Land is the most politically charged real estate class. One of the main reasons for this is because land rights dictate the future uses of and character of an area. Many citizens and officials have very strong feelings about this! You have likely heard the uproar when a big-box retailer wants to build in a residential area! These are debates that happen on a daily basis throughout the U.S. For this reason and others that we will review, there are several risks to consider when investing in land.
To get started in this lesson, let’s review the land rights that you need to be concerned with before investing in the land. Land is the most politically charged real estate asset class, because land rights dictate the future uses and character for the area. The first land right is that Land Rights Foreshadow Future Growth, which means, land zoning and approvals that dictate the future character of an area are known and land use policy.
The second land right is that Land Use is Driven by Local Municipalities. Examples of wide-ranging land use policies include Berkley, CA and Boulder, CO. Both of these towns view land use as a civic function. On the flip-side, in Houston, TX there is no zoning and they view land use as a personal property right. This is essential to understand when learning how to value land correctly. We will discuss due diligence in the next lesson, but this is information that you need to know before investing.
The third land right is that Land Investors Pay More Attention to Local Politics. The local municipality views a need for the investor’s involvement in the following areas:
- Comprehensive plans
- Master plans
- Approval process
The fourth land right is that Land Use Issues Lead to Broader Demands on Local Infrastructure. Some of these demands include the following:
- Waste management
All real estate investment transactions have risks and land transactions are no different! There are three main categories of risk when it comes to land investment. The first is the Approval Risk. This risk is locally driven. Approvals are determined by a local municipality, such as a county, city, or town. This risk is the most politically charged when seeking approval for changed or new use. The value delta is the largest at this stage, and there is the most risk and reward for the investor. Several negative surprises are possible prior to use being approved. Because of the risk, land investment can be a great wealth creator, with possible investment returns of 2.00x to 6.00x. However, the financing is difficult and involves primarily equity structures.
The second risk is Development Risk. This risk comes from converting raw land into finished lots. The key issues here are engineering, dirt moving, drainage, cut and fill, and soil conditions. For such ready-to-develop investments, traditional bank and private finance company financing is available. Debt and equity capital tend to underwrite future improvements.
The third risk is Market Risk. This risk comes when the land or lots must be sold into the retail or wholesale markets. Risk factors include the overall U.S. economy, local supply and demand conditions, the availability of debt and equity capital (capital markets), and consumer psychology.
Land rights are an important aspect to understand before purchasing any land. Based on what you learned in Lesson 3, explain what zoning is, the different types of zoning, and the process for changing the zoning of the land.