Through this Coronavirus pandemic, I have been noticing something strange happening to the Real Estate market concerning Cap Rates. If you remember I posted 2 papers on Cap Rates late last year. It is the way to value an Apartment Building. The way to value an Apartment Building is to take the Net Operating Income, cash flow, and divide it by the Cap Rate, a value used to price a property based on the Net Operating Income, the neighborhood and the amenities of the property.

The lower the Cap Rate, the higher the price of the property and the higher the Cap Rate, the lower the price of the property. For example, a property with a Net Operating Income of $200,000 and a Cap Rate of 5% values the property at $4 million where a property with the same Net Operating Income and a Cap Rate of 3.5% values the property at approximately $5.7 million. I have seen, in the past week or so, the Cap Rates go from 3% or 4% to 5% and higher, I even saw a Cap Rate of 7%. Which means that the value and cost of the properties are going down.

This is in a market where interest rates are at almost an all-time low and where single-family home prices are going up. So, the moral of this piece is that Apartment Buildings are a very good investment now. I don't know if this has to do with the Coronavirus or just a market adjustment. I thought that when the Cap Rates were in the 3% range that Apartment Buildings were overpriced and I suggested to my investor clients to purchase land and build their own Apartment Buildings. But now with prices so low, if you can find a property with the right Cap Rate, it is better to purchase an Apartment Building than to build one.

There are some renters who haven’t purchased a home yet because they’re uncomfortable taking on the obligation of a mortgage. Everyone should realize that, unless you’re living rent-free with your parents, you’re paying a mortgage – either yours or that of your landlord.

Today, rental prices continue to increase, and when you’re paying your landlord’s mortgage instead of your own, you’re not the one earning the equity. As an owner, your mortgage payment is a form of ‘forced savings’ you can use later in life to reinvest in your family. You can use it for a variety of opportunities, such as saving for your children’s education, moving up to a bigger home, or starting your own business. As a renter, it can be more challenging to achieve those types of dreams without home equity work for you.

So, buying a home sooner rather than later could lead to substantial savings and long-term financial growth for you and your family. Reach out to a local real estate professional to determine if homeownership is the right choice for you this year.

My name is Paul Levine and my email address is "PLevineRealtor@gmail.com and my cellular telephone number is (818) 298 - 4000.

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You may ask as a realtor, what makes me special? Here is my answer!!!

Paul Levine, What makes me special? I am probably the only Realtor in the State of California who was a practicing Certified Public Accountant for over 50 years before becoming a Realtor. My analytical skills are second to none and I still take CPA classes to keep up with the current tax laws and Real Estate investing. I was also an Associate Professor at a local University for 6 1/2 years and I negotiated many deals as a CPA including the sale of one of my clients to E I DuPont!!! I am 73 years old with the passion of a teenager but the knowledge and experience that no one else has!!! THAT'S WHY I AM SPECIAL!!!

California’s housing landscape is ever-evolving, meaning the rules and regulations that support a healthy housing market need to be constantly re-assessed. In 2020, the biggest obstacle confronting housing is the current inventory shortage, especially in the low tier where first-time homebuyers typically break into the market. The change on the table: adapting density and permitting rules to cure the shortage.

For example, consider California’s most populous city, Los Angeles. From the 1940s through 1990, development was fairly mixed, consisting mainly of SFRs and smaller multi-family dwellings. The direction of development was outward, creating today’s sprawling city (and infamous traffic problems).

But the past two-to-three decades have seen very little growth. Since the city has reached its horizontal limits, the only way to grow is up. Thus, the little growth that has occurred has been in the form of occasional large multi-family developments, according to a recent Zillow analysis. That being said, Los Angeles’ housing situation has remained largely the same in recent years, with very little growth.

During the 2000s, for every one new construction unit built in Los Angeles County, the population grew by two individuals. Considering the average household size fluctuates around 2-3 people, this rate of construction is fairly appropriate for a healthy housing market.

But in the years that followed, from 2010-2017, the average annual ratio was over twice that. For every new construction unit started annually, the population grew by 4.1 individuals in Los Angeles, according to the U.S. Census Bureau.

As a city stretches its boundaries further and further, problems get bigger. These include more traffic, longer commutes to city centers and more pollution. In Los Angeles and other large metros, the construction shortfall has led to record-high rents — the average Los Angeles renter is forced to spend 46% of their income on rents in 2019 — and record levels of homelessness.

