Tierra Grande - July 2014

JULY 2014 ™

JOURNAL OF THE REAL ESTATE CENTER AT TEXAS A&M UNIVERSITY

NON-PROFIT ORG. U.S. POSTAGE PAID HOUSTON, TEXAS PERMIT No. 4126 COLLEGE STATION, TEXAS 77843-2115

In This Issue Buda, Kyle, San Marcos Market Profiles Metro/Border Housing Markets Water Policy Homebuyers’ Survey Flood Insurance and Home Values Who Owns Water?

Rental Losses for Part-Timers

JULY 2014 ™

JOURNAL OF THE REAL ESTATE CENTER AT TEXAS A&M UNIVERSITY

28

ADTaxation Valorem th Annual Legal Seminar on

San Antonio, Texas|August 27-29, 2014

Register Online www.recenter.tamu.edu/register The 28th Annual Legal Seminar on Ad Valorem Taxation provides a wealth of information on a variety of legal, economic and other issues influencing ad valorem taxation.

iii

TIERRA GRANDE

JULY 2014

recenter.tamu.edu

VOLUME 21, NUMBER 3 ™

TIERRA GRANDE

Visit us online at

JOURNAL OF THE REAL ESTATE CENTER AT TEXAS A&M UNIVERSITY

Director, GARY W. MALER

14 Just Add Water

Chief Economist, MARK G. DOTZOUR Senior Editor, DAVID S. JONES

Failure to plan is planning to fail. That’s why Texas has projections of water supplies and needs through 2060. Plus, all regions of the state have detailed plans for acquiring emergency supplies during extreme droughts.

Managing Editor, NANCY MCQUISTION Associate Editor, BRYAN POPE Assistant Editor, KAMMY BAUMANN Art Director, ROBERT P. BEALS II Graphic Specialist/Photographer, JP BEATO III Circulation Manager, MARK BAUMANN

BY CHARLES E. GILLILAND

Lithography, RR DONNELLEY, HOUSTON ADVISORY COMMITTEE: Kimberly Shambley, Dallas, chairman; C. Clark Welder, Beeville, vice chairman; Mario A. Arriaga, Spring; James Michael Boyd, Houston; Russell Cain, Port Lavaca; Jacquelyn K. Hawkins, Austin; Walter F. Nelson, Houston; Doug Roberts, Austin; Ronald C. Wakefield, San Antonio; and Avis Wukasch, Georgetown, ex-officio repre­ senting the Texas Real Estate Commission.

TIERRA GRANDE ™ (ISSN 1070-0234) is published quarterly by the Real Estate Center at Texas A&M University, College Station, Texas 77843-2115.

Telephone: 979-845-2031.

SUBSCRIPTIONS free to Texas real estate licen­ sees. Other subscribers, $20 per year. Subscribe online at www.recenter.tamu.edu/store VIEWS EXPRESSED are those of the authors and do not imply endorsement by the Real Estate Center, Mays Business School or Texas A&M University. The Texas A&M University System serves people of all ages, regardless of socioeconomic level, race, color, sex, religion, disability or national origin.

PHOTOGRAPHY/ILLUSTRATIONS: Real Estate Center files, p. 1; JP Beato III, pp. 2, 4, 5, 16, 18, 19, 20–21, 25, 26; Kevin Butts, Red Wing Aerial Photography, pp. 6–7; David Sucsy, pp. 10–11; Vallarie Enriquez, p. 12; Susan Risdon, pp.

14–15; Robert Beals II, pp. 17, 25; Kari Rives (illustrations), pp. 19, 20; Ricardo B. Brazziell/ Austin American-Statesman, pp. 22–23; Jay Janner/ Austin American-Statesman, p. 24.

2 Branding Small-Town Texas

Buda, Kyle and San Marcos are among the fastest-growing towns in Texas. City officials hope to maintain a small-town feel while welcoming residents and businesses eager to leave the hustle and bustle of Austin behind.

BY HAROLD D. HUNT

© 2014, Real Estate Center. All rights reserved.

6

22 Rising Flood Insurance,

Sinking Home Values

Flood insurance premiums are rising thanks to federal legislation requiring them to reflect actual flood risk. A Center study shows that increases in insurance and other housing costs ultimately reduce home values.

BY ALI ANARI

Major Metros, Border Cities

Comparing Housing Markets Comparing Houston’s or Dallas’ economies to Laredo’s or El Paso’s may not be apples to oranges, exactly. Granny Smith apples to Gala apples may be a better analogy.

BY LUIS B. TORRES AND JAMES P. GAINES

25 Whose Water Is It Anyway?

Let’s cut to the chase, shall we? The state owns nearly all the water in Texas. However, state law and statutes spell out circumstances in which landowners may use water on their property for limited purposes.

BY JUDON FAMBROUGH

19 How Homebuyers Shop ON THE COVER Port Aransas fishing pier

PHOTOGRAPHER Ramon L. Perez

JULY 2014

Don’t worry about the Internet luring your clients away. A National Association of Realtors survey reveals that real estate professionals continue to play a huge role when it comes to people purchasing a home.

BY MARK G. DOTZOUR, COLT KOKEL AND JOSHUA PARULIAN

28 Part-Time Pitfalls

Real estate professionals who own and manage rental properties part time must meet the tax law’s “material participation” and documentation requirement to be eligible to deduct rental losses.

BY JERROLD J. STERN

1

Market Profile

By Harold D. Hunt

S

ense of place is an elusive concept that many cities chase but few seem to capture. History has shown that cities that manage to create a strong sense of place benefit in countless

ways. Real estate licensees benefit from the creation of real estate markets that command a premium. Buyers, both residential and commercial, will pay more to be there.

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TALE OF THREE CITIES (clockwise from top left).

Buda water tower; new construction at Plum Creek in Kyle; downtown Buda; downtown San Marcos.

As Texas experiences unprecedented population growth, residents and businesses are increasingly searching for cities that offer something more than utility or convenience. Although those are important features, people also want a city with a unique “feel” where they can connect with their surroundings in a positive, fulfilling way.

The cities of Buda, Kyle and San Marcos are three of the state’s fastest growing. Positioned directly in the growth path between Austin and San Antonio along Interstate 35, their goal is to create a strongly identifiable community that just happens to be between two large metros. Highlighting some of their efforts toward that goal may provide insight for other Texas cities looking to differentiate themselves from the pack.

Defining Sense of Place No common definition for sense of place exists. Dr. Jennifer Cross, a professor of sociology at Colorado State University, found that five different academic disciplines all define sense of place in different ways.

In her 2001 research, Cross argues that sense of place has two major components. First is “relationship to place,” which involves the way people relate to or bond with places in general. Second is “community attachment,” which gauges the depth and types of attachments to one particular place.

Cross lays out six ways people demonstrate relationship to place: • a bond that develops over time from being born there or living there for a lengthy period; • a sense of belonging that wasn’t looked for and can’t be explained; • a conscious decision to be part of a community, often driven by a desire to live around like-minded people; • perceptions and expectations of a place shaped by stories or historical accounts, either real or fictional; • a comparison of the physical attributes of actual places to some ideal; or • unavoidable limitations that restrict where one must live (dependent children who must live with parents, the elderly living in nursing facilities or job-related constraints).

Cross notes that people may have more than one relationship with a place, and those relationships are likely to change over time. She further profiles five types of people categorized by type of “community attachment,” based on the depth of their experiences and feelings in regard to a particular place.

They are: • People who are rooted to one community with a strong sense of attachment, identification and involvement in that community. They expect to continue living there for some time.

• People who have strong attachments to two communities. They can also have distinct identities associated with each place. This could include long-time commuters.

• People who are alienated from a place because they have been forced to move from somewhere they were rooted to somewhere where they are not. Also, people who are alienated because the place they love and feel rooted in has changed around them.

• People who have lived in so many places in their lives that they are not strongly rooted to any particular community. They tend to form emotional attachments in any location, so their sense of what is “home” is highly mobile.

• People who have no place-based emotional attachment or sense of home at all, generally feeling “at home within themselves” as opposed to a particular location. Young adults can fall into this category if they have not had sufficient time to become attached to or identify with any particular place.

Necessity for Good Planning So how will cities like Buda, Kyle and San Marcos create a fresh, appealing sense of place that will attract a new group of loyal young professionals and families without alienating their existing long-term residents? The answer is planning, collaboration and innovative thinking.

Sean Garretson, president of the Austin-based consulting firm Pegasus Planning and Development, has helped all three cities develop long-range plans.

“Most of my clients know what they need to do to improve their cities. They just have trouble creating a plan to actually do it,” says Garretson.

The first step involves analyzing existing conditions and identifying a city’s potential based on its demographics and unique business opportunities. Next comes the assembling of implementation tools and tactics designed around those opportunities and strengths. Finally, the data and opportunities must be forged into actionable steps.

Actions often involve fostering economic diversification through: • downtown improvements, • transportation and infrastructure construction and upgrades, • site and building improvements, • targeting specific businesses, • supporting community workforce development, • fostering local entrepreneurship, and • recruiting suitable retail and entertainment venues.

As Texas experiences unprecedented population growth, residents and businesses are increasingly searching for cities that offer something more than utility or convenience.

