Are You Voting To Protect Your Investments and Income?

ELECTIONS HAVE CONSEQUENCES

Are You Voting To Protect Your Investments And Income?

Every election cycle we have candidates running for office and making promises.  This takes place from national to local elections.  They will fix this problem or that problem.

Housing crises have come and gone. They can be part of the economic cycle, but they don’t have to be.

Why does this matter to us?  Our future income is tied to our investments.  If elections hurt our investments, we may choose to invest in something else.  Many of us choose to invest where we expect to earn a good return while protecting our investment.  Would you agree?

As investors, we learn how to play the game.  Investing is a team sport.  We strategize and partner together.

Our elected officials make the rules of the game.

When the rules change, we sometimes need to change our strategy.

Let’s take a look at how four policy changes have impacted the housing market.

One. Rent Controls

Rent controls are a tool sometimes enacted by local city or county officials, usually at the request of tenants.  It is intended to hold down rent increases for the benefit of tenants.  What are the effects?  

Let’s look at Minneapolis and St. Paul, Minnesota.  In 2021 St. Paul enacted rent controls that limited rent increases to 3-percent.  Apartment developers moved to Minneapolis where they could build with fewer restrictions.  Some of the developers pulled their building permits, saying they could not get construction financing with the rent control law in place.

What do you think this did to the housing supply in St. Paul?

Were the tenants better off after the developers left?

Argentina offers an example of what happens when this is done on a national scale.  The country was already experiencing high inflation when rent controls were enacted.  Rents went from 18,000 pesos a month to 334,000 pesos per month between the end of 2019 and the end of 2023.  If they had followed the trends of other commodities, which they had before rent controls were enacted, rents would have been only about 210,000 pesos per month.  Rent control policies have now been scrapped and rents are coming back down.  You can read more about this at this link, Argentina Offers a Textbook Study in Why Rent Controls Are a Bad Idea | Cato Institute 

When rent controls are implemented, landlords react.  Some choose to sell their property or convert to another use such as short term rentals.  Others increase the rents before the controls take effect.  After the controls take effect the landlords have less incentive to spruce up a property.  Some, if not many, landlords will defer more maintenance in order to maintain the cash flow they had before rent controls took effect.  With a limited upside for improvement, there are fewer investors willing to purchase the property.  Some of the landlords 

Can you see why we don’t buy in areas with rent controls?  What would you do?

We also talk with our elected officials to help them understand why rent controls are not good for tenants or voting constituents.

Two. Tax Reform Act of 1986

You might be wondering what this had to do with real estate.

At one time Ronald Reagan found he could make pretty good money acting and could be in two movies per year.  But if he was in a third movie then he would pay about 90-percent of the additional income in taxes.  He vowed to find a way to reduce income taxes.

Congress passed the Tax Reform Act of 1986 which significantly reduced income taxes.  Previously many high income earners had a marginal tax rate over 50 percent.  It was particularly bad in states with high income taxes.  In exchange for reducing the tax rates Congress placed a limit on passive income losses, particularly for people working in certain professions.  What was the result?

Before the Tax Reform Act was passed there were many properties that had a negative cash flow before taxes.  But the passive losses, aided by depreciation, helped offset other active income.  The properties had significant value as tax shelters.

After the Tax Reform Act was passed the properties were not effective tax shelters.  Their values dropped.  Properties became valued based on their cash flow with more limited tax benefits.  Without the tax benefits many owners did not have the cash flow to keep the properties and pay the mortgage.  Many of the loans were defaulted on.  Many of the lenders were Savings and Loan institutions, or S&Ls.  You may have heard about the S&L crisis in the late 1980s.  This is how it came about.  A policy change that was intended to punish a certain group of people came with unintended consequences.

Now let’s look at two programs that provided incentives.

Three. Tax Credits for First Time Homebuyers

Tax credits were provided to first-time homebuyers from April 9, 2008 to July 1, 2009.  Think about what happened in the previous two years.  The housing market was declining.  Prices were plummeting.  Many houses were already foreclosed.  Low interest rates and easy credit had fueled a housing boom.  But many homeowners did not make payments.  As prices dropped, recent homebuyers who purchased with very small down payments saw their homes underwater – they owed more on the mortgage than what the home was worth.

The foreclosure crisis became a housing crisis, with banks repossessing many houses.  Prices continued to plummet.

The market needed to be stabilized.

Investors were buying, but many people were scared to buy their first home.  They were afraid values would continue to drop.

Enter an $8,000 first time homebuyer tax credit.  It helped buyers with the down payment, and they had 15 years to pay the money back to the government.

The tax credit helped stimulate the market.  Owner-occupants started buying again.  Home prices were increasing again.

House flippers found they could sell the houses more easily in a market where buyers had an extra $8,000. Prices increased.  The housing market was recovering.

Then the program ended.  Flippers found selling prices were lower, by about $8,000.

The first-time homebuyer tax credit was useful for what was intended.  It helped people with a down payment so they could get into a home.  It also increased home prices, helping to stabilize a falling market.

Interest rates were also kept low, making it easier for people to make their monthly payments.  Note that the down payments assistance did not change monthly payments for the buyers.  Or if it did, the change was negligible.

Four. Opportunity Zones

Opportunity Zones created under the Tax Cuts and Jobs Act of 2017.  This is an incentive program designed to encourage investment in economically depressed areas.  Each state and county had the ability to define Opportunity Zones within its region.  The areas are certified by the Treasury Department.

For investors the benefits could be huge.  They could defer paying taxes on capital gains that were realized from other investments.  If they held a property in an Opportunity Zone for 10 years or more then even greater tax savings could be enjoyed.

Money is being brought from Wall Street and invested locally.  Neighborhoods are seeing neglected houses and apartments get renovated and sold or used for affordable housing.  Commercial areas are being turned into mixed use areas, providing additional housing and centers for business.

Final Thoughts

Many policy changes have unintended consequences, particularly those that attempt to place restrictions on someone or “tax the rich”.  Incentives for housing providers and buyers have a more positive effect, but still have other effects such as increasing prices.  The incentives can be beneficial in a declining market, but in a growing market may encourage inflation.

Communicate with your elected officials.  Talk with candidates before elections.  Let them know what is important to you.  And vote.  Elections have consequences.

Remember investing is a team sport.  Be ready to evaluate your investing strategy and adjust as necessary when the rules change.

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