Since metro areas can’t continue to build out indefinitely, increasing density is the only way to ensure the housing stock keeps up with a metro’s growing population.

Yes, in my backyard

Laws allowing for greater density have been slow to take hold here in California and across the U.S. That’s mainly due to vocal not-in-my-backyard (NIMBY) advocates who don’t want to see their “neighborhood character” jeopardized with an influx of residents.

These barriers to density are in fact barriers to economic growth and a more stable housing market. When NIMBYs win, it places real estate professionals in the position where they need to compete for a handful of listings in a given neighborhood, even when demand is high.

In turn, homebuyers are forced to either pay high market value or abandon the search in their desired neighborhoods. Sellers are hesitant to place their homes on the market for fear of being unable to find suitable replacement property in their neighborhood or budget, keeping inventory further in check.

The solution is so simple: more housing! first Tuesday has long advocated for increased density in desirable areas that are:

·        close to jobs, which means shorter commutes; and

·        near public transit, to relieve parking requirements that take up precious land.

The good news is that legislators are aware of the issue, and the solutions. Several new laws have been passed since 2018 aimed at increasing the housing stock, especially of low- and mid-tier homes. But more help is needed at the grassroots level. The loud voice of NIMBYs needs to be countered by reasonable calls for density in California’s urban cores. As real estate professionals, you are ideally placed to both see the problem and voice the solution.

Like I wrote before, last Thursday and Friday I attended a Continuing Education seminar given for Certified Public Accountants.  I was a practicing CPA for over 50 years before I became a realtor.  I still go to the CPA seminars on Real Estate Laws and Real Estate Investing.  There were some very technical items discussed that Realtors should only be aware of but should not give advice on. 

As Realtors we are not CPAs but should know when to tell our clients to seek tax advice from their tax professional and only hope that their tax professional is not H & R Block!!!  The new tax law (Trump's tax law changes from last year) gives the taxpayer a 20% Qualified Business Income Deduction for certain types of businesses and Real Estate might qualify under certain conditions.  There are hours and documentary requirements that your clients have to be aware of and their tax professional is the only one who can help them with that. 

If you have a client with multiple rental properties they may be able to group some of them and get a tax advantage.  If your client gets involved in a Section 1031 Exchange you should guide them to their tax professional.  In a Section 1031 Exchange, you can only defer the gain on real property, like-kind real property like an investment property for investment property and no tangible personal property.  Also, primary residences do not qualify for Section 1031 Exchanges, they have their own rules and everyone thinks that the rules are easy, a $250,000 capital gain exclusion for a single person living in a house or $500,000 for a married couple living in a house. 

Depending on the circumstances, the situation can become very complicated and that's when the tax professional should be called in.  There are more questions like, when is someone who owns Real Estate a Real Estate "Professional"?  There are different rules for Real Estate professionals and Real Estate Investors.  Well, I think I gave you enough information to know that Realtors are not supposed to or capable of giving tax advice to clients.  Realtors should have a relationship with a competent and professional tax advisor to refer their clients to. 

It’s exciting to put a house on the market and to think about making new memories in new spaces, but we can have deep sentimental attachments to the homes we’re leaving behind, too. Growing emotions can help or hinder a sale, depending on how we manage them.

When it comes to the bottom line, homeowners need to know what it takes to avoid costly mistakes. Being mindful of these things and prepared for the process can help you avoid some of the most common mishaps when selling your house.

1. Overpricing Your Home

When inventory is low, like it is in the current market, it’s common to think buyers will pay whatever we ask for when we price our homes. Believe it or not, that’s far from the truth. Don’t forget that the buyer’s bank will send an appraisal to determine the fair value for your home. The bank will not lend more than what the house is worth, so be mindful that you might need to renegotiate the price after the appraisal. A real estate professional will help you to set the true value of your home.

2. Letting Your Emotions Interfere with the Sale

Today, most homeowners have been living in their houses for an average of 10 years (as shown in the graph below): This is several years longer than what used to be the norm, since many homeowners have been recouping from negative equity situations over the past 10 years. The side effect, however, is when you live for so long in one place, you may get even more emotionally attached to your space. If it’s the first home you bought after you got married or the house where your children grew up, it very likely means something extra special to you. Every room has memories and it’s hard to detach from the sentimental value.