JULY 2014

3

SNAPSHOTS (from top to bottom). U.S. Foods moved its plant from Austin to Buda, bringing 250 employees; a water tank touts Buda’s small-town atmosphere; San Marcos, home to Texas State University, is a stop on a proposed commuter rail line between Austin and San Antonio. (Facing page) Kyle medical facilities burgeoned after Seton Medical Center Hays opened its doors in 2009.

Collaboration between city staff, residents, business owners and economic development professionals is critical.

“City officials often find it difficult to offer their own plans,” says Garretson. “Many would rather hire an impartial outside third party to manage the process.”

Economic incentives always come up for consideration.

“Cities will all have different thoughts on the payment of incentives,” says Garretson. He has developed an incentive matrix so cities can objectively evaluate each potential incentive deal on its merits.

Garretson has noticed a lot of businesses looking outside Austin for alternatives, driving demand for retail, light industrial and even heavy commercial space. The high occupancy in Austin has also driven up office rents, causing some office users to re-think their location decisions.

City-Specific Insights Buda

B

uda estimates its current population at about 9,000.

Based on that estimate, the city’s population has increased more than 270 percent from the 2000 census figure of 2,404.

Through the analysis carried out in their strategic plan, Buda discovered that about 80 percent of their workforce travels outside the city to their employment destination. About 65 percent of their employment base is white-collar, and Austin is their primary destination.

After discovering this talent drain, the city’s economic development corporation (EDC) put together a plan to sell Austin companies on locating in Buda to shorten their employees’ commute time. U.S. Foods was convinced and relocated from Austin to Buda, bringing a 290,000-square-foot office/warehouse facility and 250 employees with them.

“The lease rates for space in Buda were half of the rates in Austin, and their employees got a dramatically reduced commute time,” says Garretson. The city continues to work with developers to look at other retail/office/residential development.

For U.S. Foods, the main attraction was a better quality of life for their employees through a much shorter commute.

Limited incentives were offered.

“The EDC can do a cash or sales tax incentive while the city can offer property or sales tax rate incentives,” says Ann Miller, executive director of the Buda EDC. “However, incentives are given on a case-by-case basis,” says Miller. “We have learned that we can say no.”

San Marcos San Marcos currently has more than 50,000 residents. Texas State University’s student population alone is about 36,000.

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“The challenges were different here,” says Garretson. “One task was to try to improve the physical relationship between downtown and the university. Another was addressing the competition between downtown retailers and the outlet stores. It was important for the downtown retailers to understand exactly who their target market was.”

“The university brings the city culture and sports at a reasonable price,” says Scott Gregson, past president of the San Marcos Downtown Association. “We also have the San Marcos River, whose headwaters are actually in our downtown. The Lone Star commuter rail line between Austin and San Antonio would be a real gamechanger.” The proposed line would come through downtown on the existing Union Pacific track, which would be moved east along SH-130.

Garretson agrees that the dynamics of the city will change with the addition of commuter rail. He helped convince the city to increase the allowable density near the proposed rail line from five to ten stories, paving the way for increasingly popular transit-oriented development.

“The city will need to look at its building codes,” says Gregson. “We need to consider denser housing like micro-lofts for folks who want to live in downtown San Marcos and commute to the bigger metros to work. By car, San Marcos is just outside the tent of a comfortable commuting distance. With rail we can be under it, and the reverse commute would be easier.”

Gregson also believes downtown must consolidate smaller land tracts to go vertical. “How high to go is always a tough decision,” he says. “Some folks wanted a maximum of three stories or less while others were okay with ten. We decided on five except around the square, with the ability to go higher with city approval. We want to keep that small-town ambience.”

He also believes all cities have “low-hanging fruit” they can capture like cleaning up, repairing and widening sidewalks, and maintaining good trash collection. General appearance upgrades make a difference to the site selection folks who often scout potential towns unannounced.

Kyle

K

yle has grown from a population of 5,314 in 2000 to more than 30,000 today. This represents an increase of more than 460 percent during the past 14 years.

“We would like Kyle to be a full-service community,” says Diana Blank-Torres, director of economic development for the city. “We want our residents to have a range of options like living and working here, living here and working somewhere else or vice versa.”

Like Buda, about 80 percent of Kyle residents commute outside the city for employment. A 2013 study by the Texas Transportation Institute projects that if nothing changes, by 2035 the 12-mile commute from Buda to South Austin will take 119 minutes in the morning and 157 minutes in the evening.

That trip to South Austin would be even longer from Kyle.

Kyle officials believe commuter rail would have a significant impact on commutes. Three Kyle locations have been earJULY 2014

marked as possibilities for a rail stop. One possible location is near the new urbanist community of Plum Creek, built in 1999.

“Kyle city officials originally asked me why they should get behind light rail since it would only help their labor force exit the city more efficiently for employment somewhere else,” says Garretson. “I argued that they should turn that question on its head and ponder why it wouldn’t help bring in labor more efficiently from the outside to work in less-congested Kyle as well.” eton Medical Center Hays opened in 2009 followed by a flood of other medical space. Prior to that, the city had only 17,000 square feet of medical facilities. Today, Kyle has a total of 820,000 square feet of medical space, with Seton being about 300,000 of it.

“If Seton hadn’t come to town, it’s probable that another provider would have,” says Torres. “Our population surge hit about the same time medical groups were in an expansion mode. We do need more executive housing in the $300k to $400k range for those medical folks to live in though. It’s a niche that’s not being filled.”

With 3 to 3.5 million square feet of retail just opened or under construction, Kyle is still only 30 percent developed out.

“A big problem is no spec buildings to show potential companies,” says Torres. “Developers have only wanted to do buildto-suit space. And Kyle is so new that it doesn’t have any large older buildings to draw on.”

“Since I’ve been in office, the city has been able to shift its focus to the downtown streetscape, remodeling and restoring city hall, and allowing more mixed-use development,” says Mayor Lucy Johnson. “You really have to give people a reason to come to a downtown area.”

S

Dr. Hunt (hhunt@tamu.edu) is a research economist with the Real Estate Center at Texas A&M University.

THE TAKEAWAY Buda, Kyle and San Marcos are three cities in search of a brand that creates a special sense of place, and attracts businesses and residents who are vested in their communities. Some “I-35” cities are turning to consultants to craft specialized strategies for doing just that.

5

Housing Markets

Major Metros, Houston

Comparing Housing Markets

By Luis B. Torres and James P. Gaines

A

ll too often, broad generalities asserted about housing market conditions for Texas get ascribed to every local market. As described in “Major Metros, Border Cities: Comparing Economies” (Tierra Grande, April 2014), significant disparities differentiate the two urban groups.

Local housing markets are determined by local demand and supply conditions.

Housing demand stems from demographic characteristics, employment growth, income growth and local financing mechanisms as well as local attitudes, tastes and preferences, and locational characteristics such as accessibility, quality of schools and incidence of crime.

Local housing supply factors include the age and quality of the existing housing stock, new construction, building technology, land availability, local housing regulatory policies and the industrial efficiency of the housing market.

Overall Housing Market Comparison General housing characteristics within the Border MSAs differ significantly

6

from overall statewide averages and even more significantly from the major MSAs. Housing within the Border areas tends to be newer, smaller and less expensive than in other areas. The homeownership rate is higher within the Border communities, and the number of people per household exceeds both the state and major MSA averages. There are also substantial differences among Border MSAs. Housing characteristics in El Paso and Laredo differ from Brownsville and McAllen in several measures and more closely resemble the major MSAs. According to the U.S. Census Bureau’s 2012 American Community Survey data, the four principal Border MSAs contain 752,634 total housing units or 7.4 percent of the state’s 10.2 million total. While 11.7 percent of Texas’ total housing units are unoccupied, vacant units within the Border MSAs account for only 10.5 percent of the inventory. The major MSAs contain 64 percent of the total state housing inventory with 9.5 percent vacant (Tables 1 and 2).

Census data indicate that the housing stock within the Border MSAs is newer TIERRA GRANDE

Border Cities Brownsville Table 1. Housing Characteristics Summary for Major MSAs in 2012 Texas Total

Sum

Total

Percent Total Housing Units Occupied housing units Vacant housing units Year Structure Built 2000 to 2009 Rooms With five rooms Housing Tenure Owner-occupied Average household size owner-occupied unit Average household size renter-occupied unit Value $50,000 to $99,999 $500,000 to $999,999 Median (dollars) Mortgage Status Housing units with a mortgage Monthly Owner Costs of Household Income With a mortgage 35 percent or more Without a mortgage 35 percent or more Gross Rents of Household Income Occupied units paying rent 35 percent or more Owner-occupied 35 percent or more

10,154,835 8,970,959 1,183,876

88 12

2,254,074

22

2,211,840

22

5,586,856

62

DallasFort WorthArlington

AustinRound Rock Sum

Total

Percent 725,658 665,027 60,631

92 8

24

225,231

31

54

140,226

19

383,417

58

HoustonThe WoodlandsSugar Land Sum

Total

Percent 2,546,579 2,337,076 209,503

92 8

33

595,863

23

55

479,937

19

1,391,558

60

San AntonioNew Braunfels

Sum

Total

Percent

Major MSA Totals Sum

Total

Percent

2,363,507 2,099,897 263,610

89 11

851,567 766,963 84,604

25

600,142

25

28

197,572

23

51

439,066

19

52

189,559

22

1,288,302

61

6,487,311 5,868,963 618,348

64 90 10

25

1,618,808

25

27

53

1,248,788

19

52

478,614

3,541,891

60

3.0

2.84

3.0

3.1

3.0

298

2.7

2.51

2.6

2.7

2.7

263

1,348,681 174,034 129,200

24 3

3,412,384

36 99

30,724 26,550 191,600

8 7

61

280,601

745,504

22

219,858

10

1,233,594 965,362

13 98

277,711 50,747 149,600

20 4

73

969,181

64,352

23

11,875

12

40

110,016

17

76,227

27 99

290,414 50,099 141,400

23 4

70

850,746

66

205,023

21

194,119

46,979

11

44,780

41

341,224

38

19

252,002

17

30 99

122,600 14,170 132,100

26 3

Sum

Percent

36 99

721,449 141,566 149,138

20 4

308,997

2,409,525

68

23

64,700

528,194

22

10

15,024

118,658

11

303,109

40

102,426

39

856,775

39

238,899

18

79,724

16

646,852

18

28 99

Notes: Estimated by Real Estate Center at Texas A&M University. American Community Survey One-Year Estimates.

