
Paula Gardner is Business News Director of AnnArbor.com. Contact her at 734-623-2586 or by e-mail. Sign up for the weekly Business Review newsletter, distributed every Thursday, here.
Comments
Dalex64
Mon, Sep 20, 2010 : 7:52 a.m.
You're right, I had the terms SEV and taxable reversed.
John Alan
Mon, Sep 20, 2010 : 5:46 a.m.
Dalex64, Thanks for the comment but I think you got it backward!!!! Taxable is capped and the SEV is the representation of the 50% of the True Cash Value of a property and it will go up by the market. Since you said your house is the other way, you may want to talk to the City and get it figured out. Also, what I was talking about was just about rental homes that are around the university not everywhere on campus!!
regularjoe
Mon, Sep 20, 2010 : 12:31 a.m.
John Alan, You hit the nail on the head. I too have no sympathy for the banks that made bad loans at the height of the bubble, nor do I feel sorry for the way over-leveraged landlords that are underwater on their mortgages. Poor business decisions being made all around with no one to blame but themselves. Some disclosure: I am a landlord that has nice properties in and around the student ghetto. I have always been fully occupied and have always been able to raise rents every year, (some years less then others). Why? Because I have nice places and take care of my "customers". I know my business. My places are well cared for. I work for my referrals. I've created demand for my places. I didn't refinance and take all the money out at the height of the insanity, because business is cyclical. You can't panic on the down times or get too greedy during the prosperous times. I put some money back into the units and I'm rewarded with a steady flow of residents that appreciate nice housing. I even answer my phone when they call for maintenance! I've been in most of the houses/apartment buildings that have come up for sale in the last 20 or so years in the SG and was always amazed at the crazy offers that people would throw at the sellers. Offers that were guaranteed to negative cash flow indefinitely. And the banks were only to happy to take 10% down or less for something selling for 12 x's the gross and more. Unbelievable. I wouldn't even bother to make an offer. Well the crows are coming home to roost. There are others like me who will welcome these properties coming back on the market at a sane price. It's happening right now. Reading all the opinions of the landlord haters is always amusing. I'm on campus and downtown every day. I see what's going on and know who the true slumlords are. The ones that really try to gouge the students because they themselves either made bad business decisions or they have no clue about property management. The city inspectors know these slumlords too. Believe it or not, rental housing is inspected by the City every 2 years or so. It's always the same landlords that the city fights with. In the end nothing is going to change as long as the U keeps increasing enrollment. The kids gotta live somewhere. And there will always be slumlords. And there will be good guys like me saving to put my kids through college, working hard every day staying on the good side of the landlord bell curve..
Dalex64
Sun, Sep 19, 2010 : 7:18 p.m.
John Alan, The SEV is not raised or lowered on its own. The taxable value is what is set, and the SEV is adjusted to approximately 50% of that. However, because of the law, the amount the SEV could go up was capped at the rate of inflation, or 5%, whichever was lower. My Ann Arbor home saw the taxable value drop for several years. The SEV continued to rise, however, since the SEV was still less than 50% of the taxable value. Finally this last year, my SEV did drop a tiny bit. I think for almost everyone the SEV has caught up to where it would have been, had that law not been passed. So, the SEV will start to drop. Ironically, now that the SEV will be dropping, the rental owners will also be getting a bit of a break in their taxes, lowering their expenses. I'm sure it's a small consolation for the drop in asset value and underwater mortgages and whatnot.
Huron74
Sun, Sep 19, 2010 : 6:48 p.m.
Alpha Alpha You are so right about that aspect.
AlphaAlpha
Sun, Sep 19, 2010 : 4:35 p.m.
Look at the bright side of falling property values: Remember hearing of the 'need' for 'affordable housing'? It's beginning to happen. The longer term ramifications of lower prices will likely be profound.
John Alan
Sun, Sep 19, 2010 : 2:23 p.m.
