Village Solutions

The Myth of Average Household Incomes

One of the most misused statistics in researching trade areas is that of average household income, because median income figures are often confused with average and mean incomes.  An average household income is obtained by adding up the income of all homes in a study area and then dividing it by the number of home units in the study area.  Conversely, a median household income is the middle number in a string of values where half of the numbers are above the median and half are below.  A simple example could be in a remote area where three of five homes have annual incomes of $40,000, $40,000 and $60,000 respectively and another two houses have incomes of $200,000 each.  In this example, the median income would be $60,000, but the average income would be $108,000.  In this case, the median income of $60,000 would tell you very little about the buying power of the neighborhood and the fact that the homes with incomes of $200,000 would typically spend substantially more than those households at the median or below.  How much more? – three to five times more than the average income.

But, let’s take a deeper look into the make-up of the homes described above. In the first $40,000 home you have a recently divorced teacher; the second home has a retired couple living off of their investments and the third home, which is also the median income, has a young husband and wife who both are ski instructors during the season and work odd jobs during the off-season.  One of the two households of $200,000 is headed by a local developer and the other by a financial advisor.  Now, let’s assume that two children move out of their parent’s home and move into a duplex over the local drug store and both only make $20,000 the first year working as landscapers during the off-season.  In this example, the median household income drops to $40,000, because the two new $20,000 households make the $40,000 the middle number.  Additionally, the average of all of the incomes are now divided by seven rather than five to generate a lower average of $81,428, which is still relatively high, but when standing alone, the average masks the strength of the market which are the incomes over $200,000.

As a side note, potential politicians are always quick to point out that household incomes have declined during the reign of the current administration.  But the reason for the decline is more about household formation than a loss of real income.  Take the previous example of the developer with a household income of $200,000.  The year before he was married to the school teacher and their combined income was $240,000.  Now they are living in separate homes and the average of the two is $120,000, a 50% drop in the average for the two.  This is one major trend that is often overlooked by retailers and developers alike.  Stated as simply as possible, the number of occupants per household is declining nationwide.  This results in a lower average income because the combined incomes of two or more wage earners are now being divided over more housing units.  This does not mean that there is actually less income, just less income per household.

So back to our little mountain hamlet, where a deeper analysis of this small micro market would indicate lifestyle and buying characteristics that were built around eating out, outdoor recreation and a limited interest in fashion, but high expenditures in outdoor recreational equipment.  The moral of this little study:  Average incomes are not to be confused with the median income and make sure your mean income does not hide the real strength of a market.

Tags: household income

This entry was posted on Tuesday, August 18th, 2009 at 8:01 pm and is filed under Real Estate. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.