Source: U.S. Census Bureau

JULY 2014

7

to the major MSAs. Only 53.2 percent of the owner-occupied units in the Border MSAs carry any kind of mortgage, compared with 61.1 percent of the ownerFigure 1. McAllen-Edinburg-Mission Single-Family Home Building Permits 7,000 6,000

(Number of Permits)

Average since 1980 3,543 per year

5,000 4,000 3,000 2,000

2013

2010

0

2000

1,000 1990

H

Local demographics create a significant variation in average household size for both rental and owner-occupied housing. The statewide averages of 2.95 people per owner-occupied unit and 2.66 people per renter-occupied unit are smaller than the weighted average of 3.47 people per owner-occupied and 3.24 people per renter-occupied units in the Border MSAs. The major MSAs’ household sizes are similar to the statewide measures: 2.98 people per owner-occupied and 2.63 people per renter-occupied unit.

Household size also varies among the four Border MSAs. El Paso has the fewest people per owner-occupied unit at 3.23 followed by Brownsville at 3.39, McAllen at 3.71 and Laredo with the most at 3.72 people per unit. The differences in household size emphasize the general variation in the overall age distribution among the state’s MSAs. Mortgage debt for homeownership runs lower in the Border MSAs than for the state overall and especially relative

1980

than Texas’ and smaller than major MSAs’.

Twenty-four percent of Texas’, 27 percent of the major MSAs’, and 27 percent of the housing units in the Border MSAs were built after 2000. Within the major MSAs, nearly half (49.3 percent) of the housing units have six or more rooms compared with only 40 percent in the Border MSAs. Statewide, 47 percent of the total housing units contain six or more rooms. omeownership is higher in the Border MSAs than in the major MSAs or statewide. Within the four principal Border MSAs, owner-occupied housing units equaled 63.9 percent of all the occupied units in 2012 compared with 62.3 percent statewide and 60.3 percent for the four major MSAs. Part of the reason for a lower homeownership rate in the major MSAs is that the larger urban areas tend to attract a large, younger (24 to 30) workforce population that favors renting over owning, and that cannot afford the relatively higher-cost houses in the major MSAs.

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

Table 2. Housing Characteristics Summary for Border MSAs in 2012 BrownsvilleHarlingen Total

El Paso Sum

Total

Percent Total Housing Units Occupied housing units Vacant housing units Year Structure Built 2000 to 2009 Rooms With five rooms Housing Tenure Owner-occupied Average household size owner-occupied unit Average household size renter-occupied unit Value $50,000 to $99,999 $500,000 to $999,999 Median (dollars) Mortgage Status Housing units with a mortgage Monthly Owner Costs (Percent of Household Income) with a mortgage 35 percent or more without a mortgage 35 percent or more Gross Rents (Percent of Household Income) Occupied units paying rent 35 percent or more Owner-occupied 35 percent or more

144,029 121,179 22,850

84 16

32,630

23

40,752

28

77,925 3.4

64

94 6

24

53,804

19

63

61,202

22

158,861 3.2

61

3.4

Sum

41 1

35,252

68 100

Sum

92 8

22

19,501

26

51

21,031

28

43,670 3.7

63

31 1

45

95,450

11,576

34

5,532

40 100

Sum

35 1

87 13

28

79,373

31

65

71,562

28

149,877 3.7

67

60

26,108

22,395

24

13

5,972

16,781

45

17,108

22

46 100

Total

Sum

Percent 752,634 673,653 78,981

90 10

33

185,308

25

27

68

194,547

26

60

430,333 347

64

3.3

15,218 420 106,600

Border Totals

Percent 254,809 222,849 31,960

3.7

49,420 2,007 113,200

Total

Percent 75,054 68,980 6,074

3.0

32,263 841 75,700

Total

Percent 278,742 260,645 18,097

McAllen-EdinburgMission

Laredo

324

54,093 856 80,300

36 1

60

72,267

7,941

31

10

2,628

38,622

42

28,367

17

65 100

150,994 4,124 94,895

35 1

48

229,077

53

20,440

29

62,352

28

15

10,567

14

24,699

13

12,132

53

29,167

46

96,702

45

10,569

24

31,007

21

87,051

20

54 100

Notes: Estimated by Real Estate Center at Texas A&M University. American Community Survey One-Year Estimates.

Source: U.S. Census Bureau

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2013

2010

2000

1980

0

1990

500

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

mortgage varies significantly among the Border MSAs. El Paso and Laredo have the highest levels of mortgaged homes at 60.1 percent and 59.8 percent, respectively. Brownsville is at 45.2 percent, and McAllen at 48.2 percent.

Although home values in the major MSAs significantly exceed home values in the Border MSAs, the cost of housing as a percentage of household income in the Border MSAs is higher. The percentage of household income spent on housing costs varies greatly by whether a property is owned or rented and whether or not there is a mortgage on the property. Renters typically pay a higher percentage of household income for housing costs than owners. Generally speaking, housing costs become burdensome if they exceed one-third of household income. This standard varies greatly from one area of the country to another, being greater in high-homevalue areas and lower in low-valued areas, but is a reasonable measure of the housing cost impact.

The U.S. Census Bureau reports that for Texas, 22 percent of homeowners with a mortgage pay 35 percent of their income or more for their home. For owned homes without a mortgage, only 10.2 percent pay 35 percent or more of income on housing. A total of 39.5 JULY 2014

New Home Construction

A

ll four of the Border MSA communities, like the rest of the country and Texas, experienced a sharp increase in new home construction beginning in the mid-to-late 1990s that peaked between 2003 and 2006.

The 2007 recession took a severe toll on construction activity in every community, dramatically reducing the number of new homes built throughout the state.

The construction rebound has not been even among the four metro areas along the Border or the four major MSAs. Austin, Houston, El Paso and Laredo 2013 single-family permits equaled or exceeded the long-term (1980–2012) average in each community, signaling a general recovery. The other MSAs did not reach their long-term average number of permits.

Brownsville and McAllen have been slower to recover from the decline in

Figure 3. El Paso Single-Family Home Building Permits 5,000 4,000

(Number of Permits)

Average since 1980 2,677 per year

3,000 2,000 1,000 0

2013

1,000

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

Figure 4. Laredo Single-Family Home Building Permits 2,000

(Number of Permits)

1,500 Average since 1980 914 per year

1,000

500

0

2013

1,500

2010

Average since 1980 1,600 per year

2010

2,000

2000

2,500

2000

3,000

1990

(Number of Permits)

1990

3,500

new home permits from the mid-2000s (Figures 1 and 2). For 2013, permits in McAllen were almost 1,000 units (nearly 30 percent) below the 1980–2012 average while in Brownsville they were about 500 (almost one-third) below the average.

New home permits fell slightly the past three years in McAllen and remained relatively flat in Brownsville during the past four years. New home permits in 2013 failed to attain the level of the long-term average annual number of permits in both communities.

El Paso and Laredo (Figures 3 and 4), on the other hand, reached their long-term average level of annual new

1980

Figure 2. Brownsville-Harlingen Single-Family Home Building Permits

percent of renters pay 35 percent of their income or more for housing. The four major MSAs in the state have almost identical percentage distributions. A reported 22 percent of homeowners with a mortgage in the major MSAs pay 35 percent of their income or more for their homes, while 10.6 percent of homeowners without a mortgage, and 39 percent of renters pay 35 percent or more.

The Border MSAs have substantially higher housing costs. Among the four Border MSAs, 27.6 percent of homeowners with a mortgage pay 35 percent or more of their income on housing costs, while 12.6 percent of homeowners without a mortgage do so. Almost half (44.8 percent) of renters pay 35 percent of their household income on housing. These percentages exceed the state and major MSA areas mainly because of lower average household incomes as home prices tend to be much lower. The details of the U.S. Census Bureau report are shown in Tables 1 and 2.

The disparity in home values and the impact of housing costs generally result from the income variation among the MSAs. The higher-income major MSAs contain higher-priced homes and somewhat less burdensome housing costs. Within each MSA, however, local income variances lead to local home prices and cost impact differences.

