A middle-of-the-road home in metro Denver now costs more than five times the median household income, a new record.
To put that in perspective, a median-priced home in metro Denver back in 1960 and 1970 went for a little more than two-times the typical household income, during an era when many more households survived on a single income, according to an analysis from Clever Real Estate.
Even as late as 1990, the ratio was at 2.59, below the 2.6 ratio that Eylul Tekin, a researcher with Clever Real Estate, recommends buyers don’t cross if they can avoid it. The U.S. ratio is at 3.6.
Denver’s fast transformation from mostly affordable to high-priced is one of the most remarkable the country has seen this decade, said Jeff Tucker, an economist with Zillow.
New York, San Francisco and Los Angeles have long seen home prices untethered from what residents make. Their price-to-income ratios are now above eight. Denver, by contrast, has found a way to become expensive in a short seven years.
Back in 2007, metro Denver home prices were comparable to Minneapolis at around $240,000, according to Zillow. Denver is now at $408,000, while Minneapolis remains around $272,000, Tucker said.
“Denver is now 50 percent more expensive than Minneapolis. It’s mystifying,” he said.
Another way to look at affordability is how much the mortgage payment consumes of an owner’s income. By that measure, households buying the median-priced home are spending 31 percent of their income on the mortgage in Denver, just above the 30 percent level where housing costs are considered a burden, said Ryan Gilbert, director of equity research with BTIG Research.
Mortgage rates have dropped so much that the debt-to-income burden is lower now than it was at the height of the housing bubble last decade in almost every city.
But not in Denver, which is one of the few places where the payment burden has crossed back above its old highs, said Gilbert.
“A lot of that is being driven by the strong home price appreciation. It indicates a lack of supply relative to population,” he said. “There is so much employment growth that supply hasn’t kept up with demand.”
Buyers earning the median household income, which Zillow puts at $80,000, can still get into a median-priced home in metro Denver, Tucker said. Assuming a 30-year mortgage rate of 4 percent, buyers could do that if they put 20 percent down, or $81,600 at Zillow’s median price.
But a higher price-to-income ratio can leave a housing market at greater risk. A favorable scenario is that home prices stabilize, mortgage rates hold low and steady, and incomes catch up over time. An unfavorable scenario involves a sharp rise in interest rates or a drop in incomes.
When mortgage rates approached 5 percent late last year, home sales in metro Denver started to decline, as did the rate of home price appreciation. In February, the median price of a home sold in metro Denver showed its first year-over-year drop in seven years, which quickly reversed once interest rates dropped again.
“The concern is that price-to-income ratios will become so high that the median resident can’t afford the median home price any longer and demand will begin to decline,” Tekin said.
Decreasing affordability also means a smaller share of households can buy a home, pushing down the homeownership rate, she said. People will have to rent longer, save more for a down payment, and stretch financially if they do buy. Or they will have to move to places where they can afford to buy.
What happened to affordability?
There’s a long list of why builders can’t supply homes at two or even three times median household incomes in metro Denver anymore. Lots to build on have become more expensive. Skilled labor is in short supply, driving up prices. Regulations and fees imposed by local governments have become more burdensome.
And when it comes to home construction, not much has changed since 1960 and 1970. Building a home remains one of the most labor-intensive activities around.
“One challenge is labor productivity. When you look at manufacturing and agriculture and even office technology, there have been some significant advances in technology that have led to higher labor productivity,” said Frank Nothaft, chief economist with CoreLogic.
Back in 1920, about 25 percent of the U.S. population lived on farms. Now 2 percent of the population can feed the country, with plenty left over to sell around the globe.
Residential construction has gone the other way, Tucker notes, with fewer homes built per worker now than last decade. And overall, the industry is simply failing to make enough homes to meet population growth in places like Denver and Seattle.
Another important but less appreciated reason as to why the affordability ratio has risen is that builders are producing much larger homes.