Interesting article.... I guess sad days are coming for City of Ann Arbor Assessor's office since finally it is becoming public that the prices are coming down and they need to start droping the SEVs (rather than raising them!!!!). Banks knew what they were doing once they required only 10% down and provide interest only loans and etc... Now their greed has caught up with them and they are going to end up with a bit of a hair cut. Simple: BANKS made VERY good profit on loans for these houses now they give some back in the form of loss. So no one should feel sorry for the banks. People who bought the properties on speculation and thinking that they take some years of loss and then make it up in huge capital gain are suffering since their calculation did not pan out. So they should just bite the bullet and deal with it. No reason to cry and whine -- it was negative cashflow from the get go so nothing has changed except the speculation of the future value did not pan-out. Ofcourse we have a R2A/R4C committe in City of AA planing that are trying to down-zone the R4C reducing the number of occupancy in R4C which will really KILL the student housing values (less occupants... less income.... lower value of the property). All these said, no one should worry, things will work out at the end of the day... some lose, some win, and life will go on.
Speechless
Sun, Sep 19, 2010 : 2:11 p.m.
"... Looking back, even though the average price per square foot for investment property grew in Ann Arbor from $173 in 2004 to $218 in 2005, the rental rates, on average, did not make that same climb." "... In other words, theyre not making money -- even if the property is occupied...." "... buyers who leveraged a low downpayment now find themselves "under water"...." A translation of the above into new-age lingo:  This is called Karma. Not just in recent years until 2007, but going back to the 1960s, the campus rental market operated as a cash cow for most of those able to participate as landlords. The captivity of a student market drove rising profits, as fast-increasing demand due to the postwar growth of the university failed to generate a corresponding increase in supply of campus residential units. Eventually, students started bringing cars with them and began moving farther out from campus. The weakening effects of that trend were, before 2007, temporarily offset by profits from rapid 'flipping' in a housing market that emulated the free-market heyday of Dutch tulips so long ago. Today, the flipping of old houses near campus likely makes less than flipping burgers. Zaragon I & II, 4 Eleven Lofts, and North Quad place thick icing on the cake. The sky is now dark with former cash cows flying home to roost.
AlphaAlpha
Sun, Sep 19, 2010 : 9:11 a.m.
Great article. Hopefully, you will continue to share 'quotes from the peak' from time to time. Humans typically do not recall social mood; these quotes help. US real estate prices topped 2005-2007. Remember when everyone 'knew' real estate prices only rose? The real estate agents (so-called 'realtors') and mortgage lenders said it was so. Much like stock prices in 1999. US real estate (and stock) prices are down ~35% from their peaks, and if this downturn rhymes with its historical analogies, we are yet only half way to the bottom in terms of prices, a bottom which, typically, would occur around 2017. At the bottom, everyone will 'know' real estate (and stocks) are bad investments. Novice purchasers, who 'had' to own property, and bought near the top, will lose more than they thought possible at their time of purchase. The comment above about maintenance is astute; we can expect a general reduction in the upkeep of most properties. At some future time during the eventual upswing, an upswing which most assuredly will occur, renovations will again become popular, this time basic renovation like paint, not granite countertops. It's all about social mood; and reboots thereof. Nothing new. If you'd like a preview, look at the 1930's US, or 1990-2010 Japan. Events here are rhyming nicely with events then. The recent rally in social mood (from March 2009) appears to have concluded, sentiment is high enough for the next leg down to begin, likely within the next couple months.
AA
Sun, Sep 19, 2010 : 8:08 a.m.
Alot of Ann Arbor residential properties (student rentals) are really starting to look neglected. People rip on Ypsilanti, but watch out, alot of A2's overgrown streets and neighborhoods are looking pretty shabby.
A2artteacher
Sun, Sep 19, 2010 : 7:55 a.m.
I live just south of the campus area, and some of the houses in my neighborhood which were no longer profitable as rentals have been sold to owner-occupiers. All of a sudden, the places have gone from crummy looking to cheerfully repainted with flowers on the porch. Now that there is so much more student housing downtown, coupled with the drop in the price of housing, some of the HOMES of Ann Arbor can go to people who care to live in and invest in the house, instead of the absentee landlords.