1980

occupied units throughout the state and 68 percent in the major MSAs. The percentage of owned housing units with a

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

9

Austin

10

Figure 6. Austin-Round Rock Single-Family Home Building Permits 18,000

(Number of Permits)

50,000 40,000

Average since 1980 24,229 per year

30,000 20,000

2013

Figure 8.

Dallas-Fort Worth-Arlington Single-Family Home Building Permits 50,000

Average since 1980 7,823 per year

2010

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

40,000 12,000

2000

0

1990

10,000

(Number of Permits)

Average since 1980 26,325 per year

30,000 20,000

6,000

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

2013

0

2010

0

2000

10,000

1990

permits in 2013, reflecting a stronger recovery. El Paso’s housing recovery was fueled not only by cross-border immigration from Juarez but also by expansion at Fort Bliss. Laredo benefited from the economic impact of the Eagle Ford shale extraction activity.

In 2013, new home building permits in Texas exceeded the 1980–2012 average number of annual permits for the first time in six years (Figure 5). Even including the down years from 1986 to 1992, Texas has averaged slightly more than 85,300 permits per year. The expected level for 2013 exceeded that mark by around 9,000 permits.

The four major MSAs in 2013 either exceeded their long-term average level of annual permitting or came close to doing so. Austin’s and Houston’s new home permits in 2012 and 2013 (Figures 6 and

(Number of Permits)

60,000

1980

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

Figure 7.

Houston-The Woodlands-Sugar Land Single-Family Home Building Permits

1980

2013

2010

2000

1980

0

1990

40,000

2013

80,000

2010

Average since 1980 85,303 per year

2000

120,000

(Number of Permits)

1990

160,000

7) equaled or exceeded their annual average. Permits in DFW and in San Antonio (Figures 8 and 9) trailed their long-term average levels but not by much.

The home sales markets in the Border MSAs exhibit considerable variation among themselves and compared with the major MSAs, especially in months of supply of inventory for sale. The months’ inventory is a measure of the supply of houses offered for sale relative to the demand for housing within a local market. A high number of sales (demand) coupled with a low number of homes offered for sale (supply) yields a low months’ inventory. A large number of homes listed for sale relative to the number of monthly home sales generates a high months’ inventory measure. The months of inventory is computed as the number of available listings in the local

1980

Figure 5. Texas Single-Family Home Building Permits

Notes: Estimated by Real Estate Center at Texas A&M University. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University TIERRA GRANDE

Figure 11. Austin-Round Rock, Single-Family Inventory (Number of Months)

10 8 6

Average since 1990 5.2 months

4 2 0 1990

1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

Figure 12. Dallas-Fort Worth-Arlington Single-Family Inventory (Number of Months)

14 12

months (Figure 10). If 10 the months’ inventory Average since 1990 6.6 months (Number of Permits) falls significantly below 8 14,000 that level, it reflects a 6 very tight sellers’ market 12,000 4 with increasing prices. If 2 the months’ inventory is 10,000 Average since 1980 significantly higher than 0 6,540 per year 1990 1996 2001 2007 2013 8,000 normal, it typically signiNotes: Estimated by Real Estate Center at Texas A&M University. fies a buyers’ market with Data up to November 2013.

6,000 Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University weak or declining prices.

Among the major 4,000 Figure 13. Houston-The Woodlands-Sugar Land MSAs, the typical invenSingle-Family Inventory tory level is closer to a (Number of Months) 2,000 10 six-month benchmark Average since 1990 except for the heated 0 6.8 months 8 Austin market, which generally runs around Notes: Estimated by Real Estate Center at Texas A&M 6 University. Data up to November 2013. five months (Figures 11, Sources: U.S. Census Bureau and Real Estate Center 12, 13 and 14). During 4 at Texas A&M University the past two years, the 2 MLS system divided by the average num- months’ inventory in all of the major MSA ber of sales reported in the immediately 0 markets has fallen to four preceding 12-month period.

1990 1996 2001 2007 2013 months or less, reaching Historically, the statewide benchmark Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013. the point that inventory for the months’ supply of home invenSources: U.S. Census Bureau and Real Estate Center at Texas A&M University is so tight that in many tory available for sale equals around 6.5 Figure 14. San Antonio-New Braunfels Figure 10. Texas, Single-Family Inventory Single-Family Inventory 2013

2010

2000

1990

1980

Figure 9. San Antonio-New Braunfels Single-Family Home Building Permits

(Number of Months)

12 10

Average since 1990 6.8 months

8

12

4

4

2 1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

JULY 2014

Average since 1990 7.7 months

8

6

0 1990

(Number of Months)

16

0 1990

1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

11

El Paso

Figure 15. Brownsville-Harlingen Single-Family Inventory 20 18 16 14 12 10 8 6 4 2 0 1990

Figure 16. El Paso, Single-Family Inventory

(Number of Months)

(Number of Months)

12

Average since 1990 13.9 months

10

Average since 1990 7.3 months

8 6 4 2 1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

0 1990

1996

Figure 17. Laredo, Single-Family Inventory (Number of Months)

10

Average since 2008 7.9 months

8 6 4 2 0 1990

1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

No data prior to 2008. Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

Figure 18. McAllen-Edinburg-Mission Single-Family Inventory (Number of Months)

25

Average since 1990 15.9 months

20 15 10 5 0 1990

1996

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

12

2001

2007

2013

Notes: Estimated by Real Estate Center at Texas A&M University.

Data up to November 2013.

Sources: U.S. Census Bureau and Real Estate Center at Texas A&M University

cases homes are selling almost simultaneously with being listed.

All four of the Border MSAs typically have greater months’ inventory than the major MSAs (Figures 15, 16, 17 and 18). However, a high disparity in the benchmark exists among the Border communities. Brownsville, McAllen and Harlingen all have long-term average months’ inventory levels at or greater than a year. Brownsville’s average since 1990 is 11.9 months, McAllen’s average over the same period is 15.8 months, and Harlingen averages 21.4 months.

Although these appear to be exceedingly high levels of supply relative to sales, they are typical for these markets. The high inventory figures could be due to overlapping reporting by the several MLSs that serve the area.

Housing supplies in El Paso and Laredo, by comparison, more closely resemble the statewide and major MSAs’ averages. El Paso’s long-term average months’ inventory is 7.2 months, and Laredo’s is 7.5 months. The differences in inventory levels are a function of both the pace of monthly sales in each community and the number of properties offered for sale. The lower monthly inventory levels in El Paso and Laredo, for example, led to the faster recovery in new home construction described previously.

TIERRA GRANDE

Table 3. Texas Housing Affordability Index for Major MSAs and Border MSAs, 1999–2013 Major MSAs

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

Austin Dallas Fort Worth Houston San Antonio Texas United States Major MSAs Average

1.66 1.85 2.74 2.05 1.80 1.74 1.38 2.02

1.53 1.74 2.64 1.85 1.74 1.58 1.38 1.90

1.71 1.82 2.75 1.97 1.87 1.69 1.45 2.02

1.87 1.87 2.62 1.87 1.77 1.68 1.43 2.00

1.89 1.94 2.72 1.95 1.93 1.81 1.41 2.08

1.90 1.89 2.69 1.99 1.87 1.77 1.34 2.07

1.80 1.83 2.43 1.87 1.63 1.68 1.23 1.92

1.64 1.70 2.22 1.67 1.50 1.54 1.10 1.75

1.53 1.59 2.10 1.54 1.47 1.45 1.11 1.65

1.56 1.77 2.35 1.72 1.58 1.59 1.33 1.79

1.88 2.09 2.74 2.00 1.86 1.88 1.77 2.11

1.93 2.15 2.94 2.11 1.89 1.96 1.80 2.20

1.99 2.21 3.13 2.19 2.00 2.02 1.91 2.30

2.09 2.31 3.27 2.30 2.11 2.14 1.99 2.42

1.80 1.94 2.71 2.02 1.96 1.90 1.73 2.09

1.50 1.67

1.47 1.58

1.54 1.69

1.23 1.67

1.54 1.78

1.50 1.74

1.30 1.50

1.25 1.26

1.06 1.13

1.35 1.51

1.37 1.47

1.34 1.52

1.36 1.42

1.37 1.56

1.33 1.52

1.27 1.35

1.10 1.20

1.00 1.07

1.44 1.17 1.75 1.34 1.43

1.76 1.35 2.05 1.55 1.68

1.75 1.51 2.21 1.63 1.78

1.84 1.60 2.27 1.64 1.84

1.94 1.68 1.62 1.82 1.77

1.98 1.62 1.58 1.83 1.75

Border MSAs Brownsville El Paso Laredo McAllen Border MSAs Average

Source: Real Estate Center at Texas A&M University

House Price Differences and Affordability

Figure 19. Median Home Prices, Major and Border MSAs, 2013 (Dollars)

McAllen-Edinburg-Mission

The demographic and Laredo economic differences in El Paso conjunction with inventory and housing charBrownsville-Harlingen acteristics produced sigSan Antonio-New Braunfels nificant dissimilarities Houston-The WoodlandsSugar Land in home prices between the major MSAs and the Dallas-Fort Worth-Arlington Border areas. ComAustin-Round Rock paring median home 0 50,000 100,000 150,000 200,000 prices between both Texas: $169,164 United States: $195,545 groups, the major MSAs’ Notes: Estimated by Real Estate Center at Texas A&M University. median prices generData up to November 2013.

