There are growing concerns of a correction in the housing market after two years of record home price appreciation, during which the national median home price rose 34%. It looks like the fix is finally here. Home sales and mortgage applications for April and May are down noticeably, while newly listed homes have risen rapidly as homeowners try to capture gains in home prices before the market turns.
But there is good news. The onset of a real estate market correction is the perfect time for investors to prepare for what might happen.
First things first: a fix is not a crash
A real estate correction is not the same as a real estate crash. During a correction, house prices return to more normalized buying and selling levels. They don’t fall off suddenly and dramatically like they would in an accident. In other words, things balance out. In today’s market, this translates to slower home price growth and possibly longer time on the market.
Properties that have been listed for Best Bank Investments on continued market competition and limited supply will likely see fewer offers. Some sellers may even have to lower the asking price to meet more realistic prices, although not all markets experience the same rate of slowdown or price decline as others. It all depends on the cause of demand and lack of supply that drove prices up in the first place.
save your money
Real estate market corrections are the perfect time for investors to stock up on real estate while prices are falling. Lower purchase prices mean greater opportunities for higher returns. However, with rising interest rates, the cost of borrowing becomes higher and lower purchase prices may not translate directly into better returns. Having the money to buy properties without borrowing money could mean you seize opportunities that others cannot.
Reduce your leverage
Housing market corrections are not synonymous with recessions. For example, during the COVID-related economic downturn of mid-2020, housing prices soared. This time around, however, there are plenty of signs that house prices could fall as the economy shrinks.
During recessions, economic spending slows. Rental rates and real estate values often drop as demand declines. This can cause properties that were once performing well to generate less than ideal returns or even negative cash flow during the downturn.
It’s a good idea to have some money set aside to cover losses incurred during this time, but it’s equally important to make sure you’re not over-indebted. Being over-leveraged in your investments means you don’t have enough income or cash flow to cover the property in case it stops paying, even temporarily. If you recently took out a line of credit and your profit margins have shrunk, it might be a good idea to sell the property now when prices are high to reduce your debt risk.
Hold for the long haul, sell what isn’t profitable
Buying low and selling high is one of the fundamentals of successful investing, but selling real estate when it’s high isn’t always the best decision. Cash flow is one of the main benefits of real estate investing. Even if the value of your property has gone down, it doesn’t mean that your return has gone down. If you have a cash-rich property that is earning a good return, holding onto the investment for the long term can provide protection during tough times and combat periods of high inflation like we are experiencing today.
Tax deductions on depreciation and certain real estate expenses are another advantage that should be seriously considered before taking the plunge and selling when prices are high. When you sell a property, not only do you forfeit any cash flow generated from the property, but you also have to pay capital gains on any profit made from the sale in addition to recouping all of your previous depreciation. Those who have seen values increase by more than 40% in the past year could find themselves with a hefty tax bill at the end of the day.
I recommend evaluating your portfolio and only considering selling properties that are not performing well or that could be at risk of default if the market were to deteriorate. If the property is not producing cash flow as is, it might be beneficial to sell now and save money to reinvest in more affordable properties and higher yields as the market corrects. Prices may drop a bit in a housing market correction, but if you take a long-term approach to your investment and focus on the value it brings with income and tax advantages over value of the property itself, going through a market correction can be a breeze.