Tierra Grande - October 2014 by Texas Real Estate Research Center

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TIERRA GRANDE

OCTOBER 2014

VOLUME 21, NUMBER 4 ™

TIERRA GRANDE

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recenter.tamu.edu

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

Director, GARY W. MALER Chief Economist, MARK G. DOTZOUR Senior Editor, DAVID S. JONES 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 Lithography, RR DONNELLEY, HOUSTON ADVISORY COMMITTEE: Kimberly Shambley, Dallas, chairman; C. Clark Welder, San Antonio, vice chairman; Mario A. Arriaga, Conroe; James Michael Boyd, Houston; Russell Cain, Port Lavaca; Jacquelyn K. Hawkins, Austin; Walter F. “Ted” Nelson, Houston; Doug Roberts, Austin; Ronald C. Wakefield, San Antonio; and Bill Jones, Temple, ex-officio representing the Texas Real Estate Commission.

14 Gridlocked

Tackling Texas Transportation Troubles

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.

The number of vehicles in Texas is growing exponentially, but the gasoline tax we pay at the pump is not. Funds for new highways and bridges, and for maintenance of existing infrastructure, are decreasing. BY GINGER GOODIN

SUBSCRIPTIONS free to Texas real estate licensees. 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: Courtesy of Texas Transportation Institute, pp. 1, 14–15, 16 (bottom), 17; JP Beato III, pp. 2–3, 10–11, 16 (top); Real Estate Center files, pp. 6, 8–9, 12; Robert Beals II, pp. 18–19, 24–25; Kari Rives, p. 28. © 2014, Real Estate Center. All rights reserved.

2 The Pendulum Swings Dodd-Frank’s Impact on the Housing Market

No more no-doc/low-doc loans, folks. The Dodd-Frank Act requires additional documentation and makes lenders liable for a buyer’s ability to repay the loan. BY JAMES P. GAINES

Electronic Transactions

When Email Becomes a Contract Texas law governing electronic records is in its infancy. Just as a heads up, the judge in one case ruled that several email messages between the buyer and the seller and their brokers, taken together, constituted a contract. BY JUDON FAMBROUGH

10 What to Do About All This

Fracking Water ON THE COVER Highway 183 and Ranch Road 620 Interchange, North Austin

PHOTOGRAPHER Kevin Coe Photography

OCTOBER 2014

In the fracking process, water is used to break up shale and free trapped oil and gas. Once the project is finished, the water can be reused as is, treated and recycled, or disposed of. BY HAROLD D. HUNT

18 Life After Economic Data Revision

Each month employment numbers are released. A month later, revised figures are released. But wait! They’re still not final. What’s going on here? BY ALI ANARI

24 Oil Prices Lead, Land Prices Follow

It’s no surprise that the oil and gas industry has a noticeable effect on Texas real estate. New Center research reveals a strong correlation between oil prices and prices for rural land. BY ALI ANARI AND CHARLES E. GILLILAND

28 Payroll Tax Rules

Most licensed real estate professionals are considered independent contractors for tax purposes. But it can’t hurt to refresh your memory regarding the differences between an independent contractor and an employee. BY JERROLD J. STERN

Housing Market

he Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 swung the mortgage credit pendulum from the “way too easy” side to the “almost ridiculously difficult” side of the underwriting spectrum. Tighter mortgage credit has constrained a robust housing recovery and formed a general deterrent to economic recovery. The Dodd-Frank Act, most of which went into effect January 10, 2014, directly affects both primary and secondary mortgage markets. The act created the Consumer Finance Protection Bureau (CFPB) to oversee primary loan activity and to protect the mortgage consumer. The act also enacted broad sweeping

regulations in the financial markets to provide general oversight of Wall Street and financial institutions that play a large role in the sale of mortgages in the secondary market.

Focus on Primary Mortgage Lending Perhaps the single most significant overall provision of DoddFrank’s mortgage rules creates potential legal liability for a lender if a borrower defaults and can show that the lender failed to evaluate his ability to repay (ATR) adequately. The potential liability for an ATR violation is substantial, exposing creditors and assignees to “enhanced” damages — actual TIERRA GRANDE

with terms of 12 months or less; the construction period of construction-to-permanent loans of 12 months or less; loans secured by a time-share; or reverse mortgages. Community development financial institutions, community housing development organizations and down payment assistance providers are exempt under certain conditions. Nonprofit, low- to moderate-income housing lenders that follow their own underwriting guidelines are generally exempted as well. he CFPB has issued general requirements for lenders to meet the ATR requirements. Before making a loan, the lender must document and verify the borrower’s: • current or reasonably expected income or assets; • credit history; • current employment status; • monthly payment on the mortgage; • monthly payment on any simultaneous loans (such as a second mortgage); • monthly payment for mortgage-related obligations (taxes, insurance, HOA fees); • current total debt obligations (alimony, child support, student loans); and • monthly debt-to-income ratio and any other income. The regulations are not specific as to how the factors are to be applied or evaluated. However, the lender is required to verify all information from independent third parties. The lender must document everything and be able to reproduce the documents in the future (no more no-doc/low-doc loans). The act provides a “safe harbor” for lenders against potential ATR-based liability by defining a qualified mortgage (QM). QM loans may be either general QM or agency QM loans and offer maximum legal protection to the lender as long as the interest rate is no more than 1.5 percentage points greater than the prevailing average prime offering rate (APOR). Other provisions offering a “rebuttable presumption” of ATR compliance attach to loans when the interest rate exceeds 1.5 percentage points above the APOR, which, by definition, indicates high-risk mortgage loans. The mandatory product feature requirements for a general QM are: • upfront fees or points cannot exceed 3 percent of the loan; • qualified mortgages cannot exceed 30 years; • no interest-only periods, negative amortization or ballooning principal; • the total debt-to-income (DTI) ratio of the borrower must be equal to or less than 43 percent (also applicable to jumbos); and • the loan must be a prime loan, which means its interest rate cannot vary significantly from the national average prime mortgage rate.

damages, statutory damages in an individual or class action, court costs and attorney’s fees, plus special statutory damages equal to the sum of all finance charges and fees paid by the consumer. Violations may also provide the borrower with a defense to foreclosure. f course, lenders always evaluated a borrower’s ability to repay a loan, but now the lender can be sued and held liable for substantial damages if it fails to evaluate that ability per the general ATR guidelines in the law. In essence, it permits the courts to second guess a lender’s evaluation of a borrower’s creditworthiness. To date, no cases have actually gone through the full legal process, so for the time being no one is exactly sure what it all really means. Lenders do not know how strictly the courts will interpret the requirements or the level of liability that will be imposed under given circumstances. Loan underwriting has never been an exact science, and lenders historically employed a great deal of flexibility and a substantial amount of subjectivity to evaluate prospective borrowers. That flexible subjectivity has been effectively removed until lenders better understand the complete ramifications of their decisions. The new CFPB ATR guidelines apply to closed-end consumer credit transactions secured by a one-to-four-unit dwelling. The guidelines do not apply to home equity lines of credit; loans

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Nearly 30 percent of survey respondents indicated that if their banks stop residential lending activity, there are no other institutions within their market area to ﬁll the void.

If a loan is eligible to be sold to Fannie Mae or Freddie Mac or to be insured by FHA, it is automatically classified as an agency QM. If Fannie, Freddie or HUD (FHA’s controlling agency) adopts guidelines looser than the CFPB’s definition of a qualified mortgage, lenders will be able to make mortgages on those looser terms without fear of legal liability. gency QMs allow lenders to make loans beyond the parameters of the general features itemized previously. According to recent data from the American Enterprise Institute’s National Mortgage Risk Index report, half of the home purchase loans analyzed during a recent month had down payments of 5 percent or less, and 22 percent had a debt-to-income ratio greater than 43 percent. Among the FHA loans included in the analysis, 35 percent had a FICO score below 660 and 42 percent had a DTI greater than 43 percent. All of the loans analyzed were DoddFrank qualified mortgages.

