Because of the low inventory of existing properties and lower price points of new builds, we are seeing a significant shift in interest toward newly built properties. Between quarter three last year and quarter one this year, about a fourth of our clients started making plays in this area.
Buying a new build vs existing inventory has some key differences that each come with their own pros and cons. I’ll walk you through the types of new builds, the buying process, and what you’ll need to keep in mind as you consider your options.
- Listen to the podcast “#291: Investing in New Build Townhomes in Denver: the Pros and Cons” on the Denver Real Estate Investing Podcast
- Watch the YouTube video (at the bottom.)
- Read the blog post. Note, the blog is an executive summary. Get the in-depth breakdown from the podcast or video.
What are the types of new builds?
There are two main types of new builds that are each marketed differently. The first is the larger, planned communities that are marketed when they’re still just lots. There is usually a 12 month timeframe between signing a contract and getting a finished house. The other type is newly constructed homes that are marketed between 30-60 days before completion. Closing on these homes is a lot faster than the planned communities.
What’s a waitlist?
It’s common for new builds to have waitlists when the properties are in development but the builder hasn’t figured out pricing yet. The buyer will decide on a lot and pay the builder a refundable deposit for the right of first refusal. This means that when the developer has decided on their pricing, they will call that buyer first and tell them what the price will be. When this happens, the buyer will have around 48 hours to decide if they want the property at that price or not. They are not locked in to the property at that point and can walk away with their deposit.
At the end of last year, there was a bottleneck of finished products coming onto the market all at once. Because of the various COVID-related delays, these properties were on hold and then all finished around the same time. They were quickly scooped up, so now our clients are mostly looking at undeveloped lots and putting their names on waitlists.
What are the differences in pricing and costs between new build townhomes and existing inventory?
The competition for existing inventory is fierce, and often sellers will get multiple offers on one property. Buyers end up paying over list price because of these bidding wars. In contrast, the demand for new build townhomes is lower, and developers don’t usually try to bid up the price. Buyers can expect to go under contract at the list price on these properties. As the price for materials increases, new build home prices are also going up and competition is increasing, but not at the same level as existing inventory.
Because the new builds aren’t finished products, buyers need to be aware of what’s included in the list price. Often, the advertised price is just the shell of the home, and once buyers go into the design center and pick out finishes, they find that most things are considered an upgrade. Buyers can end up paying anywhere from 5-20% more than the base price with these upcharges. Before going under contract, agents need to make sure they know what the list price includes and how much their clients can expect to pay for counters, cabinets, floors, etc. Some builders want this money paid upfront, while others will wrap it into the overall financing.
Finishes are selected by the buyer in one of two ways: either each finish is individually picked out by the buyer, or the builder will present different packages from which to choose. Our investors are not the typical buyer, and it’s important to keep that in mind when picking out finishes. I recommend that buyers bring their agent with them to the design center so the agents can help their buyers navigate the best choices for a rental property. Remember that rentals will have more wear and tear, so it’s important to choose durable finishes. Also, trends will come and go, so the more timeless finishes that are chosen in the beginning means less money to spend updating the property when it’s time to sell. One strategy is to work backwards by deciding ahead of time how much capital to outlay on finishes and make choices within that budget.
Once the client closes on the house, they are getting a brand new product that no one else has lived in before. These properties usually come with a one year bumper to bumper home warranty that can often be extended. Right before the end of the first year, owners should make a list of anything they need to be fixed while it’s still covered by a warranty. Generally, the maintenance cost on these homes is much lower for the first five years than, say, a typical single family ranch built in the 1940s.
Brand new products like these new build homes are demanding a premium rent. Because the homes are modern and have updated floor plans and finishes, they’re being sought out by young professionals. Many of these homes have multiple bedrooms with attached, private bathrooms, which is attractive to prospective renters. A lot of these homes are being built in high walkability trendy areas that renters want to live in. Because of these factors, new builds are good investments for house hackers or Nomaders.
Depending on the builder, it may be possible to work with them to add in features that better accommodate renters. Bigger nationwide developers are less flexible, but smaller local ones will sometimes work with buyers to add in a kitchenette or extra door or wall for a cost as a customer service benefit. These changes would happen after closing because developers have to build exactly what’s in the plan already approved by the city.
What’s different about the inspection process and contract for new builds?
New builds require inspections just like resale properties, but the process is slightly different. There can be multiple inspections depending on what stage of construction the property is in when the buyer goes under contract. If the home is 60 days out from completion, for example, there will be a regular inspection. Right before closing, the client and agent will do a blue tape inspection in which they walk through the property and apply blue painter’s tape to anything that needs to be fixed, such as dings in paint and flooring or unleveled cabinets. This process ensures that when the buyer is at closing, they are happy to pay a premium for a brand new product.
There are significant differences between the standard contract used in a resale home and the builder’s contract used for a new build property. In Colorado, standard contracts are written to heavily favor the buyer, giving them multiple outs throughout the process without giving up their earnest money. Conversely, builder’s contracts will vary as they are written by the specific builder of a property, but they generally favor the builder. Typically, the earnest money is anywhere from $10-35K and goes hard the day the contract is signed, making that money nonrefundable. In addition, most builders require a deposit on any upgrades chosen by the buyer, usually between 25-50% of the cost. While this may seem unfair to the buyer, the builder is customizing the home to a specific buyer’s taste, which may not be widely marketable. If the buyer were to back out of the contract without these provisions, the builder could be stuck with a product for which they could not recoup their costs. This setup ensures that both the builder and the buyer have some skin in the game. I am happy to connect prospective buyers with real estate attorneys who can go over the nuances of these contracts.
What are the effects of a longer closing time?
Because contracts for new builds are signed far in advance of the product’s completion, there’s a much larger gap between signing the contract and closing. For standard resale homes, closing typically occurs 30 days after a contract is signed. During that time, the buyer meets with the lender to go over their financing options and lock in their interest rate. Lenders cannot lock in interest rates until a buyer is 60 days out from closing, which creates an unknown for a new build buyer who is often signing a contract far in advance of closing. Once we start to get close to the closing date, I am in constant communication with the builder and the lender to make sure we have a realistic completion date so the buyer can lock in their interest rate. This communication is vital because if the closing date gets pushed out, the buyer has to pay out additional funds to keep that rate locked.
What are some investment strategies?
An advantage of getting into a development early is being gifted appreciation by the time the development is complete. One of my clients bought a new build for $500K that was selling for $50-$60K more during the final phase of construction. While the downside is living through that construction, many buyers find it worth it to have so much appreciation in such a short time.
For financing options, I recommend buyers look into a Bank of America grant program I’ve talked about several times before on the podcast. This program will give buyers $10K toward a down payment and $7.5K toward closing costs. To qualify, buyers need to make less than $150K a year and have a good credit score. The program is location driven and focused on low and moderate income track areas. Many of my clients have had success using this program and the extra $17.5K allowed them to buy a more expensive home than expected for the same amount of money they intended to spend.
In the current market, new build homes are a smart investment. Our agents have a solid infrastructure in place to share communication on the new builds in the area, ensuring our clients can find the right property for them.