This post is meant to be a companion piece to Guy’s Price Per Square Foot – The New Metric post. I’ve been meaning to write about the cost of development for a long time, and Guy presented a good intro to get this up for discussion.
In the end, development is all about the value of the land, not the cost to build and sell a house. Constructions costs are reasonably static, as are the costs of the fees and entitlements required to get the land ready for construction. So the equation is Price Market Will Bear = Land Costs + Lot Improvement Costs + Home Construction Costs, and the "x" in the equation is the raw land cost. The best technical article I have seen about this was Land Value 101 over at the Irvine Housing Blog. (A great, snarky blog – check it out). With the declining price of what the Reno real estate market will bear (ironic term), and the relatively fixed nature of development costs, land has become "free" or even negative in value.
A developer rule of thumb – the cost of a finished lot (all utilities on-site, pad graded, parcel map recorded, ready to build) can be about 30% of the sale price of the completed home. Back in 2003 (2005 completed projects), the big developers were paying in the $30,000 range for raw lots (approved for development, but without roads, grading or utilities). By 2005 and 2006, choice raw land for development was going for $60,000 – $70,000 per raw lot.
So what does it take to get from a raw lot to a finished lot with an APN ready to build? You have to build or bond for streets, utilities, and permits. There a TONS of consultant fees along the way, and agency fees that will knock your socks off. Water rights need to be purchased and dedicated (in Reno, water rights are required at the construction permit phase, not at the parcel map phase. That is a HUGE thing to know).
I am a battered veteran of the process. I own the south side of Mayberry from Canyon to Plateau – over .9 miles of frontage, 5′ wide in places – and went through the parcel map process. Officially the land is in Washoe’s jurisdiction, but Reno maintains Mayberry and Reno Fire Department serves the area. My hard and soft costs to subdivide 1 parcel into 3 new parcels, generally finished and ready for construction ran to over $75,000 per lot beyond the cost of the land. It took 11 permits and/or approvals to get the work done to create the finished lots. And I went the simple route using the existing zoning and land use, stayed under 5 lots to avoid "subdivision" and stay under the neighborhood notification radar (they found out anyway). My project was short on roadway improvements, but incurred huge costs working within existing streets. Probably about a wash with new development. For discussion’s sake, it takes about $75,000 per lot to get a raw lot into a build-able lot in these times. The big guys will get a certain economy of scale, but TMWA and the Department of Water Resources requirements stay the same.
So can anyone build a median priced home on a lot that costs over $75,000 to finish after land cost? Not a chance. And this is where solving the equation for raw land cost comes back into play. The land value is the "x" that needs to reset. For a $225,000 median home, the finished lot cost needs to be below $70,000. For the developers in the process, land values have actually turned negative.
A couple of example. Lennar was selling off finished lots on Opal Station for $85,000 asking a while back. These were 1 acre lots, not the 9000 SF lots like the rest of the development (lot matching when you adjoin existing homes is another fun story, and is killing any infill development – a rant for another time). Tasha Court is a bank owned development just above SaveMart of McCarran in the NW. Lots are now selling for $59,000. That is way below the development cost BEFORE the cost of the raw land. Lennar unloaded the entire Butler Ranch project to a hedge fund for far below their original land purchase price, writing off their improvement costs to date.
Sorry if this post is a bit tough to follow – it is a mash-up of several tangents I’ve meant to post about for some time. It may be over genearalized, but I hope it at least sheds a little light on development costs and what they are doing to land values. If you are interested in more details about my development costs on Mayberry Canyon, either log a comment or contact me directly – my email is listed on the bottom of every page on this blog. Paul, feel free to tee off on this one – I know you have had a much rougher experience through the process than I have, Any if anyone wants to make an offer on 4305 Canyon, let me know! Friends and Family discounts may apply.
BanteringBear
“My hard and soft costs to subdivide 1 parcel into 3 new parcels, generally finished and ready for construction ran to over $75,000 per lot beyond the cost of the land…For discussion’s sake, it takes about $75,000 per lot to get a raw lot into a build-able lot in these times.”
Would you please itemize each individual cost rather than having us just take your word for it? It’s not that I don’t believe you, but your figures are quite high and I want to see where that money’s going.
BanteringBear
Your illustration of the high costs of developing land is but another example of why raw land should be dirt cheap, especially desert scrub in NV. When I see these dreamers with their $450k per acre lots for sale, I wonder if they’ve ever heard the word “economics”. Probably not. Perhaps they should familiarize themselves with another word. “Bankruptcy”.
KingBud
Yes, it would seem pretty logical and intuitive that raw land prices should decline with falling home prices, and by a greater percentage than the cost of construction.
So i guess those high-elevation 595K plots of land in Caughlin Ranch with the nice city views (at least that’s how they were priced last year) might have ended up being overvalued ?? 🙂
CommercialLender
But, Bantering Bear, those are ‘view lots’!!
Reno Ignoramus
Then there is the red barn, still on the market for $800,000, just down the road.
This listing has to be somewhere around 750 DOM at this point.
But gee, we can’t expect the sellers to just give it away.
CommercialLender
One thing land is effected by is local restrictions on growth and development. Who on here can give an overview of the current state of the populous and city – are people starting to voice ‘no growth’ ideas and is the city poised to change zoning and development regulations?
Sully
CL; currently the only big issue is water. Washoe County can handle 600,000 people according to the local stop growth group. I haven’t heard anymore on that issue lately, but then I quit reading the RGJ because the news was usually a week late.
If they do cap the growth at current levels, including already planned sub-divisions – then this area will eventually return to a norm.