Dodd-Frank has made them even more significant to the market. The home loan market in the short run will be much less diverse with a greater homogeneity of product. This standardization will result in greater market systemic risk: if all lenders make similar loans, and these loans wind up being riskier than expected, the losses will be greater and more widespread. If the required product features prove too tight, the housing market will become constrained, thereby depressing the general economic contribution of housing and making homeownership more difficult. The potential market-constraining aspect of QMs became apparent in the original proposed standards which called for a minimum 20 percent down payment. That requirement was removed in the final version; no required minimum down payment is included at all. Making the underwriting for mortgage loans tighter significantly reduced the effective demand of lower-income, firsttime homebuyers. The under-$100,000 sector of the home Impacts and Implications of Dodd-Frank market, which includes many lower-income, first-time buyers, The full impact of the Dodd-Frank Act will depend on how the fell nearly 15 percent in April (see figure below). The $100,000 mortgage and housing markets play out over the next couple of to $250,000 home price segment that further incorporates years. No doubt, unforeseen issues will arise that will require many first-time move-up buyers has declined nearly 7 percent clarified or new regulain 2014. tions to fix. At present, a Far more than just ATR Percent Change in Home Sales From a Year Ago few practical effects are and QM are defined and by Price Range apparent. regulated by the CFPB. New –14.5 0–100K First, traditional lenders rules and regulations have will focus on making QM been created (or are forth100K–250K –6.6 loans or “rebuttable precoming) covering virtually –2.5 250K–500K sumption” higher-priced every aspect of the home –1.7 500K–750K loans. The legal uncertainloan process, including: ties surrounding all other • appraisal requirements, –1.7 750K–1M loans remain unsettling. fees, processes and 4.0 1M+ At the same time, howapprovals; 5% 0% –5% –10% –15% ever, some lenders will • all fees and services Source: National Association of Realtors, April 2014 be exploring the option of related to the loan, such providing non-QM loans as title insurance; due to the high demand for the product type. A substantial • loan servicing processes and compliance; number of borrowers cannot comply with a 43 percent total • foreclosure, forbearance and/or loan modification requiredebt-to-income ratio, for example. ments upon default or delinquency; Secondly, the influence of Fannie Mae, Freddie Mac and • RESPA, Truth-in-Lending and almost every other home HUD on the market will be pervasive as any loan they agree to lending law; and purchase or insure automatically qualifies as a QM loan. The • documentation, verification and reporting to other govunderwriting guidelines for the agencies will generally dictate ernment agencies any potential discrepancies or questionthe type and features of mortgage loans that will be made for able activities by a prospective borrower, such as taxes the time being. Ironically, at a time when Congress and the paid on the source of the borrower’s down payment. administration are debating eliminating Fannie and Freddie,

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Independent Bankers Association of Texas 2014 Member Mortgage Survey Sent to Smaller Community Banks Table 1. The Dodd-Frank Act rules significantly change the residential mortgage landscape, with changes to appraisals, “ability to repay” and “qualified mortgage” requirements, expanded servicing rules, and much more. In response, has your bank decided to: Stop making residential mortgage loans Limit types of residential mortgage loans it makes No change

Responses (Percent)

Responses (Count)

13.3 53.1 33.6

19 76 48 143

Table 2. “Ability to repay” (ATR) is the hallmark of the Dodd-Frank Act changes to residential mortgage lending underwriting. Banks that make qualified mortgages (QM) have a safe harbor from consumer claims relating to ATR. In response, has your bank decided to: Make only QM loans Offer both QM and other residential mortgage loans No change

Responses (Percent)

Responses (Count)

41.0 53.1 24.5

57 76 34 139

Table 3. If your bank reduces or stops residential mortgage lending in your trade area, are there other institutions that can fill that void? Yes, there other institutions in the area that appear willing to make these loans No, there are no other banks or ﬁnancial institutions

Responses (Percent)

Responses (Count)

70.4 29.6

95 40 135

Source: Independent Bankers Association of Texas, 2014 Member Mortgage Survey

hese days, with some financial institutions being labeled as “too big to fail,” the Dodd-Frank/CFPB requirements may make other financial institutions “too small to comply.” The financial cost to comply with the new and expanded loan underwriting requirements may lead some institutions to leave the primary mortgage market. In its 2014 Member Mortgage Survey, the Independent Bankers Association of Texas, which covers primarily smaller community banks throughout the state, found that many institutions will stop making loans altogether or limit their residential lending to QM loans only. Among the survey responses, 13.3 percent of the banks said they were going to stop making residential loans, and 53 percent of the respondents indicated they would limit the types of mortgage loans offered (Table 1). Among those that expect to continue to make residential loans, 41 percent indicated they have decided to make only QM loans (Table 2). Perhaps most significantly, nearly 30 percent of survey respondents indicated that if their banks stop residential lending activity, there are no other institutions within their market area to fill the void (Table 3). The Dodd-Frank Act transformed the home mortgage market from loose, easy credit to tighter, more restrictive home loan OCTOBER 2014

originations. The market reality, however, is that a substantial number of buyers need more liberal financial terms and less severe underwriting to purchase a home. As with most things, mortgage loan originators will ultimately sort through the maze of requirements, rules and regulations to satisfy the demand of homebuyers for home financing. The less severe purchase requirements by Fannie and Freddie along with FHA’s increasing role as the main support for lower-income homebuyers will provide QM protection to loan originators. Eventually, private secondary market participants will learn how to price the risk to satisfy the market demand as well. Dr. Gaines (jpgaines@tamu.edu) is a research economist with the Real Estate Center at Texas A&M University.

THE TAKEAWAY The Dodd-Frank Act puts the risk of mortgage defaults on residential mortgage originators by making them liable if borrowers default. The requirements force lenders to make safe, “vanilla” loans with lower default risk.

Brokerage

Electronic Transactions When D Email Becomes a Contract by Judon Fambrough

avid, a real estate broker, takes a listing on 34 acres of pasture land near Houston. One of the sellers, Tim, owns an additional, adjoining 3.78-acre tract he uses to stable his horses. It is not for sale. Andy, a New Jersey resident, views the listing and contacts the broker. After several emails and phone calls, the buyer comes to Texas to view the property and signs an earnest money contract for the 34 acres with a 60-day closing. He learns of the additional 3.78 acres during the visit. Prior to closing, the title commitment reveals several oil and gas leases on the property. This concerns the buyer, and he seeks to lower the sales price. Initially, the sellers balk but later renegotiate via multiple emails through their broker. During the renegotiations, Andy seeks to acquire the other 3.78-acre tract owned by Tim. The sellers counter with a two-year option to purchase the 3.78 acres (from Tim) at a stipulated price and a closing on the 34 acres within 24 hours at the initial contract price. Andy accepts via email and wires the appropriate funds the same day. A few weeks later, he exercises the option to TIERRA GRANDE

purchase the 3.78 acres. Tim refuses, alleging, among other things, that such an agreement, if it exists, does not satisfy the statute of frauds. All enforceable real estate sale contracts must be placed in writing and signed by the person charged with the promise or agreement. Although Tim typed his name at the end of the emails, he never signed a formally written contract to this effect. He counters that the agreement was for a twoyear right of first refusal, not a two-year option to purchase. Furthermore, the broker did not have the authority to accept the contract on Tim’s behalf. The buyer sues for specific performance. Is Tim bound legally to the option contract? Specifically, did the parties’ conduct satisfy the statute of frauds found in the Texas Business and Commerce Code (TBCC), Section 26.01(b)(4)?

Electronic Transactions Recognized David and all real estate practitioners should be aware of the Uniform Electronic Transactions Act (UETA) found in Chapter 322 of the TBCC. The act received little attention when passed by the Texas Legislature in 2002. This law can significantly impact (positively or negatively) the way real estate professionals negotiate and consummate contracts. Simply put, the UETA places electronic contracts and signatures on the same legal status as paper contracts with handwritten signatures as long as certain conditions are met. The primary question is whether the UETA satisfies the statute of frauds. The answer lies among the various definitions of the act.

Terms Defined

No Formal Agreement Required Based on the broad definitions of an electronic record and electronic signature, real estate contracts entered via email may be enforceable assuming one other condition is met. The act applies only to transactions between parties who have agreed to conduct transactions by electronic means. Clearly, in this situation, the buyer and sellers did not agree formally to conduct an electronic transaction. However, the act goes on to say, “Whether the parties agree to conduct a transaction by electronic means is determined from the context and surrounding circumstances, including the parties’ conduct” (Section 322.005, TBCC). Thus, the act requires no formal agreement. The agreement may be implied from the parties’ conduct, among other things. The court makes this determination long after the communications cease. Consequently, unsuspecting buyers and sellers (or their brokers and agents) may be surprised to learn they have entered a binding contract before they know it. Resorting to traditional contract principles as a defense may be futile, as here. Of course, these rules become a problem only when one of the parties wants out of the contract.

Based on the broad definitions of an electronic record and electronic signature, real estate contracts entered via email may be enforceable assuming the parties have agreed to conduct transactions by electronic means.

According to the act, a contract means the total legal obligation resulting from the parties’ agreement. An agreement is the bargain of the parties as found in their language or inferred from other circumstances. The term electronic contract is not defined, but electronic is. It relates to technology having electrical, digital, magnetic, wireless, optical, electromagnetic or similar capabilities. The act defines an electronic signature as an electronic sound, symbol or process attached to or logically associated with a record and executed or adopted by a person with the intent to sign the record. The typing of a name at the bottom of an email could be recognized as an electronic signature according to this definition. Encrypted signatures are not mentioned or required by the act, but certainly they can be used. Apparently, no encrypted signatures were used in the transaction just described. Encrypted or digital signatures are beyond the scope of this article. It is sufficient to say that unless a computer has the proper software installed, all signatures are unencrypted. OCTOBER 2014

ETA states, “If a law (such as the statute of frauds) requires a signature, an electronic signature satisfies the law.” The statute refers frequently to a record. According to the act, a record means information inscribed on a tangible medium or stored in an electronic or other medium and retrievable in perceivable form. An electronic contract satisfies this definition. The statute goes on to say, “If a law requires a record to be in writing (such as a written agreement or memorandum required by the statute of frauds), an electronic record satisfies the law.” Clearly, UETA satisfies all the requirements of the statute of frauds.

