Condo fire sales at Brazos Place, the Shore and other projects have led readers to question the value of purchasing condo units directly from the developer during or prior to construction. In these and other projects, full price buyers have seen the value of their units plummet when the developer dumped excess units at a deep discount.
For example, one reader told us that their large Shore unit recently appraised for $525K, roughly $250K less than last year and $200K less than what they the developer prior to completion of construction. This 28% drop in value is a big deal for any buyer — and rightfully leads people to ask what the best strategy is for purchasing units in a new condo project.
Housing prices are set by supply and demand. When developers sell new or pre-construction units, pricing is based on construction costs, demand, and the developer’s perception of market trends. The final price, however, is set by the sale of the first few post-completion units. So let’s look at different scenarios for a fictional 100 unit project:
– If the developer sells out all 100 units, the final value will be set by the first resale units. In a strong market, they may very well be higher than the initial price as buyers who missed out on their original attempt to get into the project. The price growth may very well be higher than the appreciation in comparable units. If construction costs are rising quickly as they did between 2004 and 2007, than the original pre-sale prices may never be matched.
– For the same project In a weak market, prices will likely be lower than the original market price. The price drop will likely be similar to the overall market drop for comparable condo units.
– If the developer sells 95 units and then drops the price by 10% prior to completion of the project and sells the final 5 units (still preconstruction), the final price will still be set by the first post-completion resale transactions. Thus, the price will likely increase or decrease in line with the general market.
– If the developer only sells 50 of the 100 units at the point the project is completed — this has happened a couple of times this year — than it will likely be bad news for the original buyers. To sell the remaining units and to try to move them fast, the developers will cut prices by 10, 20, or as much as 30%. The value of the original owners’ units will fall at a similar pace. If the units do not sell, it will be very difficult for the original owners to resell their units at anything but a substantially discounted price.
There are lots of reasons to buy a pre-construction unit. If you have found the perfect building and perfect unit with the perfect view at a price you can afford, it’s probably a good thing to do. If you want to stay put for a long time, your risk will be low. If the market is rising and costs are going up and you want to lock in on a unit, it may be a good time to buy. If the market is a mess and prices have been slashed to clear out inventory, it may also be a good time to buy.
But here is the important thing to remember: in exchange for getting an early pick and a pristine new unit, you will be facing additional risk and variability than you would on a completed unit on the resale market. To see short term appreciation, the building will need to sell out, the initial pricing will need to have been fair, and the market pricing will need to be stable or positive.
To maximize your chances of success, it is very important to remember that most people pick a building and than a unit. Cheap units in an undesirable building will be unlikely to appreciate as well as units in the most popular buildings.
In another year, this post would be very different. It would talk about how to pick the building with the best appreciation and how to get in early on the hottest projects. In 2009, there are no hot projects. It’s a tough market. In a tough market, however, buyers can do very well by purchasing discounted units in desirable projects or by getting great units in buildings on track to sell out at current pricing.