I think the answer is yes, meaning this is not the time to put your money into Utah.
I like to poke around other real estate markets from time to time, partly because New Hampshire, where I live, has seen stagnant rents for the last five years. There has to be a better place to put my money, right? For a long time, that place was Utah.
Why people love Utah
The key to long term rent growth is population growth, and not just any population. You want hard-working people to move into an area. That means there have to be good jobs available. And Utah has been a terrific engine for job creation for many years now. In fact, in 2008, the Provo-Orem metro area ranked first in the nation for job growth, and the Salt Lake City metro are ranked third.
Unfortunately, I was not the first person to discover this particular Oz, and it seems that out-of-state investors have been pouring their money into Utah for years. The result has been a tremendous runup in Utah investment property values, from the early part of the decade to just recently. In fact, the average home price rose by nearly 13 percent from fall 2006 to fall 2007, a time when most other states were declining. In the first quarter of 2008, however, the number of sales declined and days on market went up. This is a sign that things are beginning to slow.
A forum poster mentioned that he was looking at Utah deals right now with a GRM of 15-16. GRM is the ratio between the price you pay for the property and the annual rents. Depending on your financing package, you will almost certainly need a GRM of 10 or less to be even cash flow neutral.
Why we can’t afford it right now
Let’s consider a hypothetical 3-unit property in the Provo-Orem area, which you can buy for $300,000. The annual rents are $20,000 (giving you a GRM of 15). You put $60,000 down and get a great 6.25% interest rate, giving you a monthly mortgage payment of $1,478. Your monthly rent is $1,667, which leaves you $189 per month to pay taxes, insurance, maintenance, and any other expenses you cover. And that’s not going to cover those bills – even if you are always fully rented (which won’t happen).
Therefore you will lose money on this property, even though you put 20% down and got a great rate, every year until you sell it or rents come up significantly. For rents to rise a lot, we would have to see significant wage inflation in Utah, and that’s not happening. In fact, unemployment is rising, though it is still lower than in other states.
Who should buy it?
Since you can’t get positive cash flow from that property as an out-of-stater, is there anyone who should consider it? There are two possibilities. One is a buyer who would owner-occupy one unit and rent the rest. This might be the only way he can buy right now, with prices as high as they are. The other is a speculator who is convinced that the average prices will continue to rise, and he’ll be able to sell in the short term – say, a year from now – and make a quick profit. And he might be right. We all know the danger of speculation is that you may be right and earn a tidy profit six years in a row, but lose all that money and more in the seventh year.
Now, none of this is to discredit Utah’s prospects for the long term. It continues to have one of the best business climates in the country with low taxes, reasonable laws, and an educated work force. It’s a lot more like south Florida – a great place with some growing pains – than Detroit or Buffalo, which have faltered for decades.
However, given the national economic troubles we are having and the current shakiness in the Utah market, I think Utah is at the same tipping point for prices that other states reached one or two years back. I expect this year’s $300,000 properties to sell for closer to $250,000 in a couple of years, so why buy now?