Security Procedures

he UETA appears to invite fraud by discounting the traditional pen-and-ink contracts. Anticipating the problems, drafters of the statute provided for the use of security procedures. These procedures verify that an electronic signature, record or performance is that of a specific person and detect changes or errors in the information in an electronic record. Security procedures include the use of algorithms or other codes, identifying words or numbers, encryptions, callback or other acknowledgments. Implementation of security procedures is left to the parties’ discretion.

Resolving the Dispute How would a court decide this case? The described facts are not hypothetical but based on an actual dispute, Dittman v. Cerone, decided by the Corpus Christi Court of Appeals in October 2013. Although the appellate court resolved several issues, here are the significant ones for real estate brokers and agents to consider. irst, the court aggregated three key emails to find a binding option contract. As the court pointed out, “Texas law, however, allows us to construe these email messages together to comprise one instrument. A court may determine, as a matter of law, that multiple documents comprise a written contract. It is wellestablished law that instruments pertaining to the same transaction may be read together to ascertain the parties’ intent.” Second, the court found this “agreement to agree” enforceable. As a general rule, an agreement to make a future contract is unenforceable unless all the essential elements have been resolved. In this case, the three emails taken together settled all the essential terms of the option contract. Third, the court concluded that defendants agreed to conduct the transaction electronically without a formal agreement. The statute addresses this issue in Section 322 of the TBCC, quoted earlier. The statute grants the court tremendous leeway in making this determination. Although this issue was a key element in the case, the court spent little time explaining how it reached its conclusion. The court simply stated that all the emails sent by the defendants or through their broker had a signed (typed) name at the end. Based on the parties’ conduct, the court ruled, “We hold that the evidence is legally sufficient to support a finding that the parties intended to conduct certain business electronically.” Fourth, the seller’s broker possessed the authority to bind Tim to the option contract without any formal agreement to do so. Buyers, sellers and licensees should note that this authority may be implied from the parties’ conduct. Here, the facts show Tim (and wife) instructed the broker “… to tell the buyer that they would give him a two-year option contract to purchase the stable property.” This email “was sent with their knowledge and consent, and that after they received a copy, they did not communicate either to the broker or the buyer that anything contained in that email was incorrect or that the broker was not authorized to send it.”

Fifth, the parties entered an option contract, not a right of first refusal. Although this was not a major issue in the case, the court drew a distinction between the two. The distinction should be of interest to real estate practitioners. “A right of first refusal, also known as a preemptive or preferential right, empowers its holder with a preferential right to purchase the subject property on the same terms offered by or to a bona fide purchaser. An option contract, on the other hand, is a privilege or right which the owner of the property gives another to buy certain property at a fixed priced within a certain time.” Here, the buyer was given an offer via email to purchase the 3.78 acres at a fixed price for a specified period. It was an option contract, not a right of first refusal. To learn more about rights of first refusal, see Center publication 1907, entitled “Dibs! Understanding the Right of First Refusal.” Sixth, the sellers committed fraud in the transaction. Fraud, according to the court, requires a material misrepresentation which was: • false, • either known to be false when made or was asserted without knowledge of its truth, • intended to be acted on,

Advise your clients that offers and counteroffers transmitted via email or other forms of electronic communication, taken together as a whole, could be construed later as a binding contract.

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• relied upon and • the cause of injury. The appellate court affirmed the trial court’s finding that when the sellers authorized their broker to offer the two-year option contract for the 3.78 acres in exchange for closing on the 34 acres within 24 hours at the original contract price, they had no intention of fulfilling that agreement. This constituted actionable fraud. It is unclear what penalties or sanctions were levied against the defendant (seller) for this fraudulent conduct.

Recommendations

ecause the UETA is relatively new, buyers, sellers and real estate licensees need to be aware of its provisions and avoid unintended consequences. Upon taking a listing or becoming a buyer-broker, the issue of the possible effect of the UETA should be addressed. If the parties desire to conduct a transaction electronically, have them sign a document or send corresponding emails to this effect. Make sure both brokers receive copies. If they do not desire to conduct the transaction electronically, generate the same documentation to substantiate their intent. Simply having the parties agree that the final contract must be placed on a TREC form and signed by both parties may, in itself, create problems according to Texas case law. Here is an excerpt on the topic from Texas Jurisprudence III. “Whether correspondence showing that a written agreement is contemplated constitutes a contract itself or is simply preliminary negotiation to a contract depends on the parties’ intent. Actions may manifest an intent to be bound by an agreement, even though the parties expressly provide OCTOBER 2014

that a formal contract will be executed in the future. Thus a letter agreement may be binding even though it refers to the drafting of a future, more formal agreement.” Here are some precautions that may be taken. Advise your clients that offers and counteroffers transmitted via email or other forms of electronic communication, taken together as a whole, could be construed later as a binding contract. No formal, signed paper copy is required. To avoid this, instruct the client (or parties) to preface or end each communication with wording to the effect that the information is not binding. In the case of Kelly v. Rio Grande Computerland Group (128 SW 3rd 759), the court said “A party not wishing to be prematurely bound by a letter agreement is advised to include a provision clearly stating that the letter is nonbinding….” The same applies to emails. In addition, each communication may need to include a statement to the effect that an individual email alone cannot be integrated or consolidated with other correspondences to form a contract. Each email or communication must stand alone. If the parties agree to conduct the transaction electronically, the broker’s/agent’s ability to bind their principals to the contract may need to be addressed. The parties may agree that any binding offer or acceptance must be communicated directly from one principal to the other. The broker/agent may transmit communications on behalf of the buyers or sellers during negotiations, but he or she cannot bind them to a contract as happened in this case. On a separate note, inform the parties that even though they agree to be bound to an electronic transaction, the lenders and title companies may insist on pen-and-ink signed contracts before issuing a title commitment or processing a loan application. Even if the parties do not agree to be bound by electronic contracts and signatures, electronic communications may speed up negotiations and ultimately decrease the time needed to earn a commission. This article is for information only. For specific legal advice, consult an attorney. 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 The Uniform Electronic Transactions Act gives electronic contracts and signatures the same legal status as paper contracts with handwritten signatures as long as certain conditions are met. A series of email messages combined may be construed as a contract in some cases by the courts.

Water Policy

Texas oil and gas activity is burgeoning, largely because of technological advances in hydraulic fracturing and horizontal drilling. But the lifeblood of hydraulic fracturing, or “fracking,” is water. Although fracking systems have been developed that do not use water, they are still in their infancy. As a result, the current increase in the state’s oil and gas (O&G) production from shale and tight sand formations remains heavily dependent on the availability of adequate water.

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ccording to the U.S. Drought Monitor, as of Aug. 26, 2014, more than 60 percent of Texas is under moderate to exceptional drought conditions. The Texas Water Development Board reports that the state average for surface water reservoirs is about two-thirds full, although the average in West Texas is closer to one-third. Groundwater levels continue to decline in many parts of Texas. The statewide percentage of freshwater used for fracking is less than 1 percent of total usage according to the Texas Railroad Commission. However, it can be much higher in areas heavily impacted by the drought. This means oil and gas related water usage should remain a topic of concern in much of Texas for the foreseeable future. The O&G industry continues to work on ways to reduce its reliance on the state’s freshwater supply. Texas real estate licensees can benefit from keeping abreast of what is happening with the usage, treatment and disposal of water by the O&G industry, because it can potentially impact local real estate markets. This article offers insights into a number of those issues.

How Water is Being Used Water is a factor in three areas of “upstream” oil and gas operations: drilling, fracking and production. Upstream activities are tied to the exploration and production of O&G while downstream activities involve their refining and processing. All three upstream areas can involve the use of water. After the fracking process ends, widely varying amounts of the water sent downhole to transport sand into the formation’s fissures to stimulate production will return to the surface as “flowback” water. This process generally takes a few weeks, and that water must be captured, treated for other O&G production activities, or disposed of. The Environmental Protection Agency (EPA) estimates that about 35,000 wells are hydraulically fractured in the United States annually, and between 70 and 140 billion gallons of water are used to fracture those wells. Over one million wells have been fracked since the technology was introduced in the 1940s.