Sources: Real Estate Center at Texas A&M University and National ally exceed the Border Association of Realtors MSAs’ prices by at Figure 20. Weighted Median Home Prices Major and Border MSAs (Dollars)

200,000

Major MSAs Border MSAs

180,000 160,000

38.9%

140,000

30.5% 30.1%

120,000 100,000

2005

2007

2009

2011

2013

Note: Estimated by Real Estate Center at Texas A&M University.

Weighted by number of home sales in each MSA to determine major and Border totals. Price (%) change estimated using midpoint formula. Data up to November 2013.

Sources: Real Estate Center at Texas A&M University and National Association of Realtors JULY 2014

least 30 percent. The major MSAs’ median price ranged from a maximum of $219,313 for Austin to a minimum $167,827 for San Antonio as of November 2013 (Figure 19). For the Border MSAs, median prices ranged from a maximum of $140,582 for El Paso to a minimum of $94,578 for Brownsville. The major MSAs’ median home prices in 2013 are on average 39 percent higher than those of the Border MSAs (Figure 20). Since 2004, median home prices have increased more on average in the major MSAs than in the Border areas, especially in the past two years.

These increases were products of demographics and the technology and energy sectors’ economic performance in recent years. El Paso recorded the largest total growth

rate, 53 percent, for the 2003–13 period based on the substantial price increases documented in 2004 and 2005.

The Border communities more closely resemble national affordability levels than the major MSAs’ or Texas’. With local median family incomes around two-thirds of the state and U.S. incomes, home prices within the Border communities keep the communities generally affordable, but not overly so. During the past 15 years, affordability in the Border communities has ranged from a low of 1.07 in 2007 to as high as 1.84 in 2011.

By comparison, affordability in Texas’ major MSAs, with higher incomes and lower-priced suburban housing, ranged from an average of 1.65 in 2007 to 2.42 in 2012 (Table 3).

Dr. Torres (ltorres@mays.tamu.edu) and Dr. Gaines (jpgaines@tamu.edu) are research economists with the Real Estate Center at Texas A&M University.

THE TAKEAWAY Housing within the Border areas tends to be slightly newer, somewhat smaller and markedly less expensive than in other areas. The dissimilarities in the housing markets between the major MSAs and the Border MSAs reflect the structural economic disparities among the urban groups. The major MSAs’ technology-, services- and energydriven economies make them more prosperous than the Border MSAs, which depend more on the Mexican economy, retail, transportation and warehousing and the U.S. government.

13

Water Policy

14

TIERRA GRANDE

N

Figure 1. Water Planning Regions ews stories about Texas municipalities running short of water have many people Panhandle wondering whether their communities are (A) prepared for droughts and population growth in the coming decades.

The Texas Water Development Board (TWDB) Llano Estacado Region (O) B offers Texans information about their current local Region water situations as well as projections of future C conditions based on population growth and available water supplies. These forecasts are Brazos (G) prepared by 16 regional water planning Region groups (RWPG) reporting to the TWDB F Far (Figure 1). Each group holds public meetings West Lower Texas Colorado and solicits input from concerned citizens, then (E) Plateau (K) estimates current and projected supplies of avail(J) South Central Lavaca able water during time of drought along with aggreTexas (P) gated demands placed on those supplies at ten-year (L) intervals through 2060. When demand exceeds Source: Texas Water Development Board, 2012 Texas State Water Plan supplies during a projected time of drought, Coastal Bend the groups identify strategies to enhance available (N) water resources and avoid those shortfalls. TWDB Rio Grande publishes a state water plan that includes all the (M) regional plans.

JULY 2014

North East Texas

(D)

East Texas

(I)

Region

H

15

BOATHOUSES ALONG LAKE TRAVIS (previous pages) are high and dry after several years of drought. In better, wetter times, water levels were high at a Robertson County lake where Texans enjoy boating, fishing and other water sports (below).

R

ecently, TWDB made the state water plan available in a user-friendly application online (http://texasstatewaterplan.org/#/needs/2010/state). Using this website, individuals can access information about their region of the state.

For example, selecting the Brazos Region (G) provides shortfall data by decade from 2010 to 2060 (Figure 2).

Each colored circle on that map applies to a particular entity such as a county, a city or a water district. Dark green means that current water supplies substantially meet all needs even under drought conditions. Red signifies an entity for which a drought would result in a 50 to 100 percent shortage. Hovering over the red dots in the black circle imposed on the map reveals that Liberty Hill, Weir, Jarrell and Thrall would all have experienced severe shortfalls if a severe drought had occurred in 2010. The second map (Figure 3) indicates that by

16

2060, those four entities are joined by many more red dots, including Round Rock, with needs amounting to 80 percent of demand.

In addition to the region view, users can specify counties or entities, such as cities or utility districts. For example, selecting Brazos County shows that all users in 2010 would weather a drought with no shortfalls, but by 2060 conditions change (Figures 4 and 5). Given population growth and development, College Station would fall 18 percent short of demand for water if a record drought occurred in 2060. In addition, the Wickson Creek Special Utility District would be challenged, with supplies falling 58 percent short of demand.

Clearly, such entities face a difficult future without new strategies to meet these shortfalls. The RWPG must devise measures to fill these gaps. The 2011 Regional Water Plan TIERRA GRANDE

Figure 2.

State Water Planning Brazos Region (G) Water Shortfall, 2010 Region

B

Llano Estacado

(O)

North East Texas

Region

C

Figure 3.

State Water Planning Brazos Region (G) Water Shortfall, 2060

Region

(D)

East Texas

Brazos

F

(I)

(G)

Region

B

Llano Estacado

(O)

North East Texas

Region

C

(D)

Lower Colorado

(K)

Region

H

Region

F

East Texas

Brazos

(I)

(G)

Lower Colorado

(K)

Plateau

Region

(J)

H

South Central Texas

(L)

Lavaca

(P)

South Central Texas

(L)

Lavaca

(P)

Need as Percent of Demand 50% < ≤ 100% 25% < ≤ 50% 10% < ≤ 25% 0.5% < ≤ 10% ≤ 0.5% Size indicates relative need volume.

Source: Texas Water Development Board, 2012 Texas State Water Plan

specifies how College Station can meet its projected needs through a combination of conservation, wastewater reuse, additional development of the Carrizo-Wilcox Aquifer and purchase of water from the Brazos River Authority. These recommended strategies all come with an associated price tag in terms of annual operating costs as well as capital investment costs. Enacting these strategies will require construction projects that must be funded by the various entities involved. he 2012 Texas State Water Plan estimates the statewide cost of projects required to meet needs by 2060 will top $53 billion. Roughly half, $26.9 billion, will require state financial assistance to complete.

In November 2013, Texas voters approved Proposition 6, a constitutional amendment to create two funds enabling the newly constituted TWDB to support this development. The

T

JULY 2014

amendment created the State Water Implementation Fund (SWIFT), which resulted in the transfer of $2 billion from the Economic Stabilization Fund, popularly known as the “rainy day fund,” to SWIFT. The second fund created by the amendment is the State Water Implementation Revenue Fund for Texas (SWIRFT). SWIFT holds funds, including the $2 billion from the rainy day fund, but does not make direct loans for projects. Funding from SWIFT must be channeled through a specific family of TWDB funds or through the newly created SWIRFT to projects identified in the state water plan. Through “bond enhancement agreements,” SWIFT funds can be used to provide low-interest loans, long-term loans, loan deferrals and incremental repurchase terms for certain facilities from the state. The law prohibits SWIFT from funding grants. SWIFT can’t issue revenue bonds, but SWIRFT can issue up to $6 billion

17

WATER IS PLENTIFUL at Lake Bryan these days, but Brazos County, along with most other Texas counties, is projected to face shortfalls in 2060.

Figure 4.

Brazos County Water Shortfall, 2010 Region

LEON

Brazos

H

(G)

MADISON

ROBERTSON

East Texas

Figure 5.

Brazos County Water Shortfall, 2060

BRAZOS BURLESON

Region

LEON

(G)

ROBERTSON

H

MADISON

East Texas

WASHINGTON

(I)

MILAM BRAZOS

Need as Percent of Demand

WASHINGTON WALLER

MONTGOMERY

BURLESON

18

WALLER

WALKER GRIMES

in general obligation bonds. Together, these funds function like a bank dedicated to leverage the initial $2 billion to support capital improvements needed to complete the state water plan.

The seven-member SWIFT Advisory Committee will oversee operations. The committee must provide comments and recommendations on prioritization of projects both within regional water plans and in the state water plan. TWDB and the RWPGs have begun the process of prioritizing projects based on a set of uniform standards adopted in December 2013.

First, each RWPG will prioritize its planned projects. The groups will consider such criteria as when the project is needed, feasibility, viability, sustainability and cost effectiveness. The final regional prioritizations are due by Sept. 1, 2014.

Then, TWDB will prioritize all projects statewide. The rankings will be used to choose which projects to support with SWIFT funds.