Back in 1950, the typical home built in the U.S. was around 950 square feet. Today, it is closer to 2,500 square feet, said David Gregg, founder of Mission Homes Colorado in Berthoud. Even though the average household size has shrunk by one person since 1950, consumers want homes with nearly three times as much space.
That’s where Gregg, a licensed architect, thinks he can make a difference.
To get the price-to-income ratio back to a more manageable level, he argues builders need to create homes similar in size to what they did in the first half of the last century, on smaller lots located on lower-cost land.
“What was considered a normal size then isn’t being built now,” he said.
The floor plans at Mission Homes range from 900 square feet to 1,200 square feet, on lots half the standard size.
RELATED: Amazon and Realogy join forces to win over home buyers in metro Denver
Gregg also convinced the town of Bethoud, where he served a stint as mayor, to move away from a one size fits all approach to development fees. In some communities, like Erie, fees can gobble $50,000 to $60,000 of a home’s cost, regardless of square footage. That makes building anything affordable a non-starter, he said.
“I demonstrated that if they charge me the same fee as the big family home with more people in it, I am subsidizing that larger family home,” Gregg said. “By having a high-fee rate structure, you are pushing the builder to build a larger, more expensive product.”
Berthoud officials, acknowledging the smaller design aligned with the goal of having more affordable housing, shaved $10,000 or about a third off its normal development fees for the smaller homes.
The plans are both space and energy-efficient, and the homes are built in batches to save on construction costs. The finishes are basic and upgrades limited, which also helps to keep costs down.
Combine all that, and Mission Homes has a starting price for a single-family home in the mid-$200,000 range, even with Gregg and his wife directing 25 percent of their profits to local and international charities.
Gregg admits that what he is doing isn’t anything new. The first neighborhoods from Castle Rock to Fort Collins are filled with small cottages on 25-foot wide lots. What has changed is that a new generation of buyers is interested in that kind of home again.
“We are capturing the buyers we hoped to capture,” he said. “For some people, it is a purposeful downsizing decision, for others, it is what they can afford.”
Of the first five closings, four involved young couples and one a single woman. Half of the first 10 residents are school teachers. A recent study from Trulia estimated that only one in 20 homes in metro Denver were affordable to someone employed as a teacher.
Is the market about to pivot?
Faced with more limited resources following the housing crash, builders focused largely on the move-up buyer and the luxury home buyer, who could provide a higher profit margin.
But that focus on more expensive homes for more well-heeled households may have played out.
“Generally, over the past year or so builders have been trying to pivot to more affordable housing. That’s where demand has been strong,” Gilbert said.
Related Articles
-
McMillin: Why Denver’s tiny home village dream can’t be dismissed as just another fad gone bad
-
Vail housing proposal spotlights growing threat to Rocky Mountain bighorn sheep habitat
-
“There’s speculators buying up houses:” Denver’s East Colfax braces for transit, density and displacement
-
Only 1 in 20 houses in Denver is affordable for teachers, study finds
-
Colorado commission addresses affordable housing by extending incentives to manufacturer of modular homes
Gilbert notes that in recent months the share of their mix of new homes built for the entry-level buyer has averaged in the 25 percent to 30 percent range. In June, it shot above 50 percent. It will take a few more months to see if that surge was an anomaly, which he thinks it might be.
But a shift is underway, one that has builders returning to their historical focus on the first-time buyer.
“We feel like the entry-level market is being driven by millennials hitting their mid-30s,” he said.
To accommodate them, builders are dropping the size of their products from 2,500 square feet to under 2,000 square feet and adding more townhomes. All that helps lower the cost.
But he questions if the market is ready for a single-family home as small as 1,200 square feet, like what Gregg is proposing.
“What we have seen in Denver and most markets across the country, if you can build an affordable entry-level house, demand is very strong,” he said.
Yet, there is also a concern that the pivot may have come too late in an economic expansion that entered record territory this month. Builders are finally giving millennials the attention they have craved, just when the economy looks ready to slow.
Journalism doesn’t grow on trees. Please support The Denver Post.
Become a subscriber for only 99 cents for the first month.