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Flowback water may continue for several weeks. Wells may then begin to generate “produced” water, which is brought to the surface from the formation in increasing quantities over the life of the well and must be dealt with. The physical and chemical properties of flowback and produced water can vary significantly depending on a number of factors. Different geographic locations, formation geologies or the specific hydrocarbons being produced can all have an impact. However, most produced water will contain various salts and may be referred to as “oilfield brine.” A report published recently by OTM Consulting in partnership with Douglas-Westwood estimated that 241 million barrels of produced water from O&G operations are generated globally every day. The volume of produced water from an individual well can ultimately turn out to be larger than the volume of hydrocarbons it produces. As well production begins to wane, a secondary recovery technique known as waterflooding may be used. Water is injected back into wells in the reservoir formation, and if successful, the water physically sweeps the remaining displaced oil to adjacent wells where its production will be increased. Although the actual drilling process requires water of better quality than what can be used for fracking, much smaller amounts are used. Drilling companies may also choose to use oil-based drilling mud in some locations rather than mud that is water-based, further reducing the need for water.

Water in O&G Operations

2013 publication by the Society of Petroleum Engineers documents a field test showing that brackish water can be an effective substitute for freshwater in frack fluids. Texas does not specifically define the point at which freshwater becomes brackish water. The test was carried out in New Mexico’s Delaware Basin on the western side of the Permian. The Bureau of Economic Geology published a report in 2012 for the Texas Oil & Gas Association that showed the amount of freshwater used in fracking operations is quite unequal across Texas shale plays, depending on local conditions. Usage ranged from as low as 20 percent in Far West Texas to nearly 100 percent in East Texas. Heavy surface water use was common in the eastern part of the state with more reliance on groundwater (fresh or brackish) elsewhere.

A WORKER MONITORS produced water being treated at a well site.

The study distinguishes between “water consumption” and “water use.” Water use is defined as the amount of water required to perform fracking operations, whatever the source or type of the water. Water consumption is defined as the amount of freshwater pulled from surface water or groundwater sources. tatewide frack water use and water consumption were projected to 2060. The amount of freshwater consumed is projected to stay relatively constant at about 70,000 acrefeet per year despite the increase in water use, slowly falling by 2060 with decreased fracking activity. The study argues that freshwater use will decrease over time for two reasons. First, the industry will get better at reusing flowback water, finding alternate sources of water such as sewer treatment plant wastewater and produced water, and at using brackish water, for which technological advances are creating additives that increasingly tolerate more salt. Second, the Permian, a part of the state where freshwater is at a premium and brackish-based frack fluids have already shown good success, may become the long-run center of fracking in Texas. Water use and consumption in upstream oil and gas activities overall is forecast to continue being dominated by fracking. The age of the previous studies highlights the difficulty in finding current, relevant water usage data. A February 2014 study by the nonprofit public interest group Ceres found that data is often inconsistent or nonexistent across the country in regard to: • where the oil and gas industry is sourcing water, • when they are sourcing it, • how much is being sourced, • what type of water is being sourced (as in fresh versus brackish or recycled) and • how much is being consumed.

Treatment, Recycling and Reuse Treating water from North American oil and gas wells was a $2.5 billion industry in 2010, according to the research and consulting firm Global Water Intelligence (GWI). Furthermore, GWI is seeing water treatment growth of about 10 to 20 percent annually. Researchers at the Shale Water Research Center, a central clearinghouse for research, testing and advice for its member companies, believe there are four different water treatment

technologies being actively used to remove salt, oil, grease and other organic and inorganic materials from produced and flowback water. Although an in-depth discussion of each is beyond the scope of this article, the processes generally involve: • filtration — used to remove any larger solid materials suspended in the water; • chemical precipitation — chemicals and/or pH are added to make small particles form larger ones which can then be easily removed; • thermal-based technologies — used to produce distilled clean water and concentrated brine or salts and • membrane filtration — a reverse osmosis process commonly used in water treatment that is most effective with water containing lower levels of dissolved salts. Thanks to improvements in chemical treatments and ceramic membranes, Apache Corporation has been able to filter salt and other solids out of brackish water used in horizontal wells located in the Permian. According to Apache, less than half of the 40 million barrels of water the company has used for fracking operations in the Permian Basin have been freshwater. Key considerations for an effective water treatment technology are: • the way the treatment works; • what inputs are needed (for example, energy and chemicals); • what byproducts are generated and how they can be managed or disposed; • the cost; • the limitations on raw water quality that it can handle; and • whether it will work dependably in a real-world application. Marcus Oliver Gay, a research director at IHS, believes that an increase in the cost of water treatment drives O&G operators more toward using disposal wells while an increase in transportation cost will drive them toward increased water treatment for reuse. Nationwide, some 16 percent of frack TIERRA GRANDE

fluids are made of reused water, a figure IHS expects will double in ten years. IHS also believes that future water management technologies are likely to focus on reduced treatment costs, reduced air emissions, minimizing transportation, minimizing energy inputs and capturing secondary value from the repurposed water. Water recycling should continue to grow. However, data recently gathered by Bloomberg reveals that oil and gas producers have recycled less than 10 percent of their water in the Eagle Ford Shale and Permian Basin plays. The cost to recycle varies widely depending on the quality of the water being treated and the desired quality of the water after treatment.

Injection, Disposal Well Considerations

hree different categories of underground disposal or injection wells have been created by the Texas Railroad Commission (RRC). First, wells are labeled “injection” when oil and gas wastewater is returned to the reservoir where it originated by injection for secondary oil recovery. Next, wells are labeled “disposal” when oil and gas wastewater is injected into underground porous rock formations not producing oil or gas that are isolated from useable quality groundwater and sealed above and below by unbroken and impermeable strata. Finally, wells are labeled “disposal into a productive zone” when oil and gas wastewater is disposed of by injection back

Groundwater Ownership Versus Usage

n Texas, when a mineral lease is signed, whether the mineral owner owns the surface or not, the mineral lessee has the right to use as much of the surface and substances belonging to the surface (such as groundwater) as reasonably needed to explore and produce the minerals. The lessee does not have to ask the surface owner for permission or pay for the usage. If the mineral owners own the surface, they can negotiate the sale of the groundwater to the oil company before signing the mineral lease. When the surface and mineral estates have been severed, there is no way for the surface owners to protect the physical surface or the groundwater because they cannot negotiate with the oil companies. But the usage of the groundwater may be limited. In Texas, the groundwater belongs to the surface owner when the minerals are severed from the surface. The only exception is when the mineral reservation specifically mentions the groundwater. Austin attorneys Peter Hosey and Jesse Lotay wrote in “Quench My Thirst: Water Rights in the Context of Water Treatment Technologies,” that usage in Texas is limited to the beneficial uses of the groundwater on the leased premises or lands pooled with it. The right allows the use of the groundwater without granting title, creating a vast difference between use and ownership. As a result, problems may occur with the treatment of wastewater in Texas. As the attorneys point out, Texas law did not foresee the recycling of wastewater or the economic benefit that may be created by its treatment. Assuming the oil company takes the groundwater under its implied right without paying for it, the groundwater, including any flowback water, still belongs to the surface owner. If the mineral lessee treats and sells the water, the proceeds belong to the surface owner, not the mineral lessee. The lessee may transfer the water to another person for treatment for a subsequent beneficial use. According to the recently enacted Chapter 122 of the Texas Natural Resources Code, the water becomes the property of the person in possession. The statute raises the question of a constitutional taking when the groundwater was initially acquired under the implied right.

In Texas, when a mineral lease is signed, whether the mineral owner owns the surface or not, the mineral lessee has the right to use as much of the surface and substances belonging to the surface (such as groundwater) as reasonably needed to explore and produce the minerals. into the productive zone where it originated without the added benefit of any secondary recovery. In 2013, more than 50,000 permitted oil and gas injection and disposal wells were located in Texas. Approximately 35,000 of the wells were active, and about 80 percent of the active wells were injection wells. The overwhelming majority of injected and/or disposed fluids in Texas is produced water. The primary reason cited by operators for injection or disposal of waste fluid is that it is less expensive than treatment. Under Texas law, if wastewater disposed of in an injection well leaks onto a neighboring property, the owner of the land with the well may be held accountable. More in-depth information on this potential problem will be provided by Real Estate Center attorney Judon Fambrough in an upcoming issue of Tierra Grande magazine. OCTOBER 2014

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

THE TAKEAWAY The increase in hydraulic fracturing in Texas has intensified discussions about water usage in time of drought, water treatment costs and contaminated water disposal. As oil and gas activities continue, these issues are likely to influence real estate markets in the state.

