The wastefulness of the California home buyer tax credit coming to light

From this article:

Funding for the credit could be used up within three weeks, said Michael Tessaro, a Realtor with East Bay brokerage J. Rockcliff Realtors and a director with the California Association of Realtors.
...
The overlap window in May and June to take advantage of both the state and federal tax credit prompted many buyers to delay closing escrow until May so they also could apply for the state credit, Tessaro said.

Three clients decided to delay closing escrow on homes until this week so they could get both credits, said Faramarz Moeen-Ziai, a mortgage banker with the San Ramon-based Bank of Commerce Mortgage.

Even with very generous NAR assumptions of 18% of purchases being stimulated by the incentive the cost per sale will be ~$54,000. As you can see above the number of people were buying anyways and just lengthen the escrow of the house they were already purchasing to double dip on tax credits. It'd be really interesting if somebody commissioned a study and interviewed a sample of people who received the credit and see if they said that they wouldn't have purchased a home without the California credit. I am betting the number of people who claim this is true is much less than 18%.

I've spoken on the wastefulness of the tax credit before. Here and here (make sure you read the comments). Some excerpts:

It (the tax credit) only works if new demand is created not if it just goes to pay off existing demand. The size of the market is so huge relative to the tax credit that it literally a drop of water on a hot plate.. instantly boiled away in a flash of steam.

I think history will show the above bolded statement to be exactly correct.

The tax incentive will apply to 20,000 homes (200 million divided by 10,000 dollar). The CAR prediction for home sales for 2010 is 527,000 or 43,916 homes a month average. First time homebuyers are 47% of the market. So the tax incentive would go to slightly less than one months worth of first time home buyers (43,916 * .47 = 20,640). If I wanted to get the tax credit it would be extremely difficult to time a purchase and get. Escrows are lasting anywhere between 30-60 days if it's a relatively clean sale.. You have a 30 day window in which to close and (MAYBE!) get the credit. One lost piece of paperwork, one appraisal coming in low and needing re-ording, one thing wrong and you don't get the credit. If everything goes right you still aren't assured to get the credit since the money is limited and it is first come first served. There is a very long lag in the home purchase process, making the tax credit a crap shoot for purchasers.

What people are doing is that people who were buying anyways then just extended their escrow to close as soon as they were eligible for the credit. Anyone buying recently thinking they will get the credit is a fool.

The State could literally create more jobs by buying $200 million of new homes and then burning them to the ground. That plan would be MORE EFFICIENT than the one currently on the table, that is how bad this plan is.

I never went laid out the math in a discrete post but have put all the constituent parts on the blog and have no doubt the above is true.

This was truely a $200 million boondoggle that anyone with any bit of understanding of the market could see coming.

One last summary quote and a proposed alternative for creating demand in a less wasteful fashion if you just have $200 million burning a hole in your pocket from the previous posts:

The measure would largely just give money to people who were buying homes anyways. It would pull forward demand instead of create it.If the Governor just has to spend $200 million on housing, it would be much better used either funding the state housing agencies (CALHFA) for loans or making the credit much smaller ($1,000 - $2,000) or limit it to new homes like the previous credit to be less wasteful. I respect the very difficult choices that need to be made right now but this is really an easy one as far as economic benefit.

New details emerge for the California tax credit..

Jon Lansner over at the OC Register points out the new tax credit will be for First Time Home Buyers only. Does this change the math much on the wastefulness of this program?

First off, Does the market need stimulating? We must have massive supply of homes just sitting on the market needing to be sold.. Right? Well looking at the facts shows otherwise. From the latest CAR report here is California's months supply of inventory. Remember 6 months is considered a balanced market. Anything under 6 months is a sellers market.

4 months! This is not a market that needs stimulating. There is a tremendous amount of supply not on the market because the government is keeping it off the market. Until that supply reaches the market the market will be supply constrained and not in need of stimulating. It is completely the wrong time for the stimulus.

Now lets see how wasteful the stimulus is, here is the percentage of first time home buyers from last year:

The real question is how many new first time home buyers would buy with the stimulus. We can roughly estimate that by the national tax credit. From the NAR press release:

NAR estimates that about 1.8 to 2.0 million first-time buyers will take advantage of the $8,000 tax credit this year, with approximately 350,000 additional sales that would not have taken place without the credit.

So about 18% of sales were stimulated, some will argue they were just pulled forward instead of new sales created but we will leave that aside. That means each additional new sale costs taxpayers $54,340! Awfully expensive way of "stimulating" sales. The CBIA estimates that $16,000 is taken in for every new home sale purchased and that 3 new jobs are created per home. We can see that the number of new homes that will be purchased during the time frame will be about 3,000 but the number of new homes that wouldn't have been purchased anyways is only about 550. We can also see that the stimulus is a money loser not a money maker like the CBIA suggests :

Snow noted that because building a new home generates some $16,000 in state tax revenues alone, a new tax credit would more than pay for itself.

If anyone has trouble with the way I have come up with the numbers please email on the right hand side, I'm a bit rushed this morning and don't have time to lay it all out in the post. The numbers all come from industry sources and are contained in todays and yesterdays post on this topic.

The really important points to remember is that the market doesn't need stimulating and that the tax credit is an extremely expensive way of stimulating sales.

Why Arnold's proposed tax credit is extremely wasteful..

“Third, to stimulate other construction jobs, you will receive a proposal for homebuyer tax credits of up to $10,000 for the purchase of new or existing homes.” (Gov. Arnold Schwarzenegger, State of the State Speech, 1/6/10)

The new proposed tax credit is for $10,000 for a purchase of a new or existing home. $200 million is going to be set aside for this purpose. This means that 20,000 buyers would be getting the credit. To put this in context there is going to about 540,000 sales this year, or average 45,000 sales a month. Less than one half of one month sales would get the credit. It would literally be a free for all to try and rush to get the credit. I could see many people wanting and expecting to get the credit not get it because it would run out instantly. Now this would fit in fine with the governments goal to encourage sales but if you bought a home expecting (or NEEDING) to get the credit and didn't get it.. that is a very bad thing. Also it would move sales forward into a very small slice of time and I could see many escrows being cancelled once the credit runs out.

For its main point of stimulating construction jobs it would fail miserably. By far the most jobs are created through new home construction. New home sales averaged 3,000 homes a month in 2008. So a half of month of sales would mean 1,500 new homes would be purchased. It would imperceptible in the jobs data to see the "improvement" caused by these sales. This would be a $200 million boondoggle, an extremely expensive way of gaining very few jobs in a cash strapped state. I hope the Governor realizes that and saves the money for education or medical. I believe the Governor had his brokers license (he saved the "loop hole" for four year degree people to get a brokers license last year) at one time and so would naturally be pro-housing.. but this is a very poorly designed measure.

The measure would largely just give money to people who were buying homes anyways. It would pull forward demand instead of create it.

If the Governor just has to spend $200 million on housing, it would be much better used either funding the state housing agencies (CALHFA) for loans or making the credit much smaller ($1,000 - $2,000) or limit it to new homes like the previous credit to be less wasteful. I respect the very difficult choices that need to be made right now but this is really an easy one as far as economic benefit.

Here is the statistics showing the stimulus would be far too small relative to the size of the market.


Here is the new homes data.