Examples of Apartments Where Rents Falling to Near Maintenance ---- and what that means for values

When people discuss price to rent ratios, wouldn't it make more sense to net the maint. costs from the rent (because if you owned the place as an investor your net would be rent minus monthly costs).

I'll bite. But I'm adding an element, not providing an example. So here's my question, what the f*** is going to happen to the condos as the tax abatements disappear? Some of the buildings have longer abatements, but some are only for 5-10 years, with increases yearly or every other year. Your standard two bedroom at 10 WEA is going to have monthly charges of a few thousand shortly. I didn't look at most of the other 5-10 year building, but I would guess that there are a ton of standard undersized condos (Link, Atelier, Veneto, Cielo, Charleston, etc.) that are in the same boat. For sales of developers' units, what will buyers do when they are given the abatement schedules?

Good point Aboutready. Post-bubble, when your investment is not cushioned by the greater-fool theory, this stuff really matters.

jim,

Great idea, if only for curiosity's sake. Here's a pretty bad one:

http://www.streeteasy.com/nyc/sale/351120-condop-343-east-74th-street-upper-east-side-new-york

Looks like a lovely place, but I can't imagine it would rent for that much more than $7k. It's a decent location, but definitely not one anyone who can pay that price would clamor for.

bjw, holy mother, look at those price reductions. Not that they aren't warranted, but from $2.6 to $1.1? Still, you're right, it's probably worth nothing if one's looking at it from a rent/buy perspective.

"When people discuss price to rent ratios, wouldn't it make more sense to net the maint. costs from the rent (because if you owned the place as an investor your net would be rent minus monthly costs)."

Not if you are a renter considering buying or visa versa, no. Not really. To calculate inflation, sure. But for a practical rent versus buy, no. Rent costs whatever it costs.

The bad layout is even more remarkable than the price reductions. Terrace off of MBR instead of LR. MBR two flights from what better be two guest or roommate/boarder rooms, rather than kids' rooms.

aboutready,

Yeah, pretty nuts - I don't understand their initial pricing strategy at all. Anyone paying attention would have laughed as they lowered the ask by $100k every week. At least they seem to understand what the issue is now, though it's still too expensive given the maintenance. It could always be a bit artificially high if there's an ongoing assessment, but this is still way out of range. No idea what this would sell for, but unless the seller is really distressed, I can see someone settling for ~$900k.

AHAAAA! See now you are talking realty. Never forget that post that I got so much sh*t for in April 2007, almost 3 years ago now (June 2006), on that very topic!

http://www.urbandigs.com/2007/04/biggest_scam_in.html

"Let me be absolutely clear! The 421A Tax Abatement which is granted to developers by the city as an incentive to build and develop neighborhoods, is great for the developer's sales team as they ask top dollar for new units with temporarily low monthly expenses and a DUPE TO THE BUYER WHO INTENDS ON SELLING AFTER THE ABATEMENT EXPIRES!

THE MONTHLY EXPENSES (MAINTENANCE + REAL ESTATE TAXES) OF A PARTICULAR PROPERTY ARE DIRECTLY CORRELATED WITH THE AFFORDABILITY OF THE APARTMENT AT RE-SALE. THEREFORE, A PROPERTY WITH HIGHER MONTHLY EXPENSES MUST LOWER THEIR ULTIMATE ASKING PRICE TO COMPENSATE FOR AFFORDABILITY OR ELSE IT WILL NEVER SELL. ON THE FLIP SIDE, A PROPERTY WITH VERY LOW MONTHLY EXPENSES CAN GET AWAY WITH A HIGHER ASKING PRICE ON THE OPEN MARKET.

Here is how the tax abatement gradually expires:

EVERY 2 YEARS, 20% OF THE ABATED TAX TOTAL IS ADDED TO YOUR MONTHLY REAL ESTATE TAX PAYMENTS UNTIL MATURITY."

REALITY!

Jim,

You make an interesting point about subtracting out maintenance from gross rental income.

Although that's not how the conventional price/rent ratios have been calculated it does put all properties on more of an equal playing field.

I do this calculation myself. I also will often invert the ratio so that it is a "net" yield. So, "net" income / price.