Transportation

Gridlocked

Tackling Texas Transportation Troubles By Ginger Goodin

Real estate professionals are familiar with the supply-and-demand patterns that drive so much of what they do. If housing demand exceeds supply, prices increase; if supply exceeds demand, prices decline. But a new kind of supplyand-demand puzzle is emerging in Texas — one that directly impacts the real estate industry — the demand for, and supply of, highway space. 14

ver the past 40 years, the state’s population has more than doubled. The number of registered vehicles has almost tripled. And the number of miles those cars and trucks travel has more than tripled. By comparison, the supply of roadway space we have to accommodate that travel demand has hardly grown at all. In this example, higher demand once again increases the price, albeit less directly than in the housing example. The higher price Texans pay comes not in the form of higher rent or mortgage payments but in the form of lost time and wasted fuel. These costs rise each year for those living in the largest urban areas, who lose about $1,000 annually, largely because of the roughly 40 hours they spend stuck in traffic. Traffic congestion takes a huge toll on the state every year: • 472 million hours of added travel time; • $10.1 billion in delay and wasted fuel costs; and • $2.1 billion in added truck freight moving costs. TIERRA GRANDE

which is to pay for state-maintained highway construction and repairs. The state gas tax, however, has not been raised since 1991. Since that time, inflation has steadily eroded the value of the tax, cutting its purchasing power by about half. And if there’s a downside to fuel efficiency, this is where to find it. As cars and trucks get better mileage, drivers buy less gas, so that 20-cent tax is assessed on fewer and fewer gallons of gasoline and diesel. Demand placed on the transportation system is rising, but the supply of funding available for that system is falling. To help fill the funding gap, the state has turned to debt financing. Texas voters approved an amendment in 2003 allowing the state to borrow money for building highways, with the bonds to be guaranteed by future gas tax revenue. As a result, obligations for the State Highway Fund now include not only road construction and maintenance but also debt service. That total debt obligation for the state currently stands at $17 billion.

Source: Texas A&M Transportation Institute

Daily commutes have not only become longer and more costly, they’ve also become more unreliable. The Texas A&M Transportation Institute (TTI), in its 2012 Urban Mobility Report, began to illustrate just how much longer those commutes have become through its planning time index (PTI). That index measures how much extra time should be allowed to ensure on-time arrival for higher-priority events, such as an airline departure or medical appointment. For instance, for a PTI of 3.0, a traveler should allow 60 minutes for a trip normally requiring 20 minutes. Drivers in Austin, Dallas-Fort Worth, El Paso and Houston all have PTIs greater than 3.0. The supply-and-demand equation is also evident when looking at the financial aspect of the transportation issue in Texas. The state now assesses a per-gallon fuel tax of 20 cents (no matter what the pre-tax gallon price may be). That tax and the proceeds from vehicle registration fees constitute the main revenue sources for the State Highway Fund, the purpose of OCTOBER 2014

This problem has taken shape so slowly that it’s been difficult to see it happening. Recent TTI research demonstrates that Texans believe a quality transportation system is important to the state. However, they: • have little understanding of how transportation is funded; • are frustrated that the fuel tax has not kept pace with inflation; • perceive that there is waste in the current system; and • are concerned about the use of debt financing to build new highways. TTI’s findings suggest that once Texans are presented with an explanation, they generally recognize and understand the severity of the problem. Without that explanation, however, transportation is not a top-of-mind issue for them. Education, immigration and other issues routinely command more public attention. he state’s economy attracts attention, too. But the economy and the transportation system are interdependent. Roads take Texans to their jobs, where they earn money, and to the shopping, dining and recreation destinations where they spend it. It’s hard to imagine ranking the state’s economy at or near the top of any priority list without putting transportation right up there with it. The challenge has come about as a result of otherwise positive developments. Of all the new jobs created in the United States in the wake of the 2008 recession, some 40 percent were Texas jobs. Texas fell into that recession later than most states, and recovered sooner than most. The state’s economy is bigger than those of South Korea and Mexico, and it rivals those of

A LOVELY SUNSET serves as backdrop for congested highways and feeder roads in Dallas (previous spread). New road construction in Texas hasn’t kept up with population growth (left). Traffic backs up near the LBJ Presidential Library in Austin (below).

Spain and Australia. By a variety of economic yardsticks, Texas has been on a steady, impressive run. But gridlock in the state’s major urban areas is worsening every year. And although it’s certainly more visible in the most populous places, congestion is not exclusively a big-city problem. Traffic delays in Dallas or Houston can drive shipping costs up, raising the prices paid for goods in small towns. The cost of success is also apparent in rural areas, where the state’s booming energy business has taken a serious toll on many narrow farm roads built to accommodate pickup trucks, not the massive equipment vehicles necessary to the oil and gas industry. eeting this challenge will require solutions on both sides of the supply-and-demand equation. On the supply side, Texas took a significant step in 2011 when the Texas Legislature directed TTI to serve as coordinator for state and local agencies in helping implement construction projects for the most congested Texas corridors. The Mobility Investment Priorities study identified those needs and helped to determine how to get the biggest return on the investments legislators had appropriated. Actions such as this are an essential part of the solution, but this problem cannot be solved through new construction alone. Another essential part involves the concept of travel demand management, which attempts to get the most efficient possible

Source: Texas A&M Transportation Institute

use from the current system. That can take a number of forms — transit, ride-share programs, bicycle and pedestrian options, park-and-ride programs and work pattern changes. A number of these innovative ideas are already making a positive difference in Texas. Systems in several cities feature high-occupancy vehicle, high-occupancy toll lanes, managed lanes and toll roads. The time- and cost-saving benefits in Houston, for example, have led to the emergence of casual carpooling, in which passengers meet at locations close to HOV facilities, and drivers pick up enough passengers to meet HOV requirements and avoid a toll. In Austin, another program began in 2013 with the introduction of Carma, a real-time ride-sharing option. Interested commuters download the app, find nearby matches and reduce the number of single-occupant vehicles, one carpool at a time. In El Paso, iCarpool software supports ride-sharing actions by helping participants identify route information, pick-up and drop-off locations and time preferences, and also by offering an emergency ride home provision. Carpooling is nothing new, of course, but apps such as Carma and iCarpool demonstrate how modern technology can offer new solutions to a not-so-new problem. TIERRA GRANDE

EVERY COMMUTER’S nightmare is traffic backed up as far as the eye can see (right). Houston’s light rail system is one alternative to traveling by car (below).

Texans can also look to other states for best practices that have potential here. One example is telework, which refers to arrangements that allow employees to work from home or other locations on a regular basis. State employees participating in the Telework Arizona program avoided about 5.2 million miles of vehicle travel and 180,000 hours of commute time in one year alone. In Georgia, if state employees participate in the Work Away program at least once a week, they can eliminate 416,000 trips and 5.4 million miles of vehicle travel annually. In addition to their trip-reduction benefit, programs like these offer a win-win by boosting morale for employees who appreciate flexibility, and by giving employers a significant recruiting and retention strategy to attract and keep top talent. o be successful, strategies like these call for the involvement of business as well as government. Since the early 20th century, Texans have relied on the public sector to meet their transportation needs. State and local agencies assumed the exclusive role of building, maintaining and operating our highway system. That model was sufficient for its time. But the challenges are different today, so the approach to those challenges must also be different. For travel demand management to be an effective and successful strategy, its purpose and approach must be embraced by both the public and private sectors. Apart from all these potential solutions, is “doing nothing” an option? Certainly it is, but like all the other available

OCTOBER 2014

options, it involves a predictable cost. Doing nothing means Texans will spend more time stuck in traffic. They will spend more money on wasted fuel and will spend more on just about everything that’s delivered by trucks. Texans will also face the prospect of slower emergency response times. Doing nothing is an option, but it’s not a costfree option. For decades, Texans have enjoyed a legacy of quality roads. But for a variety of reasons — many of them positive in their own right — that legacy is now threatened, largely because of growth. And more growth is on the way. The state demographer projects the state’s population to be 28.9 million in 2020, up from 25.2 million in 2010. By 2030, Texas will add four million more. All those new people will need places to live, so the state demographer’s projections certainly foretell a robust real estate environment. But those Texans will also need streets and highways to get to the jobs that largely define their prosperity, and to the recreation and leisure activities that largely define their quality of life. And with travel demand outstripping roadway supply at a steadily growing pace, future prosperity and quality of life both grow more uncertain. What is certain is that there is no single solution to this problem. Carpooling and telework are choices that only some may find to be practical. Not all commuters have access to public transit. New construction will help, but it would be impossible to simply build our way out of congestion. The right approach will involve a mix of all the available tools, along with getting the most efficient possible use from the available transportation system. That all-of-the-above approach offers the best hope of bringing our transportation supply-anddemand equation into better balance. Goodin (G-goodin@tamu.edu) is a senior research engineer at the Texas A&M Transportation Institute, and the director of TTI’s Transportation Policy Research Center.

THE TAKEAWAY A reliable transportation system is essential to the state’s prosperity and quality of life. Funding for new roads has not kept pace with population growth, and, as a result, traffic gridlock grows worse every year. There is no single solution to the ever-worsening congestion problem, which underscores the need for the state to look not only to new road construction, but also to other solutions to get the best use out of the current transportation system.

U.S. Economy

TIERRA GRANDE

n the first four months of each year, the U.S. Bureau of Labor Statistics (BLS) revises its previously published employment data. Not surprisingly, the Real Estate Center receives many emails and phone calls after these revisions from people who use the employment data from the Center’s publications. This article responds to some recent queries.

