BLOG VIEW: How will mandatory water restrictions in California affect property values?
That's a question many people in the housing industry have been asking lately.
Earlier this month, California Gov. Jerry Brown signed an executive order requiring an unprecedented mandatory 25% cut in urban water use statewide. For now, California is leaving it up to its urban water companies to work with their customers to achieve the 25% reduction in usage – in other words, there's no proposal (yet) for the state to start fining residents if they violate the restrictions. What's more, not every water company in the state must reduce consumption by 25% – those that serve areas that use less water or that have favorable climates for conservation will have lower restrictions – thus, some areas of the state will be more affected than others.
Although it will take some time to realize the full impact of the restrictions on property values (and what's to say water supplies won't return to historical norms next year, resulting in a lifting of the restrictions?), one can be sure that some prospective home buyers have already crossed California off of their list. With media reports stating that many homeowners will no longer be able to water their lawns, fill their swimming pools or wash their cars, it's probably the case that some buyers who were thinking about California previously are now reconsidering.
Paul Abbamonto, chief operations officer at valuations technology and services company LRES, says that although it's too soon to forecast what impact the new restrictions might have on home values, ‘California's drought and the resulting water restrictions out west are certainly factors to continue to monitor over time.’
In an interview with MortgageOrb, Abbamonto says the water restrictions could also impact re-sales, as ‘homeowners with swimming pools and extensive landscaping are suddenly at a disadvantage in today's environment.’
‘This issue could adversely impact home values in a few years if it continues,’ he says. ‘If homeowners are required to empty their swimming pools or stop watering their lawns, it will be very hard for them to get full value for their properties under those conditions.
‘And appraisers will have to factor in the possible penalties or sacrifices that have to be made, such as what is the future damage to an empty swimming pool,’ he adds. ‘If a pool is empty, appraisers must note that in their report and set a provision that says, 'subject to the pool equipment functioning correctly.'’ Pool equipment is expensive – and when it is not operated on a regular basis, it could malfunction, which would factor into the appraisal.
Abbamonto emphasizes that although the ‘drought crisis is a major concern, it is still too early to see any immediate ramifications with regard to property values.’ However, ‘if this continues to be an issue two to three years from now, the industry will clearly face a problem with respective values.’
Michael Sklarz, chairman and CEO of valuations solutions provider Collateral Analytics, says he sees ‘two sides to the California water restrictions situation relative to the real estate market.’
‘Areas such as the Central Valley [that] are heavily dependent on agriculture could see a direct impact on farming revenues, which would negatively impact the nearby housing market,’ Sklarz says (note: the new rules specifically exempt agricultural users from any new reductions for now). ‘At the same time, urban and suburban areas of California will continue to be perceived as desirable places to live and work. However, concerns about future water supplies will make it difficult for home builders to develop new housing. With less new housing inventory, the result will likely be tighter markets and further pressure on home prices.’
Sam Heskel, president of Nadlan Valuation Inc., a national appraisal management company serving small to midsize banks and credit unions, says there's no question that long-term restrictions will have at least some impact on values.
‘The market of higher-end homes with pools and large landscaped properties will definitely be impacted for a number of reasons,’ Heskel says. ‘The pool and landscaping, which previously were contributing to the value of the property, will now become a disadvantage. You only need imagine a large colonial home with the front of the house in the summer looking as though it has been neglected due to dried out landscaping.’
Homes with swimming pools, in particular, will be affected, Heskel says. ‘There are potential mechanical issues, plus the pool will need to be covered and secured to prevent people from getting hurt. Landscaping and pools become an eye sore and a liability.’
‘If the restrictions are kept in place for the long term, there is the possibility that people will consider living in other states,’ he adds. ‘It could affect the supply and demand balance and, ultimately, the value of the properties.’
Brandon Boudreau, chief operating officer for Metro-West Appraisal Co. – which has California as its ‘biggest market in terms of home valuations’ – says in the short-term, the water restrictions will, if anything, increase home values, as the moratoriums on new home construction in certain areas would have the effect of constraining inventory even further.
‘Right now, we're still seeing values [in California] increase, due to the lack of inventory,’Â Boudreau says. ‘Of course, it is an artificial rise – you see it on other places where there is low inventory – plus you have so much Asian investment in California – which means the U.S. economy doesn't really drive that segment of the market. But I think this will have a further impact on the affordability in some areas of the state.’
‘It's kind of a Catch-22 – because of the needs for housing – and yet putting a moratorium on some of the projects because of water restrictions,’ he adds.
Boudreau says if the restrictions stay on effect for the long term, and rates increase as forecast, that could result in increased inventory flooding the market, driving prices downward.
‘I think if rates continue to climb – and if there is less investment – thus putting more inventory out there – you could see [the restrictions] start to impact home prices,’ he says.
‘I think we will also see this affect prices if we start to see people literally migrate out of California, because of the restrictions,’ Boudreau adds.
Boudreau also points out that the impact of the restrictions will be ‘spotty’ – for example, neighborhoods with high concentrations of swimming pools that can no longer be filled and used would probably see values decline as a result.
The effects of restrictions on home values could be similar of the water companies adopt ‘tiered’ pricing structures designed to dissuade homeowners from using too much water.
‘If the rules are set by municipalities instead of the state, then that could impact values,’ Boudreau says. ‘For example, if a certain town puts harsh penalties in place for violating restrictions, then buyers could shy way from that community. This could create an effect similar to when they build an airport, highway or power plant near a neighborhoodâ�¦’
‘In the long term, this could end up hurting the higher-end homes,’ Boudreau concludes. ‘It all comes back to the affordability thing: When the buyer says, 'Sure, I want a nice big home and I want a pool and landscaping, but the cost of the home I want is already breaching acceptable levels in terms of affordability, due to the high cost of maintenance.' If that starts to happen, then you'll start to see people downsize – because pools and landscaping will start to represent risk.’