Generally I've then come up with net yields of around 3%. Why would I want to make a risky investment with a net yield of only 3%? (The only possible answer would be an expectation that rents would increase substantially faster than the CPI going forward. That has, indeed, happened in recent years. But the reverse is obviously happening now.)

UD, I post occasionally on your site these days, but in 2007 I was busy getting shredded here. Lost heart and retreated for a bit. I got ripped on Wired for bringing up the issue of what would happen to buyers in new developments when and if banks changed mortgage standards. That was fun too.

This will kill the developments not already closed and viable. The bankruptcy judges are going to get busy.

BJW...wow..that apartment with 7000month payments selling for like 400 something psf is a good example of the negative impact of high maintenance. Geez. What is this market going to look like when you get the various whamos of people wacking prices in high. maint buildings, failing new developments, retreat from fringe areas....There is lots of chaos in the pipeline.

sorry, was published JUNE 2006, republished APRIL 2007. Sorry for typo

aboutready - great question on the tax abatements. I am more of a coop browser than a condo browser so I have only limited awareness of the topic. From what little I know, a 10 year abatement with the full tax phased in in 5 biannual steps is a very common structure. Some of the 2003-04-ish vintage buildings - near the leading edge of the recent building boom - must be starting to show their age from a tax standpoint. The only time I ever tried to look at any numbers on this was when we were looking at buying in '03. We kicked the tires on a couple of new condos but could not get our heads around the psf premium and ended up buying a middling coop. I recall the tax math on the run off of the abatement being dramatic.

Hopefully someone out there knows this stuff and can lay it out on this thread. The value math at full tax is one thing. How widespread the issue is (# of units, % of market, etc.) and over what period it all phases in is also very interesting. Presumably this lingers until about 2020 (building started in 2008 for 2010 occupancy building plus 10 years for abatement to run off).

- "When people discuss price to rent ratios, wouldn't it make more sense to net the maint. costs from the rent (because if you owned the place as an investor your net would be rent minus monthly costs)."

- Not if you are a renter considering buying or visa versa, no. Not really. To calculate inflation, sure. But for a practical rent versus buy, no. Rent costs whatever it costs.

better would be to appropriately account for ownership costs by including maintenance and property taxes as well as the mortgage costs. if tax abatements that will be faced out are present, one should use higher property taxes than the current amount to reflect for that. that way your math works whether you plan to buy to rent or whether you want to decide buying vs renting. i've seen many people not taking into account maintenance when trying to make sense of buying, even though maintenance costs are many times half of what the rent would be. that's truly ridiculous.

jimstreeteasy,

I think before this is all said and done, we may see a couple small co-op studios on the UES sell for next to nothing because of the exorbitant maintenance in some of those buildings. I don't remember exactly which building, but someone posted one such example where maintenance on the studio was ~$1700 - not far from what rent would potentially be.

urbandigs,

I hear you and agree for the most part. I think you overstate your case a bit, though you probably know more than I do about how well-informed buyers are. Aren't most aware that the abatements are more or less priced in? The abatement did not make a big difference to me when I was looking for that reason - I think smart buyers should look at the carrying costs as if there weren't any.

"smart buyers should look at the carrying costs as if there weren't any."

lol, that's so funny. to think that anything had to be priced in during a big bubble is very naive.

bjw, for the smaller units I think many buyers assumed they would be moving on and would be able to sell or rent the unit out as an investment, or for all units that their incomes would move up at a rate that would make the issue moot. people really WERE stretching in many cases, and these increases could be what makes it all snap.

admin, whoops - I meant abatement!

bjw: oh, so you mean as if 100% of actual property tax should be paid right away?

hey, actually, i've heard a whole lot of people doing the math without taking into account tax+maintenance so not counting "carrying costs" as an argument seemed what a lot of people were actually doing ... they were doing "mortgage < rent, hence i buy"

aboutready, I think you're right, and it's scary that some people largely ignored these things. It will be interesting to see how many people it really hits hard.

Jim, I'm hurt. You should have continued this discussion on Larry's thread.

admin,

Yes - I meant run the numbers as if the tax abatement never existed (thereby increasing your carrying costs). If you can't afford it, it's a bad buy. I'm sure, as aboutready said, some people took this all for granted, but that's a dangerous thing. As for not counting tax+maintenance, that's so utterly ridiculous, I hope those people have a major inheritance coming their way, otherwise they're in a lot of trouble.