Economic Data Revisions Users of economic indicators confront three major data problems: delays and lags in the release of the current period data, repeated data revisions and data errors. While users need timely and accurate data, in the real world it takes time to collect, organize and disseminate economic data, and to improve data accuracy. For instance, the Bureau of Economic Analysis (BEA) of the U.S. Department of Commerce releases an “advance” figure for the U.S. gross domestic product (GDP) one month after the end of the quarter with a caveat that the “advance estimate released today is based on source data that are incomplete or subject to further revision by the source agency.” One month later the BEA releases a revised “preliminary” figure based on more collected information and survey evidence. Two months later the “final” estimates of quarterly GDP data based on more collected information are released. As households and firms file their tax returns, the BEA uses more accurate income and employment data for estimating national income and product accounts (NIPA), and every July NIPA estimates for the previous four quarters are revised. The revision is repeated for the next two years. Then, at five-year OCTOBER 2014

intervals, the BEA releases its “Comprehensive Revision” of the NIPA data, mostly based on the analysis of tax returns rather than on survey samples and models. From time to time, when the BEA changes its methodology and develops more exact estimation methods, it revises NIPA data back to 1929. The bottom line is that data (including employment data) are almost continually updated. Employment time series data are the most widely watched economic indicators for gauging the direction of state and local economies. They are compiled on a monthly basis by the BLS and local workforce commissions, such as the Texas Workforce Commission (TWC). The BLS releases its “first preliminary” estimates of employment, hours and earnings through its Current Employment Statistics (CES) survey program each month approximately three weeks after the reference period. These estimates are revised one month later in the “second preliminary” report. The sample-based estimates are again revised two months after the initial release. istorical labor force and employment data for the United States and state and local areas are revised annually in the first four months of each year. The revisions include nonagricultural wage and salary employment for the past two years. For instance, revisions of Texas employment data for 2012 and 2013 are published in the first four months of 2014. The annual benchmark revisions may update employment data as far back as 1990 on the websites of the BLS or TWC (www.tracer2.com). From May, the BLS revises only the previous month’s employment data each month and leaves the historical data in peace until the next January.

Table 1. Revised and Previous Texas Employment Growth Rates by Industry Average Growth Rates, January 2012 to December 2013 Post-Revision Data April 2014 Total Nonfarm Employment (Fig. 1.1) Industry A. Revised Up Transportation, Warehousing, Utilities (Fig. 1.2) Mining and Logging (Fig. 1.3) Other Services (Fig. 1.4) Financial Activities (Fig. 1.5) Leisure and Hospitality (Fig. 1.6) Manufacturing (Fig. 1.7) Government (Fig. 1.8) B. Revised Down Information (Fig. 1.9) Construction (Fig. 1.10) Trade (Fig. 1.11) Education and Health Services (Fig. 1.12) Professional and Business Services (Fig. 1.13)

Pre-Revision Data January 2014

Difference

2.9

2.8

0.1

3.5 10.7 3.9 3.1 4.7 2.1 –0.2

1.9 9.8 3.0 2.4 4.5 2.0 –0.3

1.6 0.9 0.9 0.7 0.2 0.1 0.1

1.3 4.1 3.0 2.5 4.3

1.4 4.3 3.2 2.7 4.7

–0.1 –0.2 –0.2 –0.2 –0.4

2.4

0.0

1.3 0.6 2.4 7.1 2.6 2.8 1.0 –0.7 2.8 0.5 –1.6 1.5 –1.1 5.0

1.4 0.8 2.6 7.5 3.0 3.3 1.7 0.1 3.8 1.6 –0.5 2.7 0.3 7.0

–0.1 –0.2 –0.2 –0.4 –0.4 –0.5 –0.7 –0.8 –1.0 –1.1 –1.1 –1.2 –1.4 –2.0

Repeated data revisions by Sources: Texas Workforce Commission and Real Estate Center at Texas A&M University the BEA, BLS and other agencies mean there is no such thing as “final” or “actual” economic Table 2. Revised and Previous Average Employment Growth Rates, indicators; rather, all economic Texas Metropolitan Areas, January 2012 to December 2013 indicators are continually revised Post-Revision Data Pre-Revision Data versions of older data. Metro Area April 2014 January 2014 Difference We all know that to err is A. Revised Upward human, but it is important that College Station-Bryan (Fig. 2.1) 2.5 1.2 1.3 data errors are reported as soon as San Antonio-New Braunfels (Fig. 2.2) 2.7 1.8 0.9 detected. The BLS has a website Austin-Round Rock-San Marcos (Fig. 2.3) 4.2 3.4 0.8 (www.bls.gov/bls/erratabydate. Sherman-Denison (Fig. 2.4) 1.6 0.9 0.7 Victoria (Fig. 2.5) 3.0 2.5 0.5 htm) that publishes its errors Tyler (Fig. 2.6) 1.2 0.8 0.4 and corrections. In 2013, the BLS McAllen-Edinburg-Mission (Fig. 2.7) 2.0 1.7 0.3 detected and corrected 49 data El Paso (Fig. 2.8) 1.3 1.1 0.2 processing errors. Other dataBrownsville-Harlingen (Fig. 2.9) 1.9 1.7 0.2 supplying agencies, such as the Lubbock (Fig. 2.10) 1.7 1.6 0.1 BEA, have error-reporting policies B. Unchanged Houston-Sugar Land-Baytown (Fig. 2.11) 3.7 3.7 0.0 on their websites.

Learning from Repeated Data Revisions

San Angelo (Fig. 2.12) C. Revised Downward Killeen-Temple (Fig. 2.13) Amarillo (Fig. 2.14) Laredo (Fig. 2.15) Midland (Fig. 2.16) Dallas-Plano-Irving (Fig. 2.17) Fort Worth-Arlington (Fig. 2.18) Abilene (Fig. 2.19) Wichita Falls (Fig. 2.20) Corpus Christi (Fig. 2.21) Waco (Fig. 2.22) Texarkana (Fig. 2.23) Longview (Fig. 2.24) Beaumont-Port Arthur (Fig. 2.25) Odessa (Fig. 2.26)

epeated data revisions by the BEA and other agencies, while necessary to produce more accurate data, have made it more difficult for market participants to make business decisions, for economists to make forecasts, for macroeconomic policy makers to implement fiscal and monetary policies, and for candidates in the midst of political Sources: Texas Workforce Commission and Real Estate Center at Texas A&M University campaigns. For market participants and accurate data became available. But now, a number of agenforecasters of economic indicators, repeated data revisions cies retain all past vintages of data to be used for economic mean uncertainty about past, current and future data. To deal research. In the United States, the St. Louis Fed offers ALFRED with data uncertainty, in recent years a number of economists in the United States and other countries have compiled vintage (ArchivaL Federal Reserve Economic Data) allowing users to retrieve vintage versions of economic data that were available datasets or real-time datasets for economic indicators and have on specific dates in history. developed methods for analyzing the impact of data revisions Data delays and revisions have been important factors in on macroeconomic policy. In the past, previous vintages or versions of data were normally superseded by new data as more diminishing expectations about the government’s ability to

TIERRA GRANDE

Figure 1. Texas Employment Growth Rates 2012–13 Post-Revision Data Pre-Revision Data Figure 1.2. Transportation, Warehousing, and Utilities Industry

1 0 –1

2012

2013

Figure 1.5. Financial Activities Industry

5 2012

2013

Figure 1.6. Leisure and Hospitality Industry

3.0

Percent

1.0

–1

2013

Figure 1.10. Construction Industry

2 1 0 –2 –3 2012

–4

2013

Figure 1.11. Trade Industry 5

2 1

–1

2012

2013

2012

2013

Percent

7 Percent

2013

–1

4 2

2012

Figure 1.8. Government Sector

Percent

Figure 1.9. Information Industry

2012

2013

3 2013

2012

1.5 2012

Figure 1.7. Manufacturing Industry

7 5

2.0

3.5 2.5

4.0

Figure 1.4. Other Services Industry

Percent

5 4 3 2 1 0 –1 –2

Figure 1.3. Mining and Logging Industry

Percent

Figure 1.1. Texas Nonfarm Employment Growth Rate

2012

2013

Figure 1.12. Education and Health Services Industry

3 2 1

2012

2013

2012

2013

Figure 1.13. Professional and Business Services Industry

Percent

5 4 3 2 1 0

2012

2013

Sources: Texas Workforce Commission and Real Estate Center at Texas A&M University

fine-tune the economy. After John Maynard Keynes published The General Theory of Employment, Interest and Money (1936), governments of the United States and some other developed countries influenced by Keynesian economics adopted a number of macroeconomic policies, known as counter-cyclical policies, for controlling the pace of output and employment growth rates in their economies. According to adherents of Keynesian counter-cyclical policies, the government may be able to help the economy come out of a recession through a combination of fiscal and monetary policies such as increasing government expenditures and decreasing interest rates. Conversely, government can put the brakes on a fast-growing economy by decreasing government expenditures and increasing interest rates. Implementation of these policies in the 1970s failed to attain their targets, leading to stagflation, an economic situation OCTOBER 2014

characterized by a slow economic growth rate coupled with high inflation rates. Macroeconomic policy makers and economists noted that it takes several months to know whether an economy is in recession because of data delays. It takes more than six months for the full impact of macroeconomic policies on the economy to be realized. By that time, the economy may recover by its own dynamics, rendering macroeconomic policies detrimental. olitical campaigners relying on economic indicators need to be wary of data revisions during election campaigns. For instance, in the 2014 Ohio governor’s election race, candidate Ed FitzGerald (D) claimed that Ohio ranked 45th among states in job creation in 2013. A week later, revised figures showed that Ohio was 26th, a figure used by his rival to prove that the Ohio job market was not as bad as portrayed by his opponent.

