High Home Prices - Who is to blame?

Higher Home Costs. Who’s to Blame

I see it or hear it pretty much every day. Home prices are too high. Because they are too high, they will need to crash. So who or what is really to blame for these nosebleed home prices? It’s not a simple answer as there are a lot of elements that make up the problem of high home prices… And by saying the problem, that is obviously in the eyes of a home buyer… because home sellers absolutely love it! 

When doing the research for this video, I even saw one Wall Street economic advisor blaming the baby boomer generation! Talk about a surface level reasoning. He felt that baby boomers getting divorced and thereby needing two houses for every couple was the reason for high prices. No. That’s not it. 

Real quick. My name is Jeff Chubb and I am a retired investment banker turned real estate agent that has sold more than a 1,000 homes and am one of the top real estate agents in Massachusetts. If you have real estate questions, then I am here to help. 

The simple reasoning is Supply and Demand. Demand is outstripping supply which is creating a low inventory environment and a market of scarcity. Any time resources are scarce, then prices go up. 

But WHY is this the case? Again, there are many foundational reasons that contribute to higher prices. It’s not just one. And I should also mention that I personally have benefited from most of them. I am not saying to get rid of them or even change them. The goal of this is to shine the light on the real culprit of why housing prices are high. Then from there the conversation can continue on if we want to fix it and how we would. 

If you were to point to who is the biggest culprit of high housing prices, then get the pointy finger ready and point it directly at the Federal Government. And they do it in a lot of ways. 

Keep in mind that any time that something is subsidized or incentivized then that means it creates extra demand and thereby higher pricing. 

The first and probably the largest way they do this is through lending. But they do it in many ways. 

The first way is through insuring lower down payment mortgages. The government does this through their Fannie Mae, Freddie Mac, FHA and VA programs. They provide assurances to banks thereby reducing the risk that a bank has on a lower down payment borrower. With a reduction of risk, then that means the bank is more than willing to provide loans to potential lesser qualified borrowers. 

This increases the demand for housing as it allows more buyers the ability to buy. Again, don’t get the pitchforks ready to attack me. I am not saying this is wrong. I have used these programs myself when buying my first two properties. For my first property, I put 3.5% down, 10% down on my second property and went conventional on my third putting 20% down. 

But it’s a fact. Had the government not subsidized my initial mortgage, then I would not have been able to buy my first or second house. That’s a fact. The government created housing demand by providing me the ability to get a loan with a low down payment. 

But that’s not the only way that they do this through mortgage loans. They also manipulate the market through loan limits. The loan limit this year in Boston for example is $828,000 for a single residence. And up to $1.592 million for a fourplex! These limits change each year and are based on how expensive the area is. 

To put it another way, the government is subsidizing mortgages of up to $828,000 for a single residence like a Single Family or condo and up to nearly one point six million for a fourplex multi-family. So to clarify, you can put 3.5% down on a $1.6 million dollar multi-family because the Federal Government subsidizes mortgages. Again, what they are doing here is increasing the demand for how many people can buy properties. Increased demand means increased pricing. 

If the government was to stop subsidizing mortgages through low down payments or even throttled back how much of the market they subsidize, then you would see a change in property prices. But if they were to eliminate this program, then that would mean buying a property putting 3 to 19.9% down would be more difficult and much more expensive. 

So the government increased demand on properties by subsidizing mortgage loans. This increase in demand thereby increases prices. So what else contributes to higher prices? 

Tax incentives on real estate increase demand. The Federal Government owns this one too. Owning a house in today's current tax code is a huge win for homeowners, especially those with a mortgage. I am able to drastically reduce my tax bill by owning my house. But tax relief comes in many ways when it comes to real estate. 

First and foremost, again. The Federal Government subsidizes the loan expense on a primary residence by giving homeowners the ability to write off the interest on their loan. So the government subsidizes the loan and then gives the borrower an even bigger subsidy by providing a tax incentive each and every year. They also allow you to write off your local income taxes. This is huge. And one that I love and am very thankful for. And this is also one that has been reduced over the years with the SALT limitations put in place in the 2017 tax overhaul. The max on the local tax write off is $10,000 per year with the max mortgage interest deduction being the interest charged on a max balance of $750,000. 

