Companies Spruce Up Neighborhoods, Putting Gentrification in Overdrive

By ROBBIE WHELAN

 

OAKLAND, Calif.—

On a recent weekday morning, a crew was busy sprucing up the exterior of Koonal Parmar’s one-story house in West Oakland. They trimmed trees, pressure-washed the wood siding and touched up his paint job.

Robbie Whelan / The Wall Street Journal

A worker hired by REO Homes power-washes Koonal Parmar’s house.

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Robbie Whelan / The Wall Street Journal

Mr. Parmar welcomes the changes in his neighborhood.

Mr. Parmar didn’t pay a dime for all this. The upgrades were compliments of REO Homes LLC, an investment firm that owns several houses on Mr. Parmar’s block. In addition to helping homeowners upgrade their homes, REO has mended fences and planted hundreds of trees along city streets.

“The neighborhood was badly in need of capital, to maintain, beautify and restore it,” said REO founder Neill Sullivan, while driving his hybrid sedan through the streets of West Oakland.

The company’s motives aren’t altruistic. They are part of a broader strategy designed to upgrade the neighborhood to attract higher-income residents who, in turn, will help boost properties’ values.

In past housing recoveries, investors purchased foreclosed homes and often tried to flip them for a quick profit. But investors with a different approach have plunged into the housing market this time. They have assembled billions of dollars to acquire homes and upgrade them. Their aim is to gentrify communities and profit later when rents and property values rise.

“We’re taking mostly vacant, abandoned and beat up housing stock, fixing it up and putting livable, quality housing on the market,” Mr. Sullivan said.

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The gentrification of low- and middle-income urban neighborhoods is nothing new. But economists and scholars say the current process is moving faster than in the past, which can be unsettling to people who lost their homes or who are being displaced by fast-rising rental rates and home prices.

“It can take generations for neighborhoods to change, but investors have the potential to accelerate the process, especially because they may have the cash on hand to purchase lots of homes at once, even in tight credit markets,” said Ingrid Gould Ellen, co-director of New York University’s Furman Center for Real Estate and Urban Policy.

These efforts aren’t occurring everywhere. In cities far away from vibrant employment centers or where crime and unemployment are high, vast tracts of housing remain abandoned. But in working-class communities in or near Washington, New York, Boston, Los Angeles and San Francisco—where employment is relatively strong and housing costs are high—big investors have become an active part of the housing market.

Virginia Tech professor Derek Hyra, who is writing a book about the gentrification of Washington’s historically black, largely low-income Shaw/U Street neighborhood, said while the gentrification process has been moving slowly for decades, it sped up in late 2009 and early 2010, due partially to rising foreclosures. “You see doggy day-cares popping up in the U Street area, which is sort of unbelievable,” Mr. Hyra said.

Real-estate firms say they need to spiff up neighborhoods to make their investments pay off. The MACK Cos., is a rental landlord that operates in the Chicago market and owns about 400 homes and manages about 1,400 homes owned by larger investment firms. Six months ago, it paid $165,000 for a house in Midlothian, Ill., near a country club, which sat on a street filled with potholes.

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Robbie Whelan / The Wall Street Journal

A worker renovates one of REO’s homes.

After local officials failed to repair the road, MACK decided to spend $20,000 to repave the block in front of the home, which is expected to rent for about $3,300 to $3,500 per month. Jim McClelland, MACK’s chief executive, said the company buys most of its homes, which are all bank-owned foreclosures, for around $50,000. It then spends an average of $43,000 on interior renovations for each house, and an average of $9,700 on exterior improvements, including grooming driveways and planting trees in medians on the street.

“If your play is for long-term appreciation, versus just flipping the houses, wouldn’t you want to improve the properties and make the area more desirable?” Mr. McClelland asked. “It creates a look of curb appeal. It’s good for business.”

Some veteran landlords disagree. “Renters can only afford to pay up to a certain amount. Spending extra money to not only improve the house, but also the neighborhood wouldn’t result in enough of a rent increase to be cost-justifiable,” said Michael Meyer, chairman of TwinRock Partners, a real-estate firm in Newport Beach, Calif., that owns roughly 250 single-family rental homes in Southern California and Las Vegas.

imageBecause homes prices are rising faster than rents, Mr. Meyer said he is only getting a 5% to 6% annual return on his most recent purchases. Spending more to improve the neighborhood wouldn’t be “economically viable,” he said.