Real estate investors played a big part in the housing bubble and housing crisis during the mid to late 2000’s. Many investors lost money, went bankrupt, or lost properties to foreclosure. Housing prices in parts of the country are higher now than they were at the peak of the last bubble. Many feel that high prices indicate another bubble, which may mean real estate investors are in for more trouble. Real estate investing is scary enough without a huge housing crash looming. Besides trying to figure out if another housing crash is coming, I think it is worth looking at how many investors got into trouble during the last crash. Many would have you believe every investor lost everything, unless they owned their houses free and clear. Even with the craziest lending policies ever, a huge housing bubble, and a huge crash, it may surprise you how few investors failed.
Are we headed for another housing crash?
I have talked about the current housing market a lot on my blog. I was investing before, during, and after the last crash. Before the last crash I could see something bad was coming. The lending guidelines were crazy with zero down investor loans, owner occupants getting loans for 120 percent of the value of their home, and pretty much anyone who wanted a loan could get one. Builders were building houses as fast as they could to meet demand that was created by horrible loans. It was no surprise that things fell apart.
I feel the current market is much different from the bubble we previously saw. Lending guidelines are much stricter for investors and owner occupants. If you have bad credit, high debt to income ratios, or other financial problems you probably will not get a loan. Builders are not building nearly as many homes now either. In fact, they are building historically low numbers of houses. Low supply is causing prices to go up, not artificially inflated demand. I do not see another crash coming, although prices could stabilize or even decrease as homes become less affordable. You also have to remember that real estate markets are very different across the country. Some areas may see a housing prices drop, while others may see them increase.
How many investors went bankrupt in the last housing crisis?
I cannot predict the future and while I feel there isn’t a crash coming, I could be wrong. If I am wrong and we have another crash, how bad will it be for investors? There are a lot of people who talk about all the investors who went bankrupt and lost everything in the last crisis. There are investors happy to tell their story and how they lost it all when the bubble burst. It feels like most real estate investors lost all their houses to foreclosure! You have to remember that bad news sells. Many people try to scare others into buying products or books with stories of how bad it was and will be.
When you look at the actual numbers, the real estate crisis was not nearly as bad for investors as many make it out to be. I found a great source on foreclosure statistics here: Performance of non-owner occupied mortgages during the housing crisis. Part of this article gave stats for real estate investors who took out loans from 2004 to 2007. These are loans taken out when prices were the highest, loans were easy to get, and loan to value ratios were the highest. These loans should have produced the worst results for investors. The total number of these loans that foreclosed or started the foreclosure process from when they were obtained to 2011 was about 7 percent. About 1 out of 14 of the worst loans ever originated failed. Some investors had many houses, which means 1 out of 14 loans went into foreclosure, not 1 out of 14 investors.
For investors who bought houses prior to 2004, the numbers are much better. Loans were harder to get, more money down was required, and qualifying was more difficult. Considering how crazy the real estate market was and how easy it was to get a loan, a 7 percent foreclosure rate is not bad after the biggest real estate crash in the history or our country. That rate is high, but not nearly as high as many would make it out to be. There were many investors buying without cash flow, without reserves, and without any idea what they were doing. I am actually surprised the rate of foreclosure was not much higher. So if you think every investor who gets a loan will lose their house in the upcoming crash that may not be the case.
Why didn’t more investors lose houses in the last crisis?
Many investors had their houses go into foreclosure, but it was not as bad as many made it out to be. Most investors who bought houses at the worst time, kept their houses or were able to sell them. It is true that some investors could have sold their properties as a short sale which may not have been included in these statistics. However, banks were not nearly as likely to grant short sales to investors as they were to owner occupants. Banks are also unlikely to grant short sales to borrowers who are not behind on their payments. Investors also have to be careful because the debt forgiven in a short sale, could be considered forgiven debt and taxable income. I am sure many investors were able to sell their properties as short sales, but I do not think it was a huge number that would change the 7 percent figure very much.
I think the main reason more investors did not lose their houses was that the housing crisis affected different parts of the country in different ways. Prices did not drop 50 percent in 6 months in every city in the United States. Some areas of the countries saw almost no drop in prices, while others did see huge drops. The areas that saw the biggest drops in prices got the most news coverage, which made it seem like the entire country was going through the same thing. Usually the areas that have the highest appreciation rates are prone to the biggest drops. California, Arizona, Nevada, Florida all saw huge appreciation during the housing bubble and they had the biggest drops as well.
How can you protect yourself if we do have another housing crash?
Something else to consider is that owning rentals is not all about the value of the home. I only buy rentals that have cash flow, that means they make money every month. Rents would have to drop 40 percent or more for me to start losing money on my properties. During the housing crisis rents dropped, but not nearly as much as values dropped. In some areas rents barely dropped at all, because the number of renters increased when they lost the house they owned. It sucks to see the value of your properties drop, but if rents do not decrease very much, it is only a drop on paper. If you do not sell the house, you will not realize that loss. In fact some of your expenses like property taxes should decrease.
The investors who got into trouble were depending on prices to keep rising to make their money. They were flipping houses with not enough profit margin, or they owned rentals that did not make money every month.
Do high prices make it harder to invest in real estate?
While high prices alone do not mean there will be another housing crash, it does make it harder to invest. Rents are usually relatively higher on lower prices properties than they are on higher priced properties. It can make it tough to find cash flowing properties when prices are high. I am having that problem now in Colorado, where prices have risen so much that rent to value ratios don’t make sense for me to buy rentals. It can be harder to flip in higher priced markets as well, because it takes more money to buy houses, make repairs, pay carrying costs, and pay selling costs. I would not assume that high prices mean the market is going to crash, but it can make it tougher on real estate investors. If you are in an area with high prices, you could invest in other states that have lower prices and better investment opportunities.
I talk about how to find those areas, how to find great deals, what you should look for in rentals, and much more in my book: Build a Rental Property Empire: the no-nonsense book on finding deals, financing the right way, and managing wisely.