The government also incentivizes this investment over others by eliminating any capital gain taxes paid on the first $250,000 gain for an individual and $500,000 gain for a married couple. Other than a treasury bond, I don’t believe there is any other investment that the government does not tax the gain on. 

Again, I love and use these tax benefits every year. But eliminate these benefits and again, you will see a decrease in demand which will thereby lower the price on housing. 

So what else increases demand and thereby prices. There has to be more culprits than just the Federal Government, right? And there are. To give the Feds a break, let’s jump to state and local governments. 

Another way to stimulate the market and create more demand is by offering 1st time home buyer or buyer incentive programs. Again, I am not saying there is anything wrong with these. I am just saying that programs like these increase demand in the market place and thereby drive up prices. 

Heck, one of the reasons I bought my first house in 2008 was because of a first time buyer program. That one was through the Federal Government which gave me a mortgage credit of $7,500. A nice chunk of my net worth is thanks to that subsidy and that decision to buy that year. 

I think I know what you are thinking… But all of these programs like down payment matching assistance are intended to help people. Yes, I completely agree. But by doing this, the programs in and of themselves increase demand in the marketplace. More demand means higher prices. 

Let’s get back to the Federal Government, because one of the biggest ways they increase demand is by manipulating the interest rate market and keeping rates artificially low. Now they do this through many different ways. Most people think the Federal Funds Rate is the biggest driver of our mortgage rates. It’s not. Our mortgage rates are generally tied to the 10 year treasury note. 

The biggest way the government stimulates the housing market by lowering interest rates is by purchasing mortgage bonds. Most likely when you buy a house, that bank that gave you that mortgage won’t hold on to that note. They will sell the note to another entity. This entity will then package that mortgage and thousands of others into what is called a mortgage backed security. They will then sell bonds tied to this mortgage backed security. 

The biggest way the government manipulates mortgage rates is by buying these mortgage bonds. Becoming a big buyer in the marketplace means that the yields on these bonds are driven down which allows the initial bank making the loan to do so at a lower interest rate. 

The FED has an $8 Trillion dollar securities portfolio. And of that $8 Trillion, they own $2.3 Trillion in mortgage backed securities. This $2.3 Trillion equates to a quarter of the entire Mortgage Backed Securities Marketplace. 

Eliminate this market manipulation and you will see a drastic decrease in demand. This will happen because you will see a bump to the much higher side for interest rates. Remember the low interest rates of the COVID days? This was thanks to the FED buying Mortgage Backed Securities and thereby providing liquidity to banks which would in turn keep the spigot of lending on to consumers and companies.

I think the Federal Government has taken enough of the blame… For now that is. Let’s go back to the state and local governments. 

We have spent so much time talking about the demand side of the equation. But it’s the limited supply that is an issue as well. Quincy, Massachusetts is an amazing town to live in. Here are all the Quincy Homes For Sale

So who or how is supply being limited? It’s done by what we would call red tape by local and state governments. This red tape restricts the amount of housing to be built. 

Again, I am not saying this is wrong. You probably shouldn’t be able to build a 30 story high rise in a suburban community. But a great example of a simple way of creating more housing would be loosening up the single family property restrictions. Could you imagine if tomorrow a blanket decision was made that each single family parcel by right is allowed to build a second housing unit on that parcel? You would have a massive increase in the amount of units that would become available to the marketplace. 

Again, I am not lobbying for this and saying this should be done. But it’s just a very easy example on how zoning restrictions decrease the ability of how many housing units can be built and where they can be built. Give a Boston developer a call and ask them about the approval process of a ground up build for say… 30 units. Or how about a 100 units? You are talking years and hundreds of thousands of dollars of attorney fees. 

You want more housing supply and thereby lower prices? Then reduce or eliminate the red tape. 

Let’s talk about investors and how they are a culprit of high housing prices. But believe it or not, the Federal Government has a piece of this blame as well. It’s the government that has made an environment that makes investment and speculation in the housing market attractive. 