For some homeowners, that makes it even harder to negotiate, separating the emotional value of the home from the fair market price. That’s why you need a real estate professional to help you with the negotiations in the process.

3. Not Staging Your Home

We’re generally quite proud of our décor and how we’ve customized our houses to make them our own personalized homes, but not all buyers will feel the same way about your design. That’s why it’s so important to make sure you stage your home with the buyer in mind. Buyers want to envision themselves in the space, so it truly feels like their own. They need to see themselves in the space with their furniture and keepsakes – not your pictures and decorations. Stage and declutter your home so they can visualize their own dreams as they walk through your house. A real estate professional can help you with tips to get your home ready to stage and sell.

Bottom Line

Today’s seller’s market might be your best chance to make a move. If you’re considering selling your house, sit down with a local real estate professional to help you navigate through the process while avoiding common seller mistakes.

When you ask a Commercial Real Estate professional, “How do you value an apartment building?” you are going to get an answer that will be centered around Cap Rates or Capitalization Rates.  I published an eight-page paper on Cap Rates on this site over the past couple of months so you should have some understanding of the calculation.  Basically, it is taking the Net Operating Income and dividing it by the Value of the Subject Property.  What is net operating Income you ask.  Net Operating Income is the Rent Income for a year, the last year, less all of the expenses related to renting out the apartments and keeping up the property excluding Mortgage Interest Expense and Depreciation.

The Real Estate professional is giving you the “Real Estate Professional’s” answer.  You have to remember that I was a practicing Certified Public Accountant for over 50 years before becoming a Realtor.  So, I look at an apartment building as a Business and as Real Estate.  Net Operating Income (NOI) is just a profit and loss statement excluding the Mortgage Interest deduction and Depreciation.  As a Certified Public Accountant part of my practice was doing “forensic” accounting.  The word forensic means “dealing with the courts.  So, I worked with attorneys on civil lawsuits determining damages and valuing lawsuits.  I also worked on divorce cases and in many instances in these types of cases I had to value a business and then testify in court as to how I reached my conclusions.  An apartment building is a business!!!  So, according to the textbooks, you take the projected cash flow for the next 5 years and bring it back to present value using a reasonable interest rate and add that number to the value of the assets and you then have a business valuation.   

Now, I just want to add something about valuing single family residences.  You value a single family residence, in almost all cases using “comps” or comparables.  You look at the sales of similar residences for the last 30 to 90 days and compare those homes to the home you are valuing.  You make adjustments for the differences in square footage of the home, number of bedrooms and baths, square footage of the lot, and amenities such as a pool or a spa, etc.  In valuing an apartment building you also use “comps” but you use comps for the cap rate.  The cap rate will be different in different neighborhoods, it will be different based on the size of the apartment building and the amenities in the apartments as well as the size of the apartments.

But there is one thing that I cannot put in this blog and I cannot teach you and that is JUDGEMENT!!!  When you value a business or an apartment building you do it using the replacement cost method, the income approach and other computations that fit that certain type of business.  Accounting practices are valued based on a factor of Gross Income as are doctor practices.  You take the gross income and multiply it by 100% to 150% and add the tangible personal property and you get a value.  So, you end up with 3 or so values that should be similar but may, in some cases, not be similar.  That is when JUDGEMENT or EXPERIENCE comes in.  As a professional you have to look at all of the different calculations and see which best applies to the situation and weigh the values based on the method of computation.  You gain that insight by education, by doing it over and over again and learning each time you do a valuation.  That is because no two valuations are the same.

If you ask someone without foresight, they are going to tell you that you can value an apartment building, an accounting practice or a grocery store by plugging numbers into a formula.  Unfortunately, that’s the way many accountants and valuation people do it.  But, in reality there are differences, although sometimes subtle, between every business.  No two businesses are exactly the same and that means that you CANNOT just plug numbers into a formula, you have to evaluate the differences in the different entities that you are valuing to come up with a correct or proper valuation.

My name is Paul Levine and I am the Commercial Real Estate Manager of CROWN REAL ESTATE & FUNDING, INC. and you can reach me at (818) 298 – 4000.  The one thing I did not mention in this article is that I was an Associate Professor of Accounting at California State University – Los Angeles for six and a half years so I can teach you how to do this, but you need creativity, foresight, patience and initiative to learn it.