Texas will need to augment and manage its water resources wisely to provide for future generations. The planning process aims to accomplish that mission for the next 50 years. Individuals concerned with the needs listed on the TWDB website can take steps

WALKER GRIMES MONTGOMERY

Brazos

(I)

MILAM

Source: Texas Water Development Board, 2012 Texas State Water Plan

50% 25% 10% 0.5%

< < < <

≤ ≤ ≤ ≤ ≤

100% 50% 25% 10% 0.5%

Size indicates relative need volume.

to help solve the problems by participating in the planning process. The Regional Water Plans website includes a list of meeting schedules and can be found at twdb.state.tx.us/waterplanning/rwp/plans/2011/.

Dr. Gilliland (c-gilliland@tamu.edu) is a research economist with the Real Estate Center at Texas A&M University.

THE TAKEAWAY The Texas State Water Plan presents data on current water supplies and estimated future needs for all 16 water regions. Reports at the state, county and city levels spell out how a particular area plans to overcome any forecasted water shortfalls.

TIERRA GRANDE

Homebuying

By Mark G. Dotzour, Colt Kokel and Joshua Parulian

I

t wasn’t all that long ago that real estate professionals wondered whether the Internet would render their profession unnecessary. As it turned out, this worry was unfounded.

While homebuyers and sellers alike flock to the web for information, a 2013 survey conducted by the National Association of Realtors (NAR) reveals that 83 percent of Texas respondents purchased their homes through a real estate agent or broker (Table 1). The Texas Association of Realtors, Houston Association of Realtors and the Real Estate Center collaborated with NAR on the “2013 Profile of Home Buyers and Sellers” survey.

Another 13 percent of Texas buyers purchased their homes directly from a builder or builder’s agent. Only 3 percent purchased their homes directly from the previous owner. This data confirms that real estate agents still play a major role in the homebuying marketplace.

NAR historical data show an interesting trend in the “for sale by owner” (FSBO) market (Table 2). The data show that the percentage of houses purchased directly from the previous owner has been declining for years. Thirteen years ago, 15 percent of American buyers purchased a Table 1: How Texans Purchased a Home in 2013 Percent Through a real estate agent or broker Directly from a builder or builder’s agent Directly from the previous owner

83 13 3

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers JULY 2014

Table 2: How Americans Purchase a Home 2001 2013 Percent Through a real estate agent or broker Directly from a builder or builder’s agent Directly from the previous owner

69 15 15

88 7 5

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

FSBO. Just 5 percent of buyers purchased a house directly from an owner in 2013. This means the FSBO market share has declined by 66 percent in the 21st century. Notice that the FSBO market in Texas is even smaller, with just 3 percent market share in 2013 (Table 1).

While real estate professionals have historically been the main information source for the home search, these days the Internet plays a key role. When Texans were asked about the first steps they take in looking for a home, 39 percent said they looked at houses online and 18 percent said they contacted a real estate agent (Table 3). Just 3 percent began their search by viewing open houses. Only 1 percent reported looking in newspapers and other print media.

Texans find several sources useful in their efforts to find the right home. Seventy-nine percent of Texans think the Internet provides “very useful” information, and 77 percent say the same about agents (Table 4). Thirty-three percent find open houses very useful. Those buying a new home find the home builder to be a very useful source of information.

19

Table 3: First Steps Taken by Texans in the Homebuying Process Percent Looked online for properties for sale Contacted a real estate agent Looked online for information about the homebuying process Drove by homes/neighborhoods Contacted a bank or mortgage lender Talked with a friend or relative about the process Visited open houses Looked in newspapers, magazines or homebuying guides Contacted a home seller directly

39 18 15 8 6 5 3 1 1

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

The survey provided insight into what services buyers want from real estate agents. Helping to find the right house, negotiating the terms of sale and helping with price negotiations were the most-sought-after services (Table 5).

The survey also identified benefits provided by real estate agents during the homebuying process. Some differences were apparent between first-time homebuyers and repeat buyers.

Many first-time buyers cited help with the homebuying process to be a key benefit, while repeat buyers felt that having agents point out unnoticed features or faults with the property to be a key benefit (Table 6).

T

exas homebuyers typically don’t interview many agents before choosing one. In the survey, 68 percent reported interviewing only one agent. Another 20 percent said they interviewed two, and just 12 percent interviewed more than two agents. This suggests that if an agent is able to get the client in the door, they will likely represent that client.

Table 5: What Texas Buyers Want Most From Real Estate Agents Percent Help finding the right home to purchase Help negotiating the terms of sale Help with price negotiations Determining comparable homes selling prices Help with paperwork Help determining how much home they can afford Help finding and arranging financing Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

How buyers have found the home they purchased has shifted dramatically over the past decade. Even though most buyers are working with a real estate agent in Texas, 37 percent found the home they wanted to buy from Internet searching. Real

Table 6: Benefits Provided by Real Estate Agents During the Purchase Process First Time Repeat Buyer Buyer Percent

Table 4: Buyers Find These Sources to be “Very Useful” Percent Website Real estate agent Mobile website or app Home builder Yard sign Open house Print newspaper ads Home book or magazine

79 77 68 54 36 33 20 15

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

20

50 13 10 9 7 4 3

Helped buyer understand the process Pointed out unnoticed features/faults with property Negotiated better sales contract terms Improved buyer’s knowledge of search areas Provided a better list of service providers Negotiated a better price Shortened buyer’s home search Provided better list of mortgage lenders Narrowed buyer’s search area Expanded buyer’s search area

79 56 51 46 46 40 25 25 15 22

46 56 47 49 42 40 33 19 17 21

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers TIERRA GRANDE

A SURVEY REVEALS that homebuyers spend lots of time on the Internet searching for homes, but when they’re ready to view homes, they turn to real estate professionals. They want a broker or agent who is honest and trustworthy and communicates well, keeping them updated on new listings or price changes.

estate agents helped 32 percent of buyers find their homes and 10 percent found their homes from a yard sign or open house.

A sizable 13 percent of buyers found their homes with the assistance of a home builder or a home builder’s agent (Table 7).

Table 7: Where Texas Buyers Found Their Purchased Home Percent Internet Real estate agent Home builder or their agent Yard sign/open house Newspaper advertisement

37 32 13 10 1

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

The 2013 survey also provided valuable information about the most important factors homebuyers consider when choosing a real estate agent to serve them (Table 8). The most important trait to Texans is honesty and integrity, closely followed by agent reputation. omebuyers have always valued communication with their real estate agent. This still holds true. Seventynine percent of respondents to the survey said that personal calls from the agent to inform them of activities is important (Table 9). Getting posts about new listings or price changes to existing listings is also key, along with

H

Table 8: Most Important Factors When Choosing an Agent (Texans) Percent Honest and trustworthy Reputation Friend or family member Knowledge of neighborhoods Caring and a good listener Timely with responses Highly accessible

24 22 15 14 8 6 4

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers JULY 2014

market reports. Having a mobile site, email newsletter, Facebook page or a blog are rated lower in terms of important communication.

The 2013 survey of homebuyers and sellers revealed that real estate is still a “people business.” While the Internet has made it easier for Americans to find information about homes for sale and the prices of those homes, real estate agents continue to play a huge role in facilitating home sales in Texas and throughout America.

Table 9: Importance of Agent Communications to Texans Percent Calls personally to inform of activities Sends postings of new listings or price changes Sends email about specific needs Sends market reports on recent listings and sales Has a web page Sends an email newsletter Advertises in newspapers Is active on Facebook Has a blog

79 72 69 57 36 13 5 5 2

Source: National Association of Realtors, 2013 Profile of Home Buyers and Sellers

The residential brokerage business is not being automated out of existence. Real estate professionals who are honest, know the market and communicate well with their clients are likely to be successful.

Dr. Dotzour (dotzour@tamu.edu) is chief economist and Kokel and Parulian are research assistants with the Real Estate Center at Texas A&M University.

THE TAKEAWAY Homebuyers and sellers rely on the Internet for information, but a large majority of Texans still sign with a real estate agent or broker, according to a 2013 survey conducted by the National Association of Realtors. Help in finding the right home to buy, and negotiating both price and terms of sale top the list of what buyers and sellers want from real estate professionals.

21

Housing Markets

Rising Flood Insurance, Sinking Home Values

By Ali Anari

S

ince the U.S. Congress passed the Biggert-Waters Flood Insurance Reform Act of 2012, the Real Estate Center has received a number of queries regarding the impact of higher flood insurance costs on home values. The act requires the Federal Emergency Management Agency and other agencies to implement a number of changes in the National Flood Insurance Program (NFIP) and requires the NFIP to raise rates to reflect true flood risks. For more information about the Biggert-Waters Flood Insurance Reform Act, see “On the Water Front,” Tierra Grande, April 2014.

The impact of higher home insurance costs on home values is especially relevant to Texas homeowners because home insurance costs here are much higher than national averages (Table 1). A research study at the Real Estate Center on the impact of housing costs on home values in Texas found that a $1 increase in annual owners’ costs (tax, insurance, maintenance) is expected to decrease owner-occupied home values by about $16.50.

Home Values

In a competitive market, the price of a house as an asset is equal to the present value of net rent, just as a company’s stock price is equal to the present value of the future dividends.