A big change from the realities of 5 to 10 years ago is that institutional investors have moved from the big apartment buildings to the Single Family market. In some markets throughout the United States, investors contribute nearly or over 30% of all single family sales. And these aren’t small markets. Think Atlanta, Phoenix, Raleigh. 

Eliminate the ability for these big companies to invest in Single Family properties and you will see a change in home prices. Heck, maybe you don’t even have to eliminate their ability. Maybe you make a special high tax that needs to be paid for this investment. 

This is an example on how investors increase demand and thereby prices. 

But another investor who contributes to this is the mom and pop investor. Again. Someone like me. Low interest rates makes for an environment where it becomes possible and attractive to not sell a property when you are buying another one. 

I mentioned my first property that I purchased was in 2008. It’s a 2 family that I still own today. But because of the lower interest rates and the low down payments, I was able to hold on to this property and still buy my second home. In this case, this depleted the market of one available unit for sale. It’s been a rental for 15 years and will most likely be a rental for at least until the day I die. 

This is an example of how investors decrease supply which causes higher pricing. 

But that’s not at all when it comes to investors. The government rewards people or entities that invest in real estate. They do this by allowing investors to depreciate the property and thereby lower their yearly tax burden. They do this by creating investment pass throughs like 1031 exchanges which allow an investor to sell a property and move those gains to another property and not need to pay taxes on the gains from the property being sold. 

And then there is economic inflation as a cause that is increasing housing prices. This is thanks to the Federal Government as well. The definition of inflation is a decrease in the purchasing power of money. This decrease in purchasing power is reflected in the prices of goods and services in our economy. So as the items at the grocery store become more expensive due to devaluation of our currency, then that means things like housing does as well. 

The baby boomers aren’t at fault for high housing prices. They are far from it. 

So who benefits from all of this? Well that list is long… And distinguished. Local, state and federal governments benefit… a lot. State governments benefit from a transfer tax each time a property is sold. The higher the sales price then the more tax revenue. Local governments benefit from the property taxes. The higher the assessed value, then the more tax revenue generated. 

But it’s not just the government that benefits. Property owners benefit. A lot. Home ownership is one of the biggest wealth drivers in this country. It used to be a staple of the Middle Class and their road to financial stability. But we all know my opinion on how the American Dream is dying. And that’s thanks to a lot of the factors that I mentioned above. 

And then there is big business that benefits. The amount of revenue that is generated from each home sale is crazy. One of, if not the biggest driver of our economy is housing. Sit down for this stat. But the National Association of Realtors estimates that for EACH home sale at the median price, it generates $113,000 of economic impact in 2021. 

Let that enormity of that number sink in for a second. That’s why the government is so enthused to stimulate the real estate market and drive sales. The housing market suffers, then so does the broader economy. Think about it. When you buy a house, it doesn’t just stop there. Find out more about Cohasset and the Cohasset Homes For Sale

Us agents get paid. Well we have a lot of expenses which are then paid for from insurance to people that assist us in the transaction to the technology we use that drives our business. Banks make money from originating the loan and collecting interest and fees for managing that loan in future. Insurance companies make money on the insurance policy on the new house as well as the policy to insure the title of that house. A home inspector was paid. An appraiser was paid. An attorney was paid for their legal services. But then what happens when you buy a house? Well everyone always makes improvements to make it their own, right? Maybe those improvements are as simple as some paint. If that’s the case, then that's music to Home Depots ears, but maybe you paid a painter as well. And maybe some carpentry was done too as there were some home inspection items that came up and needed to be addressed. It’s a bigger house, so I guess it’s time to buy some more furniture. We could go on and on about the trickle effect and the effect that it has on our economy. 

And that trickle down effect. That $113,000 of economic impact per house sold most likely positively benefits you as well. 

So that’s what is to blame for higher prices. It’s not greedy sellers or baby boomers or real estate agents. They are the ones that are working in the marketplace that was provided to them by the rich men north of richmond. 

So what is it that you would change or eliminate from this list of factors that increases prices? I would love to know in the comments. 

 

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