It was time for a change , Sticky (referring to the thread, not adjusting your medicine; I don't give medical advice). Good to hear from you! Now, find us some more DEAD UNITS LISTING (as in Dead Man Walking) with absurd maint. so we can all express our righteous indignation.

it's also possible that if the recession goes on, maintenance will go down. at the peak cost of energy were much higher than now. if TSHTF, amenities and personal could be kept at a minimum cutting costs.

admin, yes for coops that's possible. and the condos may stop filling up their pools. staff wages will probably deflate, etc. for some people, though, the process isn't going to happen fast enough to keep them in their homes.

one more comment and then I promise, Jim, I'll start trolling for some examples.

one last cheery new development condo thought. what will happen when one or two developers default and the common charges for the unsold units are not being paid? eventually it gets sorted out, but often the result is higher common charges for those who own. and in coops, if owners fall behind in maintenance and can't sell?

Fugly.

aboutready, not need to troll, just that happened recently at 225 Rector Place (aka Rector Square) in the Financial District. If the developer defaults you enter a world of hurt.

"At Battery Park City's 225 Rector Place, a court-ordered receiver has taken control of the management of the building, which was abandoned by developer Yair Levy halfway through its renovation."

"Cooper Square Realty was supposed to put condo owners’ property tax payments into an earmarked fund, but instead all the money disappeared into the building's operating fund, Miller said. That operating fund is now dry, without a cent of the property tax money going to the city"

All very interesting. Well, I asked this elsewhere, but as a reference point: what is the market value of a unit where rent = maint. Is it zero or very low like say 50k, all of which begs the question of what is the impact of maint. that gets to be more than say 2/3 of rent.

Why buy? 1) psychic benefit of ownership, 2) to guard against future rent increases that exceed maint. increases?; but what is that differential realistically, ie how much capital price can it justify?, 3) for appreciation perhaps (and I guess you could argue there is limited downside if you pay a low price).

I think I have a winner. 205 W. 86th, The Harrison, re-listed by Related in December. $1.65M, tax and cc of around $10,500. Honest. Taxes are over $9000.

sadly that was an error, obviously.

try again. 52 Park, $1.995, tax and cc around $5750. 2 South End Avenue (always a favorite in the cc and tax issues), $990K, tax and cc of around $4650 (likely very close, if not higher, to rent).

jim,

You could argue that in the case of rent = maintenance, the apartment is potentially worth $1. In most cases, those kinds of units would trade at a very discounted price (ie: more than $1, but much less than the unit would sell for under more "normal" circumstances). I think common charges should have a huge impact on the buy decision - you're paying this every month, no matter what! There are tons of reasons to buy or not to buy, but from a purely financial perspective, it's usually very tough to make sense buying a unit with very high maintenance unless the sales price is significantly adjusted.

If rent = maintenance/CC, isn't ownership just a call option on the potential upside in the property, being the potential that in the future rent > maintenance/CC and equity value > 0? It might be worth $1 if the option is viewed as out of the money or it might have more value to a buyer who has a more positive outlook on the future.

On the flip side, if rent becomes < maintenance/CC then I guess the owner either has to go out of pocket each month to maintain the option or else go rent somewhere else and let the property, purchased for our theoretical $1, go. What happens then? Does the coop/condo get a lien on the property for unpaid maintenance/CC and then take title in a foreclosure? Can they go after the owner for any shortfall or can the owner just walk?

In strictly financial terms, the option to buy for a token price, keep the upside if any and walk away if the investment doesn't work is pretty attractive. Just ask the millions who bought houses all over the country with no money down and then wiped the mortgage off on the bank when property values fell.

Remember, 5th ave co-ops traded for $1 a few decades ago...

There's this UES coop that was discussed a couple months ago -- a bad landlease situation. Lots of apts on the market. This Jr. 4 is for sale at $435k with a maintenance of $3,435
http://www.streeteasy.com/nyc/sale/218325-coop-301-east-63rd-street-lenox-hill-new-york
or rent for $3,900 only $465 more than the maintenance fee
http://www.streeteasy.com/nyc/rental/483029-coop-301-east-63rd-street-lenox-hill-new-york

nyc10022 - can you please provide a link to back up the assertion that 5th ave co-ops traded for $1 decades ago? And I mean true sales - not someone assuming debt, or a bank buying back its own loan.

wow MeMe, that is nutz.

