Will the Lending Community Support This Emerging Market?
As real estate markets transcend with new advanced technology and mandated building code adoption, two demographic markets could drive major shifts in real estate for smaller square footage homes.
As of 2016 there were over 74 million baby boomers in the united states. At least a quarter percent of Americans are now reaching retirement age, requiring developers to re-examine their approach to serving this market. Many baby boomers are facing sobering realities and realigning their property ownership needs.
Financial challenges due to increased property taxes, often as much as $2000 a month for higher property values in certain regions are forcing some retirees to sell their homes. Larger, dated homes also encounter increased maintenance costs and utility operating costs; which many retired homeowners find financially unsustainable due to fixed incomes and savings depletion.
According to various population studies millennials now make up between 81- 79.8 million or over 27 percent of the U.S. population. This generation of 18 to 34-year-old adults now represents the largest sector of the population. But, studies are finding that Millennials are not adopting traditional modes of living as earlier generations, especially with decision making for home and car purchases.
Millennials are living with their parents longer, saddled with student loan debt and many can’t afford to purchase in desirable high cost regions. High-cost real estate markets like California where the median home price is as high as $750,000, makes it impossible to afford or qualify for financing.
Realtor.com’s blog, Real Estate trends in 2017, predicts their number one trend to be micro-apartments a fast growth market. Micro-apartments or condos selling in New York, Los Angeles and Seattle are as small as 250-365 square feet. These units are proving to be more affordable than studio apartments, for those desiring a micro living lifestyle; include all sorts of amenities, such as convertible furniture and cleaning services.
Even though the demand for tiny homes is predominantly driven by baby boomer and millennial demographics, data shows that homes have actually increased over 362 square feet between 1990-2016, while the lot sizes have decreased by as much as 1280 square feet, driving high-density, new-urbanism projects to emerge in many cities. Kleber and Associates, a building product marketing company’s data also reflects tiny homes trending.
Finding comparable properties with similar square footage is one of the greatest challenges when considering building a smaller or tiny home. According to an informative real estate article published by the Sacramento Appraisal Blog, Principles to Remember When Pricing Square Footage in real estate, smaller homes typically sell for higher square footage prices.
Appraisers are required (Fannie Mae, FHA, Freddie Mac) to use a paired-sales comparison appraisal methodology for residential properties. This approach can be challenging in neighborhoods where the houses are considerably bigger than the subject property due to lending and appraisal guidelines. There is a threshold of comparison adjustments that appraisers must use, i.e., 10 percent adjustments on land and aggregate adjustments not to exceed 35% overall. For example; a 1500 square-foot home compared with a 500 square-foot subject property, would exceed the threshold allowance adjustment, with an adjustment estimated at around 60 percent. Therefore, the property would not comp out or qualify with conventional financing.
Another prevalent guideline concern is the required land-to-home ratios. Fannie Mae guidelines, (most widely adopted in the financial industry) requires land values not to exceed 40 percent of the home value. There are exceptions to these rules. For instance, if appraisers can prove marketability and include other high land value comps, underwriters can usually make exceptions. It all comes down to marketability and salability; if the market acceptance is relevant and other real estate sales can support these variances, exceptions can be made.
If you randomly asked a dozen people what their definition of a tiny home is, you would get varying and diverse descriptions. While a percentage of tiny homes are similar to mobile homes and include wheels, which poses yet another financing challenge, many are built on foundations and can be financed if a marketability approach is conceivable. People choosing to include mobility and construct on a trailer, should be cognizant of the potential challenges for financing or resale challenges. These homes are unique and finding a buyer who can pay cash, or a lender to finance it, could be a potential hindrance.
Financing mobile tiny homes can be problematic; tiny homes built on a trailer and wheel foundation can also be unsafe when serving as a permanent living structure. Think durability; and how a tiny home, much like a mobile home, can be hazardous in inclement weather and regions ridden with hurricane or tornados. And then there’s climate change and the resiliance of the building to consider.
A recent MarketPlace.org blog highlights tiny home financing issues and reveals plans for a new pilot program rollout with Fannie Mae and Freddie Mac. Pilot lending programs are used to adopt and expand new guidelines for emerging housing markets, a perfect fit for the tiny home movement. According to Bloomberg, the article states, the tiny home Fannie Mae pilot program could be in effect as early as January 2018. Fannie Mae, Freddie Mac and especially HUD are working to find solutions to solve the affordability home market crisis for years.
Still there are viable ways to fund these projects, either as a one-off approach, or developing a tiny home sustainable community. Here are some creative approaches that could be a work-around for current financing challenges:
1. If you have enough cash to build the home, finance the land separately and pay cash for the building construction. Land loans are readily available with local banks or credit unions, usually with a 20 percent down payment requirement.
Land loan financing terms can vary, some financial institutions do offer a straight 20-25 fixed loan amortization; but it is common for banks to only offer a 5-10-year adjustable rate term with a 15-20 year amortization. This can be an issue if the loan comes due in 5-10 years, but if the land needs to be refinanced, the lender should not have an issue with including the building (as long as it meets municipality building code), since additional collateral would improve their investment risk. Also, in that timeline, there could be other comparables available for smaller homes that would allow owners to cash out and pay back a portion of their original investment.
2. Developers or builders constructing multiple tiny homes can structure purchases, closing cash transactions on the first -3 homes to allow these comparables to be used. This method could prove problematic if adjacent neighbourhood homes are much larger than the tiny home community.
Another approach that developers, builders or land owners could implement; a legal condo or townhome development or a horizontal condo regime. This model serves as an excellent platform, especially if there are condominium projects nearby that would provide data for comparable home sales and square footages.
3. Friends, family or neighbours, etc., desiring a tiny home or sustainable community development approach, could combine their efforts, acquire a larger parcel of land, and implement the required building requirements for entitlements to plat the projects for multiple homes to be built on the land.
4. A viable alternative could include constructing a smaller, not so big home, around 700-800 square feet. Having the smallest house in the neighborhood isn’t always a bad option; smaller square footage can sell for more. In fact, if you conditioned storage area space, contiguous to the main unit, would allow counting that area in the total square footage. This is certainly a more marketable approach and preference to a larger sector of the market.
Green Energy Money posted a video in 2015, at Tiny Home event hosted by the Houston Sustainability Office. The event turnout, hundreds of people showed up, was a great surprise to the presenters and Houston builder community who didn’t realize the interest was so great.