Affordable Housing Investment Pros And Cons

Investing in real estate has a lot of appeal. It’s a good way to establish a regular rental income and can have a big payoff when you decide to sell.

An affordable housing investment is a way to get into real estate and provide housing opportunities for your community. If you’re interested in investing with a social justice angle or you’re investigating social entrepreneurship career opportunities through affordable housing, you’ve come to the right place.

Keep reading to learn what an affordable housing investment is, different ways to pursue this type of investing and downsides to look out for.

You don’t need to buy a multiunit building if you want to start investing in low-income housing. Affordable housing investment can be a part of your investment portfolio. Here are a few types of investors that can be involved in this opportunity:

• Builders/Developers: Many government incentives are geared toward building/developing affordable housing. Builders and developers can take advantage of these incentives and sell the property to other investors.
• Passive Investors: If you have some money to invest, you can choose to invest in real estate investment trusts (REITs) that manage low-income housing.
• Landlords: If you already own a rental property, consider accepting Section 8 vouchers to help future tenants afford to live in your property.

But what exactly is "affordable housing" and why is it a good idea to start investing in it? More importantly, how can you do it? That's what we'll tackle in the rest of this guide.

The U.S. Department of Housing and Urban Development (HUD) defines affordable housing as “housing on which the occupant is paying no more than 30 percent of gross income for housing costs, including utilities.” There’s a difference between HUD’s definition of affordable housing and general housing affordability, which does not have a strict definition and is instead based on how much house you can personally afford to buy based on your income, cash flow and other factors.

Affordable housing is also called low-income, subsidized or public housing. Affordable housing properties are in high demand, especially in areas where housing costs have risen but incomes haven’t kept up.

There are families who need affordable housing all over the country. From cities to towns to rural areas, there’s a shortage of places for people with lower income, seniors and people with disabilities.

When determining eligibility based on income, HUD uses a measurement called AMI – area median household income. AMI is determined by taking all household incomes in the area and calculating the midpoint.

According to a 2022 report from the National Low Income Housing Coalition (NLIHC), 11 million renters with AMI below 30% account for a quarter of all renters. These renters are more likely than other renters to be seniors or people with disabilities, at a rate of 49%.

There is a shortage of 7.3 million affordable rental homes for these 11 million extremely low-income renters. So, two in every three renters in this income bracket are out of luck. That’s without accounting for America's homeless population of over half a million.

This is where affordable housing investment comes in.

What Is Affordable Housing For Low-Income Households?

Access to HUD’s affordable housing programs is based primarily on income levels in relation to the area the property is in. Along with income, an individual’s age or physical disability can also qualify them for housing assistance. HUD uses AMI to help determine the eligibility for affordable housing.

HUD takes the AMI and breaks out income levels into categories. Let’s say an area’s AMI for a one-person household is $60,000. Here’s how HUD would categorize with this AMI:

• Extremely low income = below 30% of AMI (less than $18,000)
• Very Low Income = below 50% of AMI (less than $30,000)
• Low Income = below 80% of AMI (less than $48,000)
• Moderate Income = between 80% and 120% of AMI ($48,000 – $72,000)

To find your area’s median income, you can use HUD’s income finder or Fannie Mae’s more user-friendly map.

If you’re interested in learning how to become an affordable housing developer and you’re not super experienced, it’s best to start small. Take what you’ve learned from one property or situation and apply it to your next affordable housing projects.

If you’re already in the developing business, there are still a few things you can learn that apply to affordable homes. Here are a couple of tips to get started, whether you’re a new developer or a seasoned pro in commercial real estate.

Buy Cheap Properties

The best way to begin is to find bargain properties in areas that have a lot of need. Searching HUD homes, HomePath homes and foreclosures are great places to start the search.

Work with a real estate agent or REALTOR^® who is familiar with the area and the local housing market. They can be great sources of information to find bargain properties that are good candidates for renovation.

Expect that these cheap properties will need repairs. If you’re an experienced developer, you probably already know this, but it’s essential to have contacts you can call to inspect the property as well as make the necessary repairs.

Make sure to calculate if the purchase price plus repair costs is worth the investment. By starting with a cheap property, you can dip your toe into developing low-income housing while taking on less risk.

