Buying a luxury dwelling in close proximity to a questionable neighborhood may be a risky investment, but homeowners and investors are taking that risk because, increasingly, the potential returns are undeniably attractive. In many cities, enclaves bordering transitional areas are historic districts that have undergone extensive renovations over the past decade. Landmark status has boosted the prestige of these neighborhoods–and afforded homeowners the added benefit of tax credits. Owners of properties listed on the National Register of Historic Places may be eligible for a 20 percent investment tax credit for the rehabilitation of historic structures.

In urban areas, such neighborhoods are not unusual: Multimillion-dollar luxury homes with perfectly manicured lawns exist in close proximity to neglected neighborhoods and abandoned lots. As the demand for housing outpaces supply, many of these surrounding low-income areas are being rehabilitated as well. Christopher Leinberger, a visiting fellow at the Brookings Institute and a real estate developer, professor and head of the real estate program at the University of Michigan, sees the gentrification of neighborhoods advancing on a block-by-block basis with surprising rapidity. He attributes this trend to the desire for "walkable urbanity," which exists in short supply: "People only want to walk five to six blocks, and within that area they want something interesting that pulls them along–elegant architecture, funky retail, different people. They want richness and diversity–as long as it’s safe."

Elegance Reborn
Cheryl Jones, a St. Louis real estate agent with Re/Max, was instrumental in turning around troubled properties in the neighborhood of Tower Grove Heights. Together with investors, she began rehabilitating houses built between 1903 and 1931. Neighbors also began taking equity out of their own homes to buy and renovate these problem properties. In 2000, Tower Grove Heights was listed on the National Register, which attracted the attention of additional investors. "That’s when you saw the prices go up sharply," Jones says. After becoming a historic district, appreciation rates increased 30 to 45 percent per year. Today a luxury home in the area sells for between $425,000 and $600,000. These prices may not seem high compared to lavish homes in other cities, Jones says, but considering the state of the area 10 years ago, the neighborhood’s revitalization was a "completely improbable scenario."

TOP VIEW: Hancock Park in Los Angeles, South Kenwood in Chicago, Tower Grove Heights in St. Louis–all of these urban neighborhoods boast gorgeous, highly desirable older homes. But they are also adjacent to at-risk, higher crime areas. While many affluent homeowners avoid these enclaves, more intrepid investors are moving into these areas to find distinctive, historic mansions and impressive appreciation rates.

However, even in historically significant districts bordering neighborhoods that have yet to be transformed, investors are drawn to the architecture and craftsmanship of period homes, and appear willing to wait the 10 or 15 years it might take to see the neighborhood turn. Margie Smigel, an agent with MetroPro, sells historic homes in South Kenwood. "These homes were built by the richest people of the era," she says. "Each house is like a jewel box. They were built with the best materials and designed by the most famous architects of their time." Over the past year, the average sale price for a single-family home in South Kenwood was $682,035. A comparable upscale neighborhood south of Roosevelt Road and closer to downtown has undergone extensive development over the past five years. Referred to as the New South Side, the area’s average price for a single-family home in 2005 was $935,714. No doubt, homeowners in historic neighborhoods are getting more house for their money. Some of the houses in South Kenwood have as many as 20 bedrooms, Smigel says.

In Hancock Park, a prestigious neighborhood in Los Angeles surrounded by marginal areas, homes built in the 1920s occupy substantial lots and boast features such as ballrooms, butler’s pantries and servant’s quarters. According to Leah Brenner, a Realtor with Coldwell Banker, 5,000-square-foot homes in Hancock Park sell for between $2.8 million and $3.5 million and have appreciated about 30 percent over the past year. The neighborhood’s central location also makes it attractive to buyers. Itta Bauman and her husband, Irving, purchased their 1928 English Tudor home in Hancock Park 10 years ago. The Baumans are Orthodox Jews, so living within walking distance of their synagogue on nearby La Brea Avenue is important. The couple purchased the seven-bedroom house just a few years after the 1992 Los Angeles riots. South-Central Los Angeles, one of the areas hardest hit by the disturbance, lies not far to the south of Hancock Park. After the riots, home values in Hancock Park plummeted, yet the Baumans saw opportunity rather than a deterrent: "It was a great buy," she says. They remodeled sections of the house, being careful to retain original features such as the intricate woodwork and moldings and the copper patio cover designed by the architect. In the mid-1990s, the housing market in Hancock Park began to recover. Today, the neighborhood is one of the most sought-after in Los Angeles; Bauman estimates that the value of her home has tripled over the past 10 years.