High Interest Rates Make New Home Construction Less Feasible

The city of San Jose just released a report titled “Residential Feasibility Analysis” that compares expected construction costs with the value of the construction. The report says the total estimated development costs have increased by approximately 12-13% over the last 18 months. Construction mortgage rates have doubled over the last 12 months and hover above 8.0%. The report analyzed the expected total construction costs of building multi-unit housing and compared it to the expected value of the completed project for housing built to be rented and housing built to be sold. For market-rate homes, the expected residual value per unit ranged from -$322,000 to -$614,000. The residual value is the expected sales price minus the total of the hard costs, soft costs, sales costs, and profit. With these strong negative residual values, a builder would not want to build.

Looking at the San Jose real estate market shows that weak sales prices are not the cause.

The average total development cost for a rental unit in San Jose was estimated to be $549,100 in 2019, $790,800 in 2022, and $890,600 in 2023. In “Attachment A – Cost of Development” the total cost of city permits and fees is estimated at $53,600 to $92,800 per unit.

With little likelihood of new construction increasing the supply of housing, it is hard to see a path for reduced home prices in a healthy economic environment.

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San Jose Real Estate Trends

San Jose house price per sq.ft.

The plot of both average and median quarterly San Jose house prices will generally alert you to unusually high or low prices by the separation between the average and median prices changing.

San Jose house sales price vs. list price

Changes in the San Jose real estate market typically create significant changes in the sales price to list price. The list price is set by looking at recent sales prices. The comparison shows how well sales prices follow expectations.