If they continue to build like drunken sailors on shore leave after six months at sea, then all bets are off.
BanteringBear
Speaking of the $800k red barn, did anyone watch the video of the “seller” (I use that verrry loosely) as she tries to hawk this overpriced POS? It’s laughable! I highly recommend it to those who, like myself, are fascinated (or horrified) by delusional people such as this woman, who attach preposterous price tags to depreciating assets (though this is an asset of questionable value indeed).
Baked into her pie in the sky fantasy price, are:
“Extensive investments in preliminary planning…” which include:
Architectural Concept & Drawings: $115,000
Structural Plans: $25,000
Mechanical Plans $10,000
Electrical/Lighting Plans: $10,000
Survey: $4,000
Soils Report: $2,500
Septic prelim approval: $3,500
Fire Hydrant plans: $3,500
Landscape plans: $1,500
Presentation (including models, renderings, blueprinting) $4,000
Even more of a hoot is the fact that her own father is the architect. $115k for the “concept” and drawings? $10k for “electrical and lighting plans”, and another $10k for “mechanical plans”? WHAT?! This is brilliant. Some “lucky” person get’s to spend $800k for the “opportunity” to sink a boatload more money in order to see through somebody else’ hallucination. Why it’s a wonder a bidding war hasn’t erupted for such a remarkable project!
I’ve got an idea for these people: take your freaking fantastical vision and shove it where the sun don’t shine. Nobody wants to fund your lifestyle of greed and delusion.
Mike McGonagle
I spent about $82,000 per lot in improvement costs. There might be some advantages of scale for the larger developers. but their costs to finish a lot will be in lime with my costs.
Water $31,000 (water rights $21,000, supply and treatment fee $4000, storage facility fee $3000, meter and meter retrofit fees $2000, fees and permits $1000) AS typical 6000 SF developer lot would be about a third less.
Sewer $9000 (sewer connection fee $7000, Water Resources fees and permits $2000)
Roads $4000 Encroachment and Excavation fees (developers would have similar costs for new road installation)
Survey/Engineering $5000 (about $1500 was due to rework from the Planning Department – they changed their minds)
Construction $24,000 (driveway apron, sewer line and clean-out, water line to site, gas line to site, prorated fire hydrant)
using lot cost = 30% of project cost, I need to be able to sell the final house for $600,000 min. Ouch, so much for affordable infill housing.
For those of you that were wondering what’s in the development pipeline, http://www.nsbdc.org/what/data_statistics/gis/data_downloads/docs/summary_stats.pdf . Over 48,000 approved units in the pipeline and this report was prior to Spring Valley / Winnemucca Ranch. 15,000 more units slated for Spanish Springs!
longerwalk
BB posts: “I’ve got an idea for these people: take your freaking fantastical vision and shove it where the sun don’t shine. Nobody wants to fund your lifestyle of greed and delusion.”
Hmmm. Nobody said you have to buy it. And I submit that there are many community projects out there done with this kind of building that have turned out to be hidden jewels. I personally don’t have the kind of vision to pull it off, but there are folks out there that do, and I think it’s a good thing.
BanteringBear
Oh, don’t misunderstand me, longerwalk. I am ALL about vision, preservation, restoration- you name it. But, I’ve had it up to my eyeballs with the rapacious greed that drove this bubble, and this listing is yet another fine example. If it’s such an exemplary opportunity, then why aren’t they carrying forth themselves, hmmm? I smell greed.
Marla
I agree that it is rather basic that collapsing house prices are going to take raw land prices down with them. Is that a challenging concept?
When we soon arrive at a $200K median for a whole house, $200K empty lots are going to be a mostly tough sell. But maybe the rich Californians, or rich Koreans will buy them.
If the red barn is such a fine jewel, why has it been on the market for two years??
Future Buyer
This would explain why there are almost as many lots being foreclosed on as homes on Foreclosurepoint.com. It’s not worth it to build a house, and the builders are cutting their losses. The banks will probably let the land go for half on the price. There are tons of foreclosed lots in ArrowCreek.
longerwalk
“The banks will probably let the land go for half on the price.”
Yep. Happened back in the early-1980s (which, as you remember, was a bad time for the economy) in a development south of Albany, NY. Bank was tired of paying homeowners assoc. fees. Bought a nice lot on a manmade lake for song, held it for 5-6 years, sold it for twice the purchase price. Wish I’d bought more. 🙂
CommercialLender
I’ve always held the thought in the back of my brain that land is more speculative an investment, has fewer tax benes, qualifies for less debt, is not income producing, has governmental regulatory risks, often must sit for a decade before being improved, and that for these factors and more, land has a higher “beta” for lack of better term. (Beta is the relation to an investment’s price changes relative to the market’s price change).
If my assumption is correct, then you will see land ‘investors’ suffer on average greater downside swings than home ‘investors’, and the converse would be true.
In practice, every down cycle produces improved lot sales (homes, commercial) that truly trade at or below their ‘land value’, so its no stretch to see un-improved lots sell for dirt cheap, pardon the pun. And BB is right – who gives a flip what predevelopment costs are sunk into the land by the former spec-investor-now-seller, it just is not worth the price in today’s market.
So, dirt dealers, Mike included, must seriously discount the price or they must hold the land for the unforeseen next up cycle.
Diane Cohn
For the record, the barn was withdrawn from the MLS a couple of months ago. Soon the video will be removed, and thanks for the reminder to shut down the website.
Sean
Hi Diane,
You have been pretty quiet lately, are you down in the bay area now? did you sell your house? I hope you are doing well.
Sean