Learn About LIHTC, Section 8 And HAP

You need to familiarize yourself with different government incentives for affordable housing and its development. Section 8 is the HUD voucher program that subsidizes the monthly rent for low-income renters.

If you’re a nonprofit developer, you should also be aware of Section 202 and Section 811. Section 202 provides an interest-free capital advance (or loan) to developers building affordable rental housing for the elderly. Section 811 provides an interest-free advance, as well as operating subsidies, to developers of affordable housing for those with disabilities.

Developers should also be aware of the Low-Income Housing Tax Credit (LIHTC). This tax credit program subsidizes the development of affordable rental properties. Many property types are eligible, and further eligibility requirements are determined by the income levels of the tenants.

Another good call is to check with the state and local governments. These agencies may have additional incentives or resources to encourage affordable housing development. You may also make connections on a community or local level to help sponsor the build.

Passive real estate investment involves making a financial investment in properties without taking on the responsibility of actually managing them. This type of passive investment usually involves investing in publicly traded REITs, through crowdfunding opportunities or investing in real estate mutual funds.

Social purpose REITs are a great way to start passively investing in affordable housing. Sign up for a brokerage account and do some research to find a REIT or mutual fund that suits your interests and overall investment strategy.

There are many misconceptions about investing in affordable housing. Some people may associate affordable housing with low-quality tenants and lower profits. However, these aspects can be true for any real estate investment.

If you do your due diligence and invest wisely, there are many upsides to investing in affordable housing.

Profitability

The need for affordable housing is prevalent. Buying, renovating and then renting affordable housing has a chance to turn a profit. Like any real estate investment, you need to know how much you’re investing and what your margin is. That margin may make renovating an old property more practical than building one from the ground up.

When accepting Section 8 vouchers, you need to run the math on how much you can charge. These rental vouchers cover a percentage of a tenant’s rent depending on AMI. There may be a potential cap rate on affordable housing investments.

Recession Proof

Demand for affordable housing exists in both hot and cold real estate markets and that demand can exist in a variety of areas. While luxury housing may seem like a more appealing investment to some, it’s more susceptible to market shifts. If there’s an economic downturn, the demand for affordable housing may increase, while demand for luxury housing can plummet.

Government-Backed

Affordable housing is backed by the government, which removes a lot of risk. Section 8 vouchers mean the government makes direct payments to the landlord. If a tenant loses their job, these payments will still be made to the landlord.

When it comes to affordable housing, investors need to make special considerations. A little research and preparation can go a long way.

Costly To Build

For developers concerned about how to build affordable housing on a budget, it's important to recognize the steep cost. It can be almost as costly to build new affordable housing as it is to build housing geared toward middle-income wage earners. It may be a better business decision to renovate an existing property than to deal with high construction costs or high interest rates on construction loans.

Zoning Restrictions

In many communities, zoning laws and regulations can make it difficult to build affordable housing. Many affordable housing units are in larger, multiunit buildings. Regulations around lot size and square footage can be difficult for builders to overcome and may make lenders more hesitant to dole out funds.

Management Issues

Affordable housing adds another layer of management in the form of government bureaucracy. This can make things take longer, whether it’s applying for funding or seeking new tenants.

The income per unit is reduced for affordable housing, which means repairs take up a larger percentage of profits. Most successful low-income housing landlords manage their own properties to cut down on property management fees and repairs.

If you’ve spent much time in the affordable housing investment space, chances are you’ve heard about opportunity zones. Opportunity zones allow investors who’ve experienced huge capital gains elsewhere to invest in properties to avoid paying the capital gains tax.

Opportunity zones were created to encourage long-term private investment in economically distressed areas. After 10 years, the investor enjoys a permanent exclusion from taxable income for the capital gains invested in an opportunity zone or opportunity fund.

Whether you’re a builder, landlord or passive investor, affordable housing provides an opportunity to invest in real estate with steady demand. Special considerations may need to be made for builders and landlords, but there are also many benefits associated with an affordable housing investment.

Ready to begin your journey into affordable housing investments? Start the approval process today with Rocket Mortgage^®.