Dec072016

How to make California homes affordable by discouraging foreign investment

If California wanted to lower house prices, it could tax foreign investment and tax homes left vacant year-round.

for-sale-copyThe primary reason house prices are so high in California is a lack of supply. However, a secondary reason is the influx of foreign investors, many of whom don’t live in the properties or rent them out. These foreign purchases drive up prices for locals, and if they don’t rent the property, the property disappears from the local housing stock entirely, making our shortage even worse.

Buying and maintaining an empty box may be a sound investment decision for foreign investors; however, it’s a negative for the economy because local residents must pay more for housing, which reduces the disposable income they spend on goods and services. California residents suffer from this problem, but Vancouver, British Columbia, residents suffer even more.

Like in California, Chinese nationals snatch up Vancouver houses as places to park their money outside of mainland China. Most of the Chinese investors live in China, and many don’t rent the houses they purchase. As a result, the house price bubble in Vancouver is epically large, and the lack of rental supply squeezes local residents hard. It’s so bad there that local citizens prompted the government to do something about it.

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In 2016, the provincial government slapped a 15% surcharge on foreign property investors. Overnight, foreign investors found houses in Vancouver 15% more expensive to buy. Since it is a one-time tax at purchase, these foreign owners fail to recoup this 15% when they sell. Even in a hot market, these investors must hold the properties for several years before it could appreciate enough to cover the tax and the sales commissions. This tax makes houses a poor investment for foreigners, which is exactly what the government wanted.

Prior to the tax, foreign investors comprised 17% of the housing market. After the tax, their participation fell to 1% — which shouldn’t be surprising given the huge tax. The sudden decrease in demand will make housing more affordable to local residents over time. It will be particularly painful for those who bought late in the bubble, but the sooner prices correct, the better it will be for local residents — for foreign investors, not so much.

Despite the incredible waste of resources, in China, real estate investors routinely buy property and leave it vacant. Many Chinese investors do the same when they invest outside of China, so a significant portion of the Vancouver rental market sits vacant. To facilitate the house price crash, and to lower rental rates, Vancouver instituted a tax on empty homes. It now costs investors $10,000 per year to hold a home vacant, and if they lie to authorities about the vacancy and get caught, the fine is $10,000 per day.

So how are foreign investors responding to this double whammy? How would you guess?

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Vancouver Housing Market Freezes Up, Sales Crash, Prices Sag, For-Sale Signs Proliferate

by Wolf Richter • December 2, 2016

“Entire Swaths of our neighborhood covered with For-Sale signs”

The numbers about the inglorious end of the totally insane house price bubble in Vancouver are bad enough. But the photos of “For Sale” signs along entire city blocks speak louder than the numbers ever could – in fact, they make us doubt the numbers.

The Real Estate Board of Greater Vancouver (REBGV) today reported that in November, residential home sales in Greater Vancouver plunged 37.2% year-over-year to just 2,214 homes. By category of home:

  • Sales of detached homes down 52.2%.
  • Sales of attached homes down 40.9%.
  • Sales of condos down 22.7%.

In essence, the market has frozen up, especially for detached homes. …

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Unfortunately, the bloodletting drains both local residents and foreign investors of their illusory wealth. For long-term owners who didn’t plan to sell, they bear the psychological discomfort but no real damage. For recent buyers who dramatically overpaid, their financial pain is palpable. Unfortunately, a falling market kills both saints and sinners alike.

At some point, local residents may petition the government for relief, but what should the government do? Should they repeal the tax and let the Chinese reinflate their housing bubble? After this incident, burned Chinese investors may not be willing to participate in that effort. Plus, the point of the legislation was to bring house prices down and bring back affordability. Should the policy be discontinued because it was successful?

The reason home sales plummet is this:

One, potential buyers get the memo instantly that the market has turned. From one moment to next, they lose their blind enthusiasm. They figure the longer they wait, the lower the price will be. Some of them will buy if prices drop enough. But prices haven’t dropped enough, so they don’t buy.

Two, sellers refuse to look at the memo. They cling to their hopes. They have a fantasy number in mind. The number that will make them rich. They put the home on the market and wait. And wait. And wait. Then they pull it off the market, and re-list it. If they’re not forced to sell, they’ll hang on by their fingernails to their hope, waiting for prices to rise, even as they’re falling month after month.

It’s not until sellers start reading the memo and start slashing their prices that deals are being made, and that volumes tick up. But Vancouver isn’t there yet. Far from it.

The Vancouver market is still in the denial stage.

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The MLS Home Price Index, which tracks the composite benchmark price for all residential properties in Greater Vancouver, fell 1.2% from October, and 2.7% over the past three months, to C$908,300.

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Over the past three months, price declines were unequally spread among the areas. For example:

  • In Vancouver East: -2.7% to C$965,100
  • In Vancouver West: -2.0% to C$1,227.500
  • In tony West Vancouver: -9.5% to C$2,510,300, driven by single family detached homes, whose prices dropped -10.2% in three months

The composite price index for Greater Vancouver, though down 2.7% over the past three months, is still 20.5% higher than it was a year ago.

Vancouver shows us in California what’s possible if we really wanted to make housing affordable to local residents. If we tax foreign investment and fine landlords who maintain empty houses, we could turn a source of unneeded local demand into a source of supply. We already suffer a shortage of housing, and we don’t need foreign investment to raise prices to spur the market to provide more.

Perhaps it’s a bit Trumpian, but building a financial wall around California’s housing market may be just what locals need to enjoy affordable housing. We need only look just over the border at Vancouver to judge the results.

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