Some of the projections I have been reading do not anticipate the housing market staging a turnaround until late 2009 or well into 2010. Once the market does begin to turn, it will be very gradual and probably be a non event. The reason is that the likely rate of appreciation could easily be only 2 to 4%. If people are thinking once the bottom is achieved, we will experience a return to the days of wine and roses along with double digit appreciation in home values, are in for a real shock. According to Karl Case (S&P Case-Shiller home price index), “home prices tend to increase on average at an inflation adjusted rate of 2.5% to 3% per year”.

Gone are the days of easy access to money and the resulting high demand that sent home prices through the roof. Home price affordability will now begin to fall in line with incomes, which by most accounts indicate there is still room to fall; home prices not incomes.

Housing Prices

Today’s Wall Street Journal devotes a section to The Future For Home Prices. The author indicates that home prices are driven by hard to predict fundamentals including: immigration, birth rates, size of households and incomes. He goes on to predict that young people will settle in Florida, the Carolinas, Tennessee, Virginia, Nevada, Arizona and the affordable interior parts of California. Dallas and Houston are also mentioned, so lets add Texas to the mix. These areas are cited as having generally lower housing costs.

I believe other factors will serve to reinforce people’s decision on where to locate. With the financial markets being pounded every day, many consumers are witnessing the evaporation of their retirement. As a consequence, housing decisions will be dictated by pocketbook issues that affect disposable income.

State & Corporate Taxes

If you look at the states where housing is expected to grow you must look in areas that have an availability of underdeveloped land along with a pro growth, low tax policy. Neither of which describe California. Of all the states mentioned above, which state imposes the heaviest income tax on its citizens? California’s rate of 9.3% earns top honors.

Let’s face it. If the business climate is unfriendly and imposes a high tax burden, what incentives are there for business to locate here, create jobs and employ people? I can’t think of any. Again, the blue ribbon goes to California.

California Sidestep

Over the last several years, California has avoided financial disaster by two unforeseen events. The tech stock boom pulled us out of budget shortfalls in the year 2000, only to be beset by a bubble. After that, real estate was able to come to the rescue and create another temporary budget stimulus, until that bubble popped as well. It now appears the champagne has sat too long without the cork and we are all out of bubbles.

I have asked this before but it bears repeating, “Why do states with the highest tax rates run the highest budget deficits”? Californian’s and more specifically Sacramento need to adopt a strategic economic plan that goes past Wednesday and looks out into the future. The environment is a perfect example as the air quality has improved over time. Someone had the wherewithal to understand change was needed.

California residents have had enough of the ups and down of the real estate and stock markets along with a “seat of the pants” approach to the state budget. Pro growth, low tax policies will be required in the next 20 to 30 years to enable Californian’s to invest in houses and enable job creation, which drives the economic engine and creates the circular flow.

In the current economic cycle, California is in the destructive path known as the sub prime or the housing crisis. A false economy built upon escalating home values, mortgages for anyone who completes an application, and a lending industry committed to seeing everyone who wants to own a home, will own a home. At least for a year or two, or until the repo man cometh. Very similar to when my daughter blows up a balloon. It flies like crazy until all the air is expended. It doesn’t just pop and fall to the floor, it goes for a while until the force of gravity begins to be greater than the air escaping and then it falls to the ground albeit rather suddenly.

A Silver Lining in This Dark Cloud

How can anything good come out of something that has negatively affected so many? The positive opposite reaction is that home prices are coming down and becoming more affordable. The California Association of Realtors reports that 44% of the households can now afford to buy a house compared to 26% this time last year. That’s great news if more people can now enter the once exclusive club of home ownership. Except for one thing, people are not buying homes.

You would think that if homes were more affordable, people would be buying, but their not. The reason is that it is so much harder to qualify for a mortgage. Now it appears we have the worst case scenario, falling prices, and wealth evaporating in the form of declining equity. Proving that if money is inexpensive and obtainable, people do not care what they pay for a house.

Surely there is a middle ground somewhere in this case of extremes. The problem is the people who have abused the system, a system designed to increase home ownership. Unfortunately, it has now been ruined for the ones who could truly benefit. The situation resembles offering a sales person a huge bonus, but with a sales quota that is unreachable. Home prices are in sight, but still unobtainable to the many who can afford the monthly payment, but can’t meet the requirements to obtain a loan.

The real estate market needs to find a balance. For the past few years the pendulum swung to far to the left and allowed too many applicants the opportunity to commit to a financial obligation they couldn’t document or afford. Now just the reverse is true, a swing to the right and many people who could buy are eliminated, thanks to increasing restrictions. If the real estate market is to recover it’s time to put some air back in the balloon and just let it float for a while.

A New Year, A New Budget Crisis

California is faced with another budget deficit. Is anyone surprised? This time it appears it is in the neighborhood of $14 Billion. We had a budget deficit as we approached the year 2000. However the bulls ran on Wall Street and produced a windfall for Sacramento allowing a reprieve. Then in 2004 the booming real estate market and all of its tax generating revenue once again provided a treasure chest full of money diverting another legislative showdown. Somehow, someway the economy has been able to mount a ninth inning rally and come to the aid of an irresponsible assembly. Not this time. It’s the bottom of the ninth and there are two outs. Budget deficits seem to come about from rosy projections that the good times will just go on forever. I don’t think anyone could have imagined the downturn in the real estate market would have been so quick and so severe.

Fairness In The Tax Code

I will be the first to say “I am opposed to taxes”. Give me Arthur Laffer and supply side economics any day. What I am opposed to more is an inequitable tax system. Prop 13 is the most unfair of any and all the taxes we pay. It is time we realized that we cannot continue to feed this massive state budget at the expense of new property owners. There is no fair justification for one homeowner to pay 10 times the property taxes simply because they just recently purchased a home in 2007 as opposed to their next door neighbor who has lived in the same house since 1978. Tax code should not be based on seniority, the sales tax isn’t and neither is the state income tax.

Taxes, A Revenue Panacea?

Local and state governments facing a shortfall seem to think no problem, we will just raise taxes. Nothing seems to raise the public ire faster than a tax increase. In Texas the Governor has signed legislation to reduce the property tax bill by one third. In Indiana and other states across the country residents are staging protests about their rising tax bills. If people have to consider selling their home because they cannot afford to pay their property taxes, something is terribly wrong.

Meanwhile, Back at the California Ranch

Government should address inequity before they recommend new sources of revenue. Prop 13 in its current form will only serve to widen the tax disparity as long as we base policy on some ill conceived plan that was formulated almost 30 years ago. To make the property tax fair we could do one of two things: (1) cut a property owners taxes by 50% if they purchased within the last 10 years or (2) reconstruct the system to make it more analogous to the federal income tax. Start with a base amount on the first $200,000 and then apply an additional increment based upon every $100,000 of additional value.

With financing for real estate harder to obtain along with the current price of homes (albeit falling prices), taxes take a big chunk out of the monthly budget. How will people ever afford that first house? They won’t. With about 24% of Californian’s able to afford their first home (compared to 61% nationally), are we destined to become a state of just “tenants”?

It’s time we equalized property taxes according to neighborhood home values and rid ourselves of an antiquated tax policy that rewards longevity in property ownership while increasing the burden on more recent purchaser’s.