By Shelterforce Posted on March 29, 2011
h6. To the Editor:
Regarding Alan Mallach’s “The Great American Fire Sale”:http://www.shelterforce.org/article/2071/the_great_american_fire_sale/ (Fall 2010), let’s think some more about the $10,000 home in Detroit that needs $40,000 of rehab but then would be worth only $30,000 post-rehab. The property’s economic value (to what the article calls a “responsible” owner) is not $10,000 but, instead, is negative $20,000 (if you buy the property, fix it up, and sell it, you lose $20,000). In this situation, no long-term investment strategy makes sense.
Accordingly, anyone who happens to own that home and who is economically rational has only two choices, both short-term:
# Sell the property for $10,000 (or less). Note, however, that the property has no value to anyone who might want to convert it into standard housing; its only value is to someone who is willing to follow strategy #2 (the “milker”). So if you offer the property for sale, the only buyers are the “milkers.”
# Rent the property for $600 to $700 a month, while spending as little as possible on maintenance, taxes, or utilities. Don’t buy insurance. Whenever the maintenance/taxes/utilities costs become too high, fall back on strategy #1. This is what the article calls the “milker” strategy.
That is, if you own such a home, there are only two things you can do that make economic sense. You can become a milker, or you can sell to a milker. And, if the milker complies with local landlord-tenant law and with local codes, I personally would label that a “responsible” strategy.
Consider a local government faced with a significant number of low-end homes (whether owner-occupied or renter-occupied or vacant) that are delinquent on their real estate taxes and whose post-rehab value would be less than the cost of the rehab. Only these strategies would stabilize neighborhoods and remove blight:
# Aggressively condemn and demolish the homes, probably incurring a cost to the local government of, say, $20,000 per home.
# Aggressively condemn the homes and subsidize their rehab and resale (whether for owner occupancy or renter occupancy), probably incurring a cost to the local government of, say, $30,000 or $40,000 per home.
It seems to me that the sorts of lower-cost strategies discussed in the article would work in healthier markets, but not in places like Detroit.
Charles S. Wilkins Jr.
Alan Mallach replies:
As far as the issue of “milkers” is concerned, I largely agree with you. Arguably the principal, if not the only, goal of regulatory strategies when dealing with milkers in very low-value markets is to accelerate their removal from the market. In that respect, I would disagree with one of your points; namely, the distinction between “responsible” and “not responsible” milkers. Almost by definition, there is no such thing as a responsible milker. While some milkers may comply with codes when it is relatively inexpensive to do so, the milker business model assumes that little or none of the cash flow is reinvested in the property, and that the ultimate outcome in most cases will be abandonment.
The article, however, was not principally addressed at the milkers who infest places like Detroit, where ultimately demolition of most of these properties is likely to be the most appropriate outcome, a point I made in the more extensive report, Meeting the Challenge of Distressed Property Investors in America’s Neighborhoods, from which the article was drawn.
In Detroit or Youngstown, there is no credible alternative to demolition of a substantial part of the housing stock. In most other market areas—including many inner-city areas like Minneapolis or New Haven, as well as Sunbelt areas—the strategies that I propose, which combine strategic regulation and incentives—can have a significant effect on changing investor behavior.
These strategies may not require massive capital outlays, but they are far from easy (nor did I imply that they were), but they are doable, with the right leadership, organization, and technical capacity, between local government and locally-based nonprofits and CDCs. For better or worse, once NSP funds have been exhausted, neither local, state, or federal government are likely to be able to come up with the money that would be needed to see subsidization of rehab as a viable strategy for more than isolated, scattered cases. As a result, relatively low cost—even if difficult—strategies are likely to become the only alternative to doing nothing.
h6. To the Editor:
Great job [on “Can Lease-Purchase Save Us?”:http://www.shelterforce.org/article/2114/can_lease-purchase_save_us/ Winter 2010]! It’s the kind of article I was hoping to see in Shelterforce for some time. You contributed much to the subject.