Home values can be influenced by two major factors: net rent and the investor’s required rate of return. Net rent is equal to gross rent minus property taxes, insurance and maintenance costs. Because the economic life of Table 1. Renters’ and Homeowners’ Insurance Costs for Texas and United States a house is normally more than 50 years, an increase in annual rent Homeowners’ Average Premium Renters’ Average Premium by $1 results in $50 when rents are Texas United States Texas/U.S. Texas United States Texas/U.S. added up over 50 years. Similarly, an Year $ $ Ratio $ $ Ratio increase in insurance premiums by 2000 880 508 1.73 233 175 1.33 $1 results in a $50 increase in insur2001 955 536 1.78 235 178 1.32 2002 1,238 593 2.09 269 186 1.45 ance costs over the life of a house.

2003 1,328 668 1.99 277 192 1.44 In the real world, $1 earned or 2004 1,362 729 1.87 277 195 1.42 spent today is more valuable than 2005 1,372 764 1.80 269 193 1.39 $1 to be earned or spent a year from 2006 1,409 804 1.75 261 188 1.39 now or in later periods because of the 2007 1,448 822 1.76 226 182 1.24 potential earning capacity of money.

2008 1,460 791 1.85 216 176 1.23 One dollar today is preferred over Source: U.S. Census Bureau, Statistical Abstract of the United States: 2012

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TIERRA GRANDE

A FLASH FLOOD with twice the force of Niagara Falls inundated neighborhoods along Austin’s Onion Creek in October 2013.

Table 2. Texas Metro Areas Ranked by Housing Costs For Homes Without a Mortgage, 2012

$1 later. Inflation erodes the purchasing power of money, which means $1 today can buy more goods and services than $1 next year. Future net rents need to be adjusted for the time value of money by multiplying net rents in each period by a discount factor reflecting the time value of money. Because house prices are discounted values of future net rents (and net rents are gross rents minus costs) an increase in housing costs results in a decrease in home values. The decrease in home values is equal to the present value of additional annual costs.

Higher homeowners’ insurance costs are expected to have a negative impact on home values because these costs reduce net rents over the economic life of a home. As it is, Texas homeowners’ insurance premiums have been over 73 percent higher than the national average since 2000 (Table 1).

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Rank

Metropolitan Area

Home Value $

Housing Costs $

Percent of Housing Costs

1 2 3 4 5 6 7 8 9 10 11 11 13 14 15 16 17 18 19 20 21 22 23 24 25

McAllen-Edinburg-Mission Brownsville-Harlingen Corpus Christi Laredo Waco Wichita Falls San Angelo Beaumont-Port Arthur Abilene Odessa Texarkana Lubbock Victoria Killeen-Temple-Fort Hood Houston-Sugar Land-Baytown Dallas-Fort Worth-Arlington San Antonio-New Braunfels Sherman-Denison Tyler Longview Amarillo College Station-Bryan Midland El Paso Austin-Round Rock-San Marcos

60,400 61,300 83,700 78,900 79,000 84,300 79,700 84,300 82,300 80,600 77,200 95,700 97,600 99,500 118,100 123,800 100,100 102,700 99,700 94,100 104,800 126,200 134,900 93,400 188,400

4,080 4,020 5,148 4,788 4,788 5,004 4,572 4,488 4,368 4,248 4,032 4,992 5,076 5,124 6,060 6,252 4,980 5,076 4,704 4,368 4,800 5,688 5,940 3,936 7,104

6.75 6.56 6.15 6.07 6.06 5.94 5.74 5.32 5.31 5.27 5.22 5.22 5.20 5.15 5.13 5.05 4.98 4.94 4.72 4.64 4.58 4.51 4.40 4.21 3.77

Source: U.S. Census Bureau

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SOUTHEAST AUSTIN RESIDENTS abandon their homes during the Onion Creek flood. The creek rose 11 feet in 15 minutes and crested at a record 41 feet.

Metro Housing Costs, Home Values

H

Home Value (Dollars)

200,000

Texas Metro Housing Markets Owner-Occupied Home Values and Owners’ Costs

150,000

ousing costs increase with home values.

Homes with higher prices have higher 100,000 property taxes, insurance and maintenance costs. Housing costs as a percentage of home values is an appropriate measure of these costs.

To analyze the relationship between home 50,000 values and housing costs, the Center compared home values and housing costs of homes without a mortgage. The financing methods used to 3.6 3.8 4.0 4.2 4.4 4.6 4.8 5.0 5.2 5.4 5.6 5.8 6.0 6.2 6.4 6.6 6.8 Percentage of Housing Costs purchase homes (cash or credit) have no impact on Source: Real Estate Center at Texas A&M University home values. Texas metropolitan areas are ranked by housing cost as a percentage of housing values Some Caveats in 2012 for homes without a mortgage in Table 2. McAllenEdinburg-Mission has the highest cost (6.75 percent) followed There are some caveats about using this study for the analysis

by Brownsville-Harlingen (6.56 percent), Corpus Christi of the impact of higher flood insurance costs on Texas home (6.15 percent), Laredo (6.07 percent) and Waco (6.06 percent). values. First, data for home values and home costs are averAustin-Round-Rock-San Marcos had the smallest percentage of ages while waterfront home values are normally higher than housing costs (3.77 percent) in 2012 followed by El Paso (4.21 averages. Second, waterfront homes do not constitute a large percent), Midland (4.40 percent), College Station-Bryan (4.51 proportion of homes in Texas. Third, the passage of the Biggertpercent), and Amarillo (4.58 percent).

Waters Flood Insurance Reform Act of 2012 is expected to he relationship between Texas metropolitan home valhave an impact on residential location decisions by Texas ues and percentages of housing costs are illustrated in homeowners and builders. Because of the flexibility of the a scatter diagram (see figure). The computed trend line supply side of Texas residential markets, Texas builders and shows a significantly negative relationship between home valTexas waterfront home lovers may be able to optimize the ues and percentages of housing costs; that is, as the percentage trade-off between the utility of waterfront homes and their of housing costs increases, home prices decline. A regression higher costs. analysis of the relationships between home values, homeownDr. Anari (m-anari@tamu.edu) is a research economist with the Real Estate ers’ incomes and percentages of housing costs show that a Center at Texas A&M University. $1,000 increase in annual housing costs is expected to decrease home values by about $16,500. (Assuming the useful life of a THE TAKEAWAY house to be 40 years, the $16,500 decrease in home values is the present value of the increase in annual housing costs over a An annual increase of $1 in homeowners’ costs (tax, period of 40 years by $1,000 per annum when the discount rate insurance and maintenance, for example) can be expected is 5.3 percent.) So if a homeowner’s flood insurance premium to decrease home value by $16.50, according to a study goes up by $1,000 per year, it would on average decrease the conducted by the Real Estate Center. value of the average home $16,500.

T

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TIERRA GRANDE

Water Rights

T

exas faces a water crisis. As demand rises and supply dwindles, the use and ownership of water weighs on the minds of politicians, developers, consumers, landowners and attorneys. In November 2013, Texas voters approved Proposition 6, a constitutional amendment allowing the removal of $2 billion from the state’s “rainy day fund” to finance water projects for the next 50 years.

In the past, minerals played a key role in real estate transactions. Now, water shares the attention. Do landowners own or have the right to use the water located on and under their property?

Where does water fit into scheme of property rights? The answer to these and other questions depends, for the most part, on location.

Texas recognizes four categories (or locations) of water, two on the surface and two in the ground. The two on the surface are diffused surface water and water in a watercourse. The two below the surface are percolating groundwater and water in an underground stream or lake. While the state owns most surface water, most, if not all, groundwater is privately owned.

Diffused Surface Water Texas case law describes diffused surface water as moisture spread over the earth’s surface after a rainstorm or snowmelt, following no defined course. It retains this status as long as it does not reach a watercourse or natural impoundment such JULY 2014

as a stream or lake, or has not evaporated or soaked into the ground. If diffused surface water is captured, it belongs to the landowner. Rain running off a roof exemplifies a good source of privately owned water.

Liability for diverting surface water onto another’s property varies. If diffused surface water is diverted and damages a neighbor’s property, the landowner is liable. However, if the water is in a watercourse, no liability arises. Location is critical.

Water in a Watercourse Texas owns the surface water in a watercourse. Case law defines a watercourse as a channel with a defined bed, visible banks and an intermittent flow (supply) of water. The channel can be reasonably defined and the flow seasonal. The bed and banks can be slight, imperceptible or even absent in some cases. The channel may be dry for long periods.

Texas statutes relegate the ownership of water in a channel and other confinements to the state. Section 11.021 of the Texas Water Code (TWC) describes it this way: “The water of the ordinary flow, underflow and tides of every flowing river, natural stream and lake, and of every bay or arm of the Gulf of Mexico, and the storm water, floodwater and rainwater of every river, natural stream, canyon, ravine, depression and watershed in the state is the property of the state.”

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SUNSET ON THE COLORADO RIVER in Pace Bend Park, Spicewood, Texas.

While landowners do not own this water, they have the right to use it for limited purposes. If a flowing stream is located on or abuts the property, landowners may use the flow for household and domestic purposes, including watering of livestock, according to a concept known as riparian water rights.