The millions around teh country who bought with nominal money down and had NO OTHER ASSETS indeed did get a free call option on home values. If a unit owner is personally liable for maint. etc. then you can't just walk away from the building....can some lawyer confirm that that is the case?

printer, me too. Beaten NYT archive up looking for a reference, but no go. Not that it isn't possible. Say, for the nominal $10 you're taking on your share of the underlying mortgage.

Lots of bankrupt co-ops in 1930's, of course, where the owners just handed the corporation to the bank or Met Life and became renters.

Trying to see it the other way, here, assuming 70% of that maintenance is deductible at 40%, maintenance is after-tax 2475. $90k down, a 5% mortgage on 345k is $860 is $1850 or $1270 after $1450 of it is deductible at 40%. Total = $3845 or rent parity. Of course you forego investment income on the $90k down but a guy with a stable job and thus assured deductibility might drink the KoolAid and buy.

I could see some of the market clearing for these reasons, but I don't think the universe of buyers thinking this way is very large - people have uncertainties in their own lives besides worrying about further price declines to stop them from taking the plunge now.

sorry, forget the "is $860" part.

While everyone here makes excellent points, can I just ask that we not refer to 421-a tax exemptions as "abatements?" They're exemptions, and calling them abatements is like mistaking "your" for "you're." Real estate brokers call 421-a an "abatement." We can do better.

Thank you, that is all.

crescent22: Maintenance deductability is a joke in this city - no one that would be applying a 40% rate to tax-effect their maintenance wouldn't also be caught by AMT. The notion of thinking about mortgage payments on a tax-effected basis for most buyers with residence in Manhattan is largely BS for the same reason. AMT sucks

NWT - the $1 5th avenue co-op in the 70s smells of urban legend to me. In fact, when I was looking at the data I was quite surprised to see that NYC co-op price actually rose slightly in the mid-70s, and sharply at the end of the 70s. There could always be the isolated case where a building was terribly mis-managed and had a huge assessment that was equal to the value of one's unit, so someone just wanted to get out of the commitment, but the concept that there were multiple instances of $1 transactions seems far-fetched.

pbunyan11. Not always the case. I can only speak for myself, but I itemize the interest and property tax portion of my maintenance and have not been tagged for AMT in about 5 years. If a large enough portion of your income is W-2 income subject to high Federal withholding rates, you can end up paying a high enough effective rate to stay out of AMT purgatory. In a way, this is worse because I'm basically buying my way out of AMT purgatory with high Federal taxes, but for what it's worth I do get full deductibility along the way.

You're right - that percent truly deductible should decline for the average person. Real estate taxes would not be deductible under AMT, though underlying mortgage interest would be. I wonder what the situation with the land/leases is. My guess is not deductible. So we may be at parity only in the low-end of the market where people aren't affected by AMT but have lower incomes anyway and thus less deductibility.

pbunyan,

Partially correct - AMT would likely eliminate the deduction for maintenance, so I would never assume that I would be able to deduct it. But it has no effect on your ability to deduct primary mortgage interest.

printer, the powers that be seem awfully interested in taxing the wealthy (not that I, in theory, am against progressive taxation). don't be so sure that the primary mortgage interest will continue to be deductible for higher incomes, at least not fully. i think the current proposal is to limit the deduction to 28% regardless of marginal income tax rate, but it could get worse. those trillions don't just come out of thin air. oh, well, not all of them.

And the mortgage interest deduction is capped regardless at $1 mm, if I am not mistaken.

Here's an interesting IRS case, from several busts ago. The apartment was the 12,000sf 7/8A, now owned by the Gutfreunds.

Schmidlapp v. Commissioner of Internal Revenue

[...]
In 1931 petitioner purchased for $265,000 2,750 shares of stock in 834 Fifth Avenue Corporation, the owner of a cooperative apartment building and thereafter leased and moved into an apartment in the building.

