Risky Neighborhood
Or Investor Paradise?

May 13, 2004 -- When David Ezell began looking for real estate in lower Manhattan in 2002, he wanted to find an affordable home with potential to appreciate. Mr. Ezell, an entrepreneur who sells rare books online, planned to put the bulk of his assets in his home and hoped it would show an investment payoff. He also was willing to become a pioneer in an area that he hoped would be the next New York City neighborhood to gentrify.

He reviewed bargain properties near the former World Trade Center, but post-Sept. 11 environmental concerns soon sent him east to Brooklyn, where he stumbled on a neighborhood known as Prospect Heights. Home to the Brooklyn Museum of Art, a major library and a park with botanical gardens, the area offered cultural attractions and public transportation. However, many of its older homes and buildings had fallen into disrepair over the years, and it had few restaurants or retail stores.

Mr. Ezell sensed that the distressed neighborhood was going to change. He saw a studio in a 1922 brick co-op listed for $97,000, then cut by $25,000 because the owners were in a rush to sell. Despite the neighborhood's lack of amenities, Mr. Ezell bought the unit in December 2002 as an affordable place to live while he completes a four-year graduate program in psychology. He expects his property's value to increase by 25% in the next four years.

Though Mr. Ezell says he just "got lucky," real-estate professionals say he showed good investment instincts in betting on Prospect Heights. A handful of indicators can help buyers determine whether a depressed-looking area is on the verge of a turnaround.

Mr. Ezell, for instance, knew the museum had planned a major renovation that would include a new entrance and outdoor plaza. Second, his new area has good access to mass transit. And third, the neighborhood sits at the edge of Park Slope, an increasingly affluent community of brownstone homes, shops and restaurants.

Additionally, a modern condominium is going up, and a restaurant developer just opened one of the neighborhood's only sit-down establishments, a nice departure from the area's typical cuisine: Chinese take-out. As a result of these factors, Mr. Ezell figured his own area nearby eventually would begin to improve.

All prospective buyers should evaluate the direction of mortgage rates, regional government regulations and local employment and economic trends before purchasing, says Neil Bender, a principal at Bellmarc Companies real-estate brokerage in New York City. But those looking at buying in a distressed area should study the neighborhood's "specific risks" -- crime, neighbors and local projects -- that could affect home values.

Additionally, buyers who view their primary residence as an investment should consider how long they plan to stay. Someone who plans to stay four years or less should take a different approach than someone who wants to remain five to eight years, says Mr. Bender.

For short-term investors, buying a fixer-upper in a posh district might make more sense than purchasing a property in a mildly distressed area. Even minor improvements such as painting and landscaping can significantly increase the value of a home that's located in a desirable area. The next buyer still will get a good deal, as well as a prime location.

In Southern California, for instance, price appreciation has been steep, averaging 20% to 25% per year in some communities, says Lesslie Giacobbi, a real-estate agent at Seven Gables Real Estate in Tustin, Calif. One family bought a home in October 2003 for $930,000, invested $300,000 in it, and resold it in May for $1.7 million, a profit of more than $400,000 in less than a year.

Those planning to stay four to eight years should examine where the neighborhood is located relative to up-market locales. Mr. Bender has two theories on how neighborhoods improve and gentrify: He calls them "expanding the coast" and "bridging the divide."

• "Expanding the coast" refers to what can happen in neighborhoods like Mr. Ezell's -- downtrodden zones next to a thriving area where retail and commercial amenities sit alongside well-maintained homes. "Developers like to push out neighborhoods that already have an existing vibrancy," Mr. Bender says. "Buyers should ask themselves, 'What's going on a block away?' "
• "Bridging the divide" refers to the improvement of a sketchy area sandwiched between two booming communities, perhaps a valley between high-end neighborhoods, or a section of a city between two gentrified communities. Homeowners and developers may eventually "fill in" the middle space.

Investor-buyers also should find out whether developers or institutions key to the area are starting new construction. For example, seven years ago, Chapman University, a private liberal-arts institution in Orange, Calif., had few graduate programs. But in recent years, it has received major funding for a film program on a nearby 10-acre site and is seeking accreditation for its law program, says Ms. Giacobbi, who has sold real estate in Orange County for 25 years. The funds have led to a larger enrollment and more property purchases in the area.

Ms. Giacobbi advises buyers to note where cities, counties and states are spending money to spur revitalization. As Chapman worked on its own plans, the city of Orange began restoring "The Plaza," its town center, located south of the campus. "When a city or state decides to invest in a community, that's a good time to get in," she says. And Mr. Bender notes that actual groundbreaking is significant -- it means a bank has backed the project.

Reading newspapers and attending public meetings can give prospective buyers a good sense of the direction of the local economy. An attentive reader will learn about nascent development years in advance and follow its progress as public meetings are held. "Some things are going to hit the papers, but not everyone will follow up on what the news means," Ms. Giacobbi says.

Mr. Bender also advises buyers to study an area's future plans, rather than a history of successes, when evaluating a purchase. While it's nice to know that home prices have been increasing, they can spike for any number of reasons. Planned development is a better indicator of future expansion than a history of growth.

Will You Be Happy There?

Lastly, consider the area's amenities and safety. Buyers who plan to establish a primary residence in a distressed area should ask themselves whether they can live with the neighborhood as is. Does it have adequate retail shopping? Do joggers feel safe on the streets at dawn?

Mr. Bender says he knows of certain areas of Washington, D.C., particularly near Capitol Hill, that have greatly appreciated in value but are still plagued by neighborhood crime, such as car break-ins and burglaries. Prospective buyers in such areas must decide if they can tolerate paying high prices on the assumption that the neighborhood's crime rate and amenities will improve.

It's worth considering whether chain retailers or high-end independent merchants have located in the area since, like developers, they make site-selection decisions based on demographic trends. "When you know a Starbucks is going in, you go too," says Ms. Giacobbi.

-- Ms. Doherty is a free-lance writer in Seattle.

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