The basic principle of riparian use is that each owner has the right to use the water flowing over his or her land, in its natural current, without diminution or obstruction. The use must be beneficial and reasonable but may not inflict undue injury on downstream users.

Impounding Surface Water

T

ypically, landowners desire to impound the water in a stream or gully to create a pond or lake for livestock and/or recreational purposes. Because this water is state owned, is a permit required?

The answer depends on the size of the proposed impoundment. A property owner may construct a dam or reservoir on his or her property without a permit as long as the normal storage capacity does not exceed 200 acre feet (Section 11.142, TWC). The water may be used for domestic and livestock purposes only. No commercial use is allowed without a permit.

Larger impoundments face more restrictions. Owners must meet the dam safety requirements specified in section 12.052 of the TWC unless the maximum capacity is less than 500 acre feet, the impoundment lies outside the boundaries of the corporate

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limits of a municipality and the county has a population of less than 350,000, among other things.

To make any commercial use of state water, either impounded or in a watercourse, requires a permit. Permitting is beyond the scope of this article except to say permits are based on prior appropriation, meaning the first in time, first in right. Permits are issued until a stream is totally appropriated. During droughts, landowners with the oldest permits get first rights.

However, according to case law, landowners’ riparian rights supersede the state’s appropriation rights. This means the state cannot defeat a landowner’s riparian rights by over appropriating (over permitting) a stream.

Ownership of Spring Water If a spring originates on the property, does the water belong to the landowner or to the state? The answer depends on whether the water flows off the property.

When the water establishes a permanent stream or watercourse on or across another’s land, the owner of the land where the spring originates cannot claim ownership. The landowner does, however, have riparian rights along with other downstream users.

When the natural flow of the spring water does not pass beyond the landowner’s boundaries but either soaks into the ground or flows in a course that does not leave the property, the water belongs to the landowner.

Even though the water may flow off the property, it may still be considered privately owned as long as the flow is so insufficient TIERRA GRANDE

as to be of no value to another riparian owner or if the flow does not add perceptibly to the volume of a stream.

Minerals and Watercourses In Texas, the ownership of the minerals under a watercourse (stream) depends on whether the stream is navigable. The state owns the minerals beneath the streambeds of navigable watercourses. In addition, the public has the right of ingress and egress up and down the streambed.

But at what point on navigable streams does state ownership end and private property begin? Case law places the point at the gradient boundary line. This point lies midway between where the lower level of the flowing water just reaches (touches) the cut bank and the higher level where it overtops the cut bank. On some streams, the determination requires a sophisticated survey.

If a stream is not navigable, the state still owns the water, but the minerals beneath the streambed are privately owned and the public has no right of entry.

The key component is navigability. The law contains two definitions.

A stream may be navigable-in-law or navigable-in-fact. A stream navigable-in-law retains an average width of 30 feet from the mouth up (Section 21.001, Texas Natural Resources Code). The amount of water is irrelevant. A stream navigablein-fact is less than 30 feet and can be used, in its natural and ordinary condition, as a highway for commerce in the customary modes of trade and travel.

The courts struggle to apply these definitions to actual conditions. For example, a recent case held that the “30 feet from the mouth up” does not mean a measurement between the gradient boundary lines on opposite banks. Instead, the measurement lies between points determined by the courts (Hix v.

Robertson, 211 SW 3rd 423).

Likewise, another case held that it is practically impossible to determine when a stream is navigable-in-fact. According to the court, “a stream navigable in fact is not susceptible of definition or determination by a precise formula that fits every type of stream or body of water under all circumstances and at all times” (Taylor Fishing Club v. Hammett, 88 SW 2d 127).

Percolating Groundwater Percolating groundwater is water oozing, seeping or filtering through the soil following no defined channel or course. It is quite similar to diffused surface water except it is below the surface. All groundwater is presumed percolating and privately owned. Many Texas farmers and ranchers depend on this source of water for their livelihood.

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When the minerals and surface estates are severed, who owns the percolating groundwater: the mineral owner or the surface owner? The answer depends on the wording of the reservation. Typically, the deed recites that the seller conveys the surface and reserves (retains) the minerals or oil, gas and other minerals. If groundwater is not mentioned in the reservation, then it belongs to the surface owner.

The rule of capture governs the production of percolating groundwater just as it does oil and gas. The rule permits the drainage of groundwater (and oil and gas) from underneath a neighbor’s property (and vice versa) as long as it occurs from a legal location. The legal location for groundwater depends on whether a groundwater district has jurisdiction.

If there is jurisdiction, the groundwater district dictates the minimum distance from a property line. Likewise, the groundwater district may impose pumping limits. If there is no groundwater district, there are no required distances from a property line for a water well location and no pumping limits.

Production from a legal location does not shield the landowner from liability. Texas law still imposes damages if the drainage: • negligently causes subsidence, • causes waste or • maliciously injures a neighbor.

Water in Underground Streams and Lakes

W

hile all groundwater is presumed to be percolating and privately owned, groundwater located in an underground stream or lake belongs to the state.

However, so far the presumption of percolating groundwater has not been overcome.

Section 36.002 of the TWC supports this position with this language: “(T)he Legislature recognizes a landowner owns the groundwater below the surface of the landowner’s land as real property.” Taken literally, the statement precludes the state from ever owning any groundwater in an underground stream or lake. However, even though the groundwater may be privately owned, Section 36.002 goes on to say that the use of the groundwater is subject to a groundwater district’s well spacing and pumping limits.

Fambrough (judon@tamu.edu) is a member of the State Bar of Texas and a lawyer with the Real Estate Center at Texas A&M University.

THE TAKEAWAY Water is an increasingly valuable commodity in Texas and is gaining prominence in real estate transactions. The ownership and use of water depends on location. Most surface water is owned by the state, while most underground water is privately owned and can be conveyed or reserved.

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Taxes

Part-Time Pitfalls

By Jerrold J. Stern

M

any real estate professionals and other individuals own rental properties. One of the benefits is deducting rental losses on their personal tax returns.

Full-time real estate professionals (brokers and salespersons, for example) may deduct losses in full. However, special rules apply to those who own and operate real estate rental properties part time and have no other real estate related business activities.

A 2014 tax court case highlights the rules for parttimers and demonstrates how deductions might be disallowed.

For those who own and manage rental properties part time, the tax law generally treats their real estate investments as “passive” unless they “materially participate” in the management and operations of the property (as described later). A general rule that applies to all investors is that losses from passive activities can only be deducted against passive income. Income from partnerships or corporations in which the investor does not materially participate are examples of passive income. Surprisingly, passive income does not include “portfolio income” such as interest, dividends and most capital gains.

The general material participation test requires that investors/ owners devote 500 hours per year to the activity. In addition, they must document that their involvement in the business activity is “regular, continuous and substantial.” nfortunately, for real estate part-timers who own rental property, there is a separate real estate material participation test. For example, John, a high school teacher, may deduct unlimited real estate losses against active and/or portfolio income if (a) more than half of all his work hours pertain to real estate business activities in which he materially participates, and (b) he devotes more than 750 hours to those activities. Active income includes sales commissions and salaries.

The results of a 2014 tax court case, Najeem B. Adeyemo, et ux. v. Commissioner, TC Memo 2014-1, illustrate how the rules operate for part-timers. In particular, the case focuses on the manner in which records must be kept to document the part-timer’s real estate activities. Najeem, a pharmaceutical sales representative, lost the case because the court did not believe he provided adequate documentation. Thus, the court determined that his rental losses were passive.

The record-keeping requirement may be met in two ways.

The investor may keep “contemporaneous” daily time reports

U

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or logs. Alternatively, according to the court case, the investor can identify “services performed over a period of time and the approximate number of hours spent performing such services during such period, based on appointment books, calendars or narrative summaries.”

Najeem kept a logbook of his real estate activities. But the hours in the logbook were less than one-half of all of his work hours and thus did not meet the tax law requirement for allowing losses to be deducted against active and/or portfolio income.

He claimed the logbook was incomplete and created a spreadsheet that added more details (and hours) to his real estate activities. However, the spreadsheet was prepared a few days before the trial. The IRS argued that the hours and activities recorded on the spreadsheet were “uncorroborated,” “self-serving” and based on “ballpark guesstimates.”

In response, Najeem provided “some 300 pages of documents apparently related to the rental real estate business. The documents were in no discernible order and consisted primarily of receipts, invoices, leases and court documents.” However, Najeem could not explain how the documents directly supported the information in his logbook or spreadsheet.

Najeem and others who have passive losses and no passive income during the tax year may “carry forward” their unused losses to future years to reduce passive income. Unused losses are fully deductible in the year the property is sold.

Had Najeem sought the aid of a tax professional in connection with maintaining documentation of his real estate activities, he might have prevailed. In general, consultation with a tax accountant or tax attorney is recommended for all substantial real estate rental activities.

Dr. Stern (stern@indiana.edu) is a research fellow with the Real Estate Center at Texas A&M University and a professor of accounting in the Kelley School of Business at Indiana University.

THE TAKEAWAY Full-time real estate professionals who own rental properties may deduct their rental losses in full. However, parttimers must devote over 750 hours per year to real estate activities and compile detailed documentation of their time in order to deduct rental property losses.

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