Figure 2. Metro Area Employment Post-Revision Data Pre-Revision Data

2 0

–4

3 2 1

–2 2012

2013

0 –1

Percent

2 1 0

–1

2013

1 0

2.5 2.0 1.5 1.0 0.5 2012

2013

0.0

4 3

3 2

2013

2 1

1 2012

2012

Figure 2.12. San Angelo

2013

3.0

2012

Figure 2.8. El Paso

–1

2013

Figure 2.7. McAllen-EdinburgMission

0 2012

2013

Figure 2.11. Houston-Sugar LandBaytown

Percent

2013

Figure 2.10. Lubbock

4 3

2012

1 2012

5 Percent

Percent

2013

Figure 2.9. Brownsville-Harlingen

Percent

2012

Figure 2.6. Tyler

Figure 2.5. Victoria

Percent

Figure 2.4. Sherman-Denison

Figure 2.3. Austin-Round RockSan Marcos

Percent

Figure 2.2. San AntonioNew Braunfels

Percent

Figure 2.1. College Station-Bryan

2012

2013

Percent

2012

2013

Figure 2.13. Killeen-TempleFort Hood

2 1 0 –1

2012

2013

Sources: Texas Workforce Commission and Real Estate Center at Texas A&M University

Trends May Be Your Friends

ooking at various vintages of time series economic indicators, we find two rays of hope in data revisions. First, aggregate or total economic indicators, such as total employment growth rates for Texas, tend to be revised less substantially than their components. For instance, Texas’ total employment growth rate tends to be revised less substantially than employment growth rates for the state’s industries. Second, although the absolute values of economic indicators may change in data revisions, the underlying trends in growth rates normally do not alter to a significant degree. The lesser volatility of underlying trends in growth rates of most major economic indicators imply that market participants and forecasters may be able to grasp the directions of economic changes by focusing attention on the underlying trends in time series data and by employing statistical methods that extract longer-term economic trends from those data.

Because of the importance of the underlying trends in data, the Real Estate Center at Texas A&M University publishes trends in data over time in addition to snapshot comparisons of employment growth rates for the state’s industries and metropolitan areas.

Employment Data Revisions, 2014 Table 1 presents the average growth rates of Texas total nonagricultural employment from January 2012 to December 2013, before and after 2014 employment data revisions, and Texas industries ranked by the size of revisions. The average growth rate of Texas nonagricultural employment from January 2012 to December 2013 was revised upward from 2.8 percent to 2.9 percent after 2014 data revisions (Table 1 and Figure 1). The underlying trend in employment growth rate in Figure 1 shows that the state economy continues to generate jobs at annual rates of close to 3 percent according to both old and revised TIERRA GRANDE

Growth Rates, 2012–13 Post-Revision Data Pre-Revision Data Figure 2.15. Laredo

1 2012

2013

5 Percent

2013

2012

2 1

2012

2013

Figure 2.22. Waco

0 –1

–3

2013

3 2

2012

2013

Figure 2.24. Longview

Figure 2.23. Texarkana 6

–1 –2

3 2

–1

–3

–2

–4

2012

2013

2012

2013

Percent

3 Percent

2013

–2 2012

2012

Figure 2.21. Corpus Christi

–1

2013

Figure 2.20. Wichita Falls

1 0

2012

Percent

Figure 2.19. Abilene

Figure 2.18. Fort Worth-Arlington

Percent

–2

Percent

Figure 2.17. Dallas-Plano-Irving

Percent

10 Percent

–1

Percent

Figure 2.16. Midland

2 Percent

Percent

Figure 2.14. Amarillo

2012

2013

Figure 2.25. BeaumontPort Arthur

0 –1 –2

2012

2013

–3

2012

2013

Figure 2.26. Odessa 10 Percent

8 6 4 2 0

2012

2013 Sources: Texas Workforce Commission and Real Estate Center at Texas A&M University

data. However, employment growth rates for components of the state’s economy — employment growth by industry — are revised more substantially than total employment growth rates. Six Texas industries and the state’s government sector experienced upward revisions (Table 1, Panel A) while employment growth rates in five Texas industries were revised downward (Table 1, Panel B). The state’s transportation, warehousing and utilities industry experienced the largest upward revision followed by mining and logging, other services and financial activities. Figures 1.2 to 1.13 show trends in employment growth rates for Texas industries before and after the 2014 data revisions. Table 2 presents Texas metropolitan areas ranked by the size of revisions in average annual employment growth rates from January 2012 to December 2013. College Station-Bryan experienced the largest upward revision, followed by San Antonio-New Braunfels, Austin-Round Rock-San Marcos, Sherman-Denison OCTOBER 2014

and Victoria (Table 2, Panel A). The average annual employment growth rates for the Houston-Sugar Land-Baytown and San Angelo metro areas remained unchanged in the aftermath of 2014 data revisions (Table 2, Panel B). Odessa experienced the largest downward revision followed by Beaumont-Port Arthur, Longview, Texarkana and Waco (Table 2, Panel C). Figures 2.1 to 2.26 show trends in employment growth rates for Texas metro areas before and after the 2014 data revisions. Dr. Anari (m-anari@tamu.edu) is a research economist with the Real Estate Center at Texas A&M University.

THE TAKEAWAY Economic data is revised many times after it is published in an effort to increase its accuracy. However, the trends underlying the data usually do not change significantly.

Land Markets

Oil Prices Lead, Land Prices Follow By Ali Anari and Charles E. Gilliland

TIERRA GRANDE

ince the discovery of petroleum reserves at Spindletop, the Texas oil industry has played a key role in the stateâ&#x20AC;&#x2122;s economy. The industry enriched wildcatters, provided windfalls to landowners and fueled activity in the general commerce of the state. Fluctuations in oil prices impact all of these economic players, filling their pockets with cash when prices rise and leaving them scrambling to cover expenses when prices fall. The Real Estate Center at Texas A&M University developed an econometric model of rural land prices that revealed a pattern of strong positive correlation between Texas oil prices and statewide and regional rural land prices.

OCTOBER 2014

Impact of Oil Prices on Land Prices This expectation results from the nature of demand for Texas rural acreage. First, by providing space for a variety of activities, land serves as an essential element in the production and distribution of goods and services. For owners focused on production of a commodity, land is a capital asset. In a competitive market populated with these production-driven users, the price of land equals the present value of projected future streams of net revenues much like a companyâ&#x20AC;&#x2122;s stock price equates to the present value of future dividend streams. Two major factors determine land prices, expected net revenues and the discount rate applied to those future cash flows.

150

Figure 1. Price Per Barrel of West Texas Intermediate Crude Oil

Dollars Per Barrel

120

Land Market Regions

90 60

An Intimate Relationship

www.recenter.tamu.edu/pdf/1937.pdf for a detailed description of the regions.)