Each tenant-owner of the apartment house was required to execute a ‘proprietary‘ lease which provided that he must contribute his proportionate amount to pay the taxes, interest and operating expenses of the property. In 1931 and 1932 the petitioner, Carl J. Schmidlapp, paid to the Corporation as his proportionate share of interest the sums of $5,211.51 and $13,297.59, respectively, and the sums of $2,251.99 and $7,370.11, respectively, as such share of his taxes, all paid by the Corporation with respect to his apartment.

In 1929, the petitioner, Carl J. Schmidlapp, leased an apartment at 820 Fifth Avenue, New York City for a term of five years, expiring September 30, 1934, at $25,000 per year. He lived in that apartment about 1 1/2 years when he moved to 834 Fifth Avenue. In November, 1930, he placed the lease for the apartment at 820 Fifth Avenue in the hands of brokers for sub-lease but they were unable to secure a tenant. Neither he nor any member of his family occupied the apartment after the spring of 1931. Its fair rental value for the remainder of the term of the lease was $24,000 per year. The petitioner paid $16,674.72 and $25,000 as rentals thereof for the years 1931 and 1932, respectively.
[...]
In 1929 Anthony Campagna, a builder, purchased the land at 834 Fifth Avenue on which the apartment house, known as 834 Fifth Avenue, was erected. The building contained 24 apartments which were offered for sale to the public on a cooperative basis. Ten of the apartments were sold. The total number of shares of 834 Fifth Avenue Corporation stock was 36,000 of which about 16,000 were issued to the apartment owners. The remaining 20,000 shares were owned by Anthony Campagna individually and by the Anthony Campagna Corporation. That corporation's business was to buy, build on and sell real estate.

The purchaser of each block of 834 Fifth Avenue Corporation stock, allotted to him on the basis of the value of his apartment, was required to sign a 99-year lease, obligating him to pay his portion of the total expenses of the corporation. When the petitioner purchased his stock the sale of the stock to anyone other than an assignee of the lease was prohibited. This situation continued through 1932.

The apartment building was encumbered by a $2,800,000 first mortgage and a $350,000 second mortgage. The Campagna Corporation paid one month's ‘proprietary‘ rental and thereupon defaulted. Thereafter in 1932, the 10 individual stockholders formed a new corporation, called 834 Maintenance Corporation, which took over the Campagna stock and paid the maintenance or rental burdens chargeable to that stock. The Maintenance Corporation tried to rent or sell the apartments. Some were rented but none were sold. Its stock was stipulated to be worthless on December, 1932. In 1933, the 834 Fifth Avenue Corporation cancelled the ‘proprietary‘ leases and assigned the rents to the holders of the first mortgage but it still held the legal title to the property. On December 31, 1932, 834 Fifth Avenue Corporation was solvent. At that time the apartments could have been rented for only sufficient to cover about two-thirds of the mortgage interest, taxes and operating expenses of the building. On that date the corporation had paid its taxes and owed interest on only the second mortgage.
[...]
The last issue involves the deductibility of $265,000 as an ordinary loss on account of the worthlessness of the petitioner's stock in 834 Fifth Avenue Corporation.

The petitioner has failed to prove that his stock in 834 Fifth Avenue Corporation was worthless in 1932. His own witness testified that the corporation was solvent on December 31, 1932. With reference to the stock, he stated: ‘I don't think it did have any value; at least you could not realize on it,‘ but he also testified that the stockholders own the building and that the stock ‘might be worth a whole lot of money‘ even today. The so-called ‘proprietary‘ leases were cancelled in 1933, thus removing all interdependence between ownership of stock in the corporation holding title to the apartment building and occupancy as a tenant in that building. In view of this circumstance and of the fact that there is no convincing proof that the stock became worthless in 1932, we can not so find. We must sustain the respondent on this point.
[...]
[834 Fifth was foreclosed upon in 1936]

Cap Rate = (rent - cc/maintenance/tax)/price

price = (rent - cc/maintenance/tax)/cap_rate

So if cc/maintenance/tax exceeds rent, the property has negative value as compared to other properties. Cap Rate is just a plug figure that investors can use to value roughly comparable rental income properties at any given time. It is an approximation to

Price = net_income/(r - g)

where r=the discount rate for similarly risky investments
g=the growth rate of the net income

The net/(r-g) is the formula for discounting known cash flows that grow at a know rate g in perpetuity. The problem is that the future cash flows are not a known and smoothly growing stream of payments.

