Sun sets on McMansions

Sun sets on McMansions

How economics of building larger homes have changed

By Steve Bergsman, Friday, January 21, 2011

The ongoing recession has done the country one good turn. It has -- at least for the time being -- killed off the McMansion Era.
The decade that brought us those monstrous homes of little architectural distinction in far-flung suburbs had surprisingly begun to unwind as early as 2006, but it took a five-year run of collapsing home prices and rampant foreclosures to kill it off. Maybe not forever, but at least for the time being.
"The median-sized home being built today is smaller," reported Paul Bishop, vice president of research for the National Association of Realtors. "And our survey of homebuyers indicates that as well. People buying new homes today tend to purchase slightly smaller homes than homebuyers of even a few years ago."
NAR's research gets empirical backing from the American Institute of Architects, which does a quarterly survey of home-design trends. One of the questions in its survey is: "Are the homes you are working on in your area getting bigger, smaller, about the same?" Every year since the AIA first added this question to its survey in 2005, a higher share of architects noted homes were getting smaller.
In the 2010 survey, almost 60 percent of the respondents said homes were getting smaller, while the rest reported home sizes were about the same. Virtually none of the responses indicated homes were getting larger.
There were a number of reasons for the McMansion phenomenon, the most apparent being so much cheap money was available.

Why wouldn't an ambitious homebuyer shoot for a bigger home, since the down payment was miniscule in comparison to price and the bank would just as well lend on the bigger home as it would on a smaller one?
Secondly, homes were appreciating so quickly that it was worth the gamble to buy bigger because the appreciation was also amplified.
A close friend of mine got suckered into this play. He and his wife moved into a house not far from where I lived. They stayed there for about five years and then sold, catching a handsome appreciation. The next house was bigger and further out in the suburbs.
They lived in that location for five years, then sold it, catching another big chunk of appreciated value. With their earnings, they bought a huge home in a new development very far out in the suburbs. That's where their luck ran out. The recession hit and the home lost 50 percent of its value.
It wasn't just the consumer pushing for bigger homes. Developers were equally to blame.
"Back in the housing boom, from 2003 through 2006, the way builders were justifying land prices was to build very big homes," explained Steve Cameron, president and founder of Foremost Communities Inc. in Irvine, Calif. "Builders could justify paying high prices for land by doing a pro forma for bigger houses."
Cameron should know what he's talking about -- his company had been in the home development biz but it's now a land development and investment company.
"Homebuyers, because the mortgage money was so easy, were saying, 'Geez, why not buy a five- or six-bedroom home even though we don't need it.' It was all kind of nice when it worked."
That's coming to an end because many homebuyers can't qualify for those big mortgages these days, and everyone is looking for what they need as opposed to purchasing their fantasy abode.
Going forward, homebuyers' aspirational desires will adhere more closely to economic realities.
"The economics of building a McMansion (have) changed," said Bishop. "Things like land values and cost of construction relative to what consumers are willing to pay at this point are out of sync. You have to finance the purchase of a home, even a McMansion, and that runs into the difficulties of getting a jumbo mortgage."
The impact of home-value appreciation has been negated by the downturn. Not only have home prices depreciated, but no one believes aggressive appreciation will return to the housing market for at least 10 years, if not longer. That makes the economics of owning a big house formidable.
The cost of furnishing a bigger house, heating and cooling the structure, and even the commutation between it and the place of employment was always imposing, but now there is no longer the appreciation factor that in the past made the situational sacrifice worth it.
"Homeowners feel the days of appreciation are not coming back so they are not going to be purchasing homes just for the sake of investing," said Kermit Baker, chief economist with the American Institute of Architects and a senior research fellow at Harvard University's Joint Center for Housing Studies.
"Homebuyers are purchasing because of how they intend to use the home, on the basis of what they need. They are treating their home more like typical consumer goods rather than investment goods."
Baker added that consumers don't need McMansion-type space, as "they can't afford to heat and cool the space, and given higher energy costs, why bother trying?"
It should be noted, historically, every time there has been a recession, home sizes tended to level off or even scale back. Also, today's numbers are influenced by the higher percentage of first-time buyers, who tend to purchase smaller homes.
"Some 40 percent to 50 percent of home sales are going to first-time buyers," said Bishop. "It's a different market than when the share of homes sold to first-time buyers had fallen to the 30 percent range."
That means there were a lot more trade ups, such as with my friends, than there are now.
Has the trend line to bigger homes has abated for good, or when this cycle turns, will homebuyers go on another McMansion binge?
"The shift to smaller homes could be long term," Baker suggested. "If you look back at what really caused the increase in home size, I'm guessing we're not going to see those factors again."