The price per barrel of West Texas intermediate crude oil, a grade of petroleum 0 used as a benchmark in oil pricing, is ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’13 Source: St. Louis Federal Reserve shown from first quarter 1966 to fourth quarter 2013 (Figure 1). Figure 2 presents and prices are influenced by the Texas statewide price per acre of all factors that affect revenue rural land over the same period. The two streams. There are several chanfigures show several distinct features. nels of the effects of higher oil prices First, there is strong and close on land prices. Higher oil prices mean comovement of the two price series more royalty incomes for owners of after October 1973 (the Yom Kippur war) oil- and gas-producing land. In addition, when the balance of power in global oil higher oil prices enhance the incomes markets shifted in favor of countries of oil company shareholders and oil in the Organization of the Petroleum industry workers, contributing to an Figure 2. Texas Statewide Exporting Countries (OPEC). Second, Rural Land Prices overall expansion of the economy. This 2,500 both Texas oil prices and rural land added prosperity feeds money into the prices evidence four distinct periods of pockets of individuals who see the land 2,000 comovement. Third, trends in Texas as an asset capable of producing recre1,500 land prices have followed oil prices with ational experiences, advancement of the lags of one to three years. Finally, Texas environment, or protecting a neighbor1,000 land price volatility has also been related hood lifestyle. These individuals often to oil price volatility, especially in the compete with the bottom-line-oriented 500 aftermath of the U.S. economy’s recovproducers for land. High oil prices could 0 ery from the Great Recession. conceivably increase the price this type ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 In the first comovement period, Texas of buyer might pay to pursue those Source: Real Estate Center at Texas A&M University oil prices and rural land prices embarked activities. The competition among “recon an upward trend at the end of 1973. reational buyers” and commercial land Figure 3. Texas Rural Land Prices The rise in market prices for oil stalled users determines land prices. Clearly the Region 1 in 1980, but Texas land prices continued fluctuation of oil prices could influence 1,600 their expansion until 1985. Regional the results of bidding for rural land. differences in response to oil prices are 1,200 Texas Rural Land Price Data discussed in the next section. The continued uptick in Texas rural The Center’s time series of Texas rural 800 land prices from 1980 to 1985 despite land prices includes sales prices for falling oil prices resulted from exuberland in seven distinct Texas regions 400 ance on the part of rural land market plus a statewide time series of comparticipants, presumably based on expecposite averages from 1966 to 2013. 0 tations that oil prices would begin to Regional prices are the average of 1975 1980 1985 1990 1995 2000 2005 2010 2014 increase again. Buyers from that period median prices reported in particular Source: Real Estate Center at Texas A&M University paid a high price for their optimism size categories. The statewide price when land prices indicator consists Figure 5. Texas Rural Land Prices Figure 4. Texas Rural Land Prices followed oil of an average of Region 3 Region 2 1,500 prices in a pro1,200 those regional nounced slide. price indica1,000 1,200 The sectors weighted by 800 ond period of the proportion 900 comovement, of total Texas 600 600 from 1985 to acreage found in 400 2000, saw oil each region. (See 300 prices stagnate. 200 Characteristics of Texas rural land Texas Land Mar0 0 prices followed ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 kets: A Regional ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 Source: Real Estate Center at Texas A&M University Source: Real Estate Center at Texas A&M University suit. Analysis at http://

Dollars Per Acre

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4,000

Figure 6. Texas Rural Land Prices Region 4

6,000

Figure 7. Texas Rural Land Prices Region 5

5,000 Dollars Per Acre

Dollars Per Acre

3,000

4,000

Dollars Per Acre

that is positive The third period 2,000 3,000 and close to one of comovement suggests strong lasted from 2000 2,000 1,000 comovement to 2008, when 1,000 between the oil oil price markets 0 0 and land prices. experienced a steep ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 The estimated upward trend, Source: Real Estate Center at Texas A&M University Source: Real Estate Center at Texas A&M University coefficients reaching an allbetween Texas time high of more Figure 8. Texas Rural Land Prices oil prices and statewide and regional than $120 per barrel (quarterly average) Region 6 land prices presented in the table reveal in second quarter 2008. It was also a 4,000 strong correlation. They also indicate period of low interest rates implemented regional differences in the impact of oil by the Federal Reserve in the aftermath 3,000 price changes on regional land prices. of the 2001 recession and of credit availRegion 2 showed the smallest correlaability resulting in the housing boom and 2,000 tion. However, that area is sparsely bust of the Great Recession of 2008–09. populated, with relatively few reported Texas rural land markets experienced 1,000 land sales. Therefore, the low correlarapidly increasing prices after 2000 due tion may reflect the lack of information to higher oil prices, lower interest rates 0 on land prices rather than a disconnect and more credit availability. ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 between oil and land prices. The post-Great Recession era is the Source: Real Estate Center at Texas A&M University Oil prices are determined in internafourth period of comovement. Oil prices tional markets mainly by OPEC export fell from record highs in 2008 but again Figure 9. Texas Rural Land Prices policies. For Texas rural land markets, trended upward, although with increasRegion 7 4,000 oil prices are exogenously determined. ing volatility. Texas rural land markets Texas rural land prices have no impact currently appear to be following a simion oil prices. Correlations between rural lar path with prices advancing strongly. 3,000 igures 3 through 9 show strong land prices and Texas oil prices suggest and close comovements between impact of oil prices on land prices either 2,000 oil prices and regional rural land directly or indirectly through the impact prices, but the speed of the response of of oil prices on Texas incomes. 1,000 rural land prices to oil price movements Changes in Texas rural land prices varies across regions. The response time follow from changes in oil prices. This 0 of regions 1 and 5 to the slowdown in in turn leads to changes in direction ‘66 1970 1975 1980 1985 1990 1995 2000 2005 2010 ’14 Source: Real Estate Center at Texas A&M University oil prices after 1980 was shorter than trends in statewide and regional rural regions 4, 6 and 7. Region 1 contains land prices. The Real Estate Center Midland and Ector has developed an counties and several econometric model Correlation Coefficients Between Texas Oil Prices and other nearby counof the Texas rural Texas Rural Land Prices ties heavily involved land market that Region Statewide in oil production. includes rural land Average 1 2 3 4 5 6 7 The petrochemical prices and quantities, Coefficient 0.96 0.90 0.69 0.95 0.93 0.94 0.95 0.95 complex of major Texas total personal Source: Real Estate Center at Texas A&M University oil companies lies in incomes and Texas Houston, in the heart oil prices. The model of region 5. Regions 4, 6 and 7 involved more non-oil-related is updated each quarter and used for analysis of the state’s influences than 1 and 5, suggesting that those regions had rural land market. countervailing forces driven by those influences. Dr. Anari (m-anari@tamu.edu) and Dr. Gilliland (c-gilliland@tamu.edu) are research economists with the Real Estate Center at Texas A&M University. Rural Land Price, Oil Price Correlations While Figures 2 through 9 clearly show strong positive comovements of the two time series, the authors employed a number of statistical methods to formally test the strength of the relationships. Pearson’s correlation coefficient provides a simple statistical test for the strength of the relationships between two or more variables. The statistic has a value between plus and minus one, both inclusive. A coefficient OCTOBER 2014

THE TAKEAWAY An econometric model developed by the Real Estate Center shows a strong correlation between oil prices and Texas rural land prices, both statewide and by regions.

Taxes

P A Y R O L L T A X U L E A S 1

By Jerrold J. Stern

re real estate professionals or their firms subject to payroll and unemployment taxes? For the typical real estate professional scenario, the answer has been “no” for many years. Nevertheless, it is worthwhile to be aware of the current rules. First, some caveats. This article applies to licensed real estate professionals (brokers and salespersons). Unlicensed individuals may have tax issues that are beyond the scope of this article. Also, the term “employer” as used in this article means the owner(s) of the office with which the broker or salesperson is associated. Real estate professionals are typically considered independent contractors by federal and Texas state law. As such, they are not employees. If they were employees, they and their employers would be subject to a 7.65 percent federal payroll tax on the first $117,000 of compensation. Lower rates apply to higher compensation levels. In addition, employers (but not employees) would be subject to Texas unemployment taxes at rates as high as 7.41 percent on the first $9,000 of compensation earned by employees. Employers may also be subject to federal unemployment taxes. Employees do not pay unemployment taxes under any conditions. As independent contractors, real estate professionals are required to pay self-employment taxes directly to the IRS (that is, the U.S. Treasury Department). They do not pay payroll taxes, and their employers do not pay payroll or unemployment taxes. he federal tax law provides numerous factors for determining employee status for federal (not state) tax purposes. No single factor is determinative. A major theme of the factors is “control.” The more control the employer has over the worker, the more likely the worker is an employee and not an independent contractor. For example, two factors potentially indicating employee status are: • the worker’s work schedule is set by the employer, and • the work is performed on the employer’s premises. A full set of IRS criteria may be found at www.irs.gov/Businesses/Small-Businesses-&-Self-Employed/Independent-Contractor-Self-Employed-or-Employee. The Texas Unemployment Compensation Act and the Texas Law Manual specifically state that real estate brokers and real estate salespersons are not employees and, therefore, their employers are not subject to Texas unemployment taxes.

Criteria for real estate professionals are provided in the act and the manual. A real estate is one who, for a fee or commis1 professional sion, performs one or more of the following activities: • offers to, or actually negotiates, lists, sells, exchanges, purchases, rents or leases real estate; 1 • aids in locating real estate for the purpose of purchase, rental or lease; • engages in the appraisal or auction of real estate; • deals in options on real estate; or • procures or assists to procure real estate transaction prospects. owever, there are pitfalls to avoid, highlighted by a 2013 Massachusetts Superior Court case now under consideration for review by the Massachusetts Supreme Judicial Court. The level of employer control over workers is the central issue. In this case, the employer made clear that all clients were the employer’s clients and not the clients of the broker-salespersons. The employer also required workers to perform duties that had nothing to do with real estate activities such as “front desk time” at prescribed hours, answering phone calls, taking out trash and cleaning bathrooms. There were also requirements about work attire and methods of client interaction. Disciplinary actions were taken if workers did not meet “productivity goals.” While the ultimate decision in Massachusetts only affects those working in Massachusetts, the case could conceivably influence future federal law and laws in other states. In general, consultation with a tax accountant or tax attorney is recommended for all substantial employment tax issues.

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 Are real estate professionals or their firms subject to payroll and unemployment taxes? Typically, the answer is “no,” but there are pitfalls to avoid and potential changes on the horizon. TIERRA GRANDE

OCTOBER 2014