Apartment REITs have cap rates of 9% as do investment apartment buildings. One might say that the residential buyer gets a tax break of say 35%. But this is only true if 1) they pay cash for the entire apartment and occupy the same apartment; or 2) their mortgage does not exceed the $1 mm cap. So one can estimate that the tax break is worth about half of the 35%.

A commercial real estate investor or a REIT can write off the entire mortgage interest, leaving only the net income to be taxed after interest. REITs actually pay this out and the investor then pays the tax. Thus, to my view, I believe that for most investors, REITs are a good comp on the cap rate.

Further, one could construct a portfolio of apartment REITs who's rental growth rate is approximately the same as the growth rate for a renter's rental apartment. It seems to me that REITs + rental is a cheaper substitute for purchasing an apartment, but a factor of 2 to 3, depending on the tax situation.

i'm out of them now, happy to be in cash, but i did so love my REITs (although I was mostly commercial). i agree budda, if you want to invest in RE, many ways to do so.

Here is an example of high maint vs rent:

2002 fifth avenue 5E..maint = 1500 per month, and you can rent an apt almost the same size on same floor for 2650 ASK....so lets say the market rent is currently say 2600....so the seller is asking 675,000$ so you can avoid paying 1100 per month....DOES THAT MAKE ECONOMIC SENSE?

jim.... in a word NO.... sell now take equity put 1/2 into some nice REITS ( some have only 50% leverage) and 1/2 CDs or liquid gov't securities.... rent a like sized apartment (like 2002 5th Ave) for 2 yrs w/ 1 yr option renewal where asking rents are no more than 1.5 to 3x CC+RE tax.

CONGRATULATIONS you've just partially hedged yourself against a downturn in NYC RE for the next 3 years.

As Budda points out, you get almost all of the tax advantages and REITs as a whole have been much more "hammered" and are much more liquid... but be patient... they've had a nice run up due to Kimco's "successful" equity announcement and wait for the next two quarters as most REITs will decrease dividends by 80 to 90% to conserve cash.... when this occurs and the stocks drop to where yield is still at 10% then pull the trigger.

I am in HRP but unloading a little bit on Monday due to the 100% run up in the last month.... FYI, my yield is above 20% (but I doubt the last dividend cut will be their last)....

High Carrying Charges are a ticking bomb although I don't expect Manhattan to duplicate FL

U.S. property bust threatens condo "death spiral"

http://www.reuters.com/article/newsOne/idUSTRE53200O20090403

MIAMI (Reuters) - Rust pokes through the peeling paint on the railings, pest control has been curtailed and the palm trees are no longer being fertilized at the 1940s-era Miami Modern condominium building in Miami Beach.

The condo association has been forced to cut expenses because the owners of 11 of the 28 apartments in the modest two-story building are delinquent, victims of a mammoth U.S. real estate collapse that has hit Florida especially hard.

With so many cash-strapped owners failing to pay their monthly fees for upkeep, the condo board last year had to raise $40,000 with a special levy to fill a giant hole in the $80,000 annual budget, but only managed to collect $19,000 from the owners who are still able to pay their bills.

But 2002 5th is a coop and so the common fee is like 50% deductible but still its high for Harlem...

Today's NY Times article :

"CO-OPS across the city have raised their maintenance charges by as much as 15 percent in recent months, and one of the main causes is rising property taxes..."

In a market where people are starting to look at economics, instead of buying on the greater-fool theory, this is more bad news for many sellers.

budda, great logic...not much of that these days in NYC residential real estate analysis.

budda and w67thstreet, great points!

Here is another... $3300 maintenance.

http://www.streeteasy.com/nyc/talk/discussion/9978-sale-at-301-east-63rd-street-16b

nyc10022...Nice find. I wouldn't take that unit for free.

I agree.

Apparently, the shady broker (yes, redundant, I know) tried to trick people into not noticing...

http://www.streeteasy.com/nyc/talk/discussion/9978-sale-at-301-east-63rd-street-16b

The Schmidlapp/Gutfreund apartment is for sale: http://streeteasy.com/sale/1222964

Nice.

And I wonder what aboutready would say.