Three years ago, Matt Morgan launched his own interior design firm in Washington, D.C. At age 32, his business is thriving, with a roster of high-end homeowners among his clients, many of whom live in Washington’s toniest suburbs.
Morgan himself, however, rents.
He pays $2,500 a month for an apartment in D.C., has a credit score of 800, but still can’t qualify for a mortgage. His net income as a small business owner is deemed too low by lenders for the size of mortgage he would need in D.C’s white-hot housing market, where some one-bedroom condos are selling for upwards of $500,000. “Maybe some day when I’m married and have a double income I’ll start thinking about buying,” he says.
Morgan is not alone among frustrated would-be homebuyers who are finding themselves shut out of the nascent housing recovery.
While home sales, home prices and home construction are surging nationwide – existing home sales are at their highest level since November 2009 – first-time homebuyers are the one group that’s missing in action.
First-time homebuyers accounted for just 28 percent of home sales in May, according to the National Association of Realtors – down from 34 percent in May 2012 and a historical average of about 40 percent. Moreover, says the Harvard’s Joint Center for Housing Studies in a new report, the homeownership rate among 25 to 54 year olds is at its lowest since 1976.
If these trends continue, the absence of first-time buyers could pose a potentially serious problem – not just for the housing market in the long run but for a generation of young Americans who are losing a chance to stockpile wealth.
Even though mortgage interest rates are still low by historical standards – around 4.5 percent for a 30-year fixed-rate loan – first-time buyers are currently facing a host of obstacles that make it tough to enter the market.
For one thing, many would-be buyers just don’t have enough money to put down on a loan. Unemployment is still at 7.6 percent, and incomes are stagnant even for those with jobs. Many younger Americans are also burdened by student debt, which makes it harder to accumulate savings for a down payment. According to the Federal Reserve Bank of New York, the total outstanding balance on student loans has nearly tripled since 2004, with roughly 42 percent of 25-year-olds holding student debt.
And as would-be buyers like Morgan are finding out, credit is still tight. The mortgage services firm Ellie Mae found that the typical credit score on mortgages closed in May was 743. Many lenders are also still demanding significant down payments of 15 to 20 percent, which on a house worth the current median of $208,000 is $40,000.
Yet another obstacle for first-time buyers, says Ken Fears, a senior economist at the National Association of Realtors, is competition from other buyers, many of whom are offering 100 percent cash. “Thirty percent of purchases are all-cash sales,” says Fears. About two-thirds of these all-cash buyers are investors, Fear says, but this group also includes current homeowners who might be “trading up.”
Washington realtor Steve Wydler says he’s even seeing international investors with cash to burn who are swooping in to scoop up properties. As a result, Wydler says, “it’s hard for a first-time buyer to compete.”
As a result of these barriers, some would-be homeowners might be opting out before they’re shut out. In a survey by Hart Research for the MacArthur Foundation, 57 percent of Americans said “buying has become less appealing.”
Moreover, many Americans think of homeownership as much more risky than before. At the end of 2012, 10.4 million Americans were “underwater” – owing more on their mortgages than their homes were worth. Perhaps as a result, the BPC survey found that 69 percent of Americans saying “it is less likely for families to build equity and wealth through homeownership today compared with two or three decades ago,” while 61 percent said “that renters can be just as successful as owners at achieving the American Dream.”
This suits some housing experts fine, who argue that federal policy has long over-subsidized homeownership at the expense of other priorities and affordable housing. The mortgage interest tax deduction currently costs the federal government $70 billion a year, with the lion’s share of the benefit going to higher-income households. The Center on Budget and Policy Priorities, for example, argues that “[m]ore than three-fourths of federal housing subsidies go to homeowners, even though renters — who make up more than one-third of the population — are far more likely to pay a very high share of their income for housing or face other serious housing-related problems.” According to the Tax Policy Center, the average benefit for millionaires from the mortgage interest tax deduction is ten times the benefit for people earning $50,000 to $75,000 a year – $3,038 versus $348.
Nevertheless, a healthy first-time homebuyer market is essential to the continued health of both the housing market and to the broader economy. The key question should not be homeownership versus rental but how best to ensure that homeownership remains a viable choice for young buyers who aspire to that goal. At the moment, the obstacles facing first-time buyers mean there’s little choice at all.
Despite the crash, the family home is still the largest source of wealth for the vast majority of American households. The exception is the top 10 percent of households, who are likely to hold more of their wealth in stocks and other financial assets.
Paying down a mortgage is also essentially a form of “forced savings,” which means homeowners’ net wealth is much higher than that of renters. The Federal Reserve’s Survey of Consumer Finances found that the real median net worth of renters in 2010 was $5,100, versus $174,500 for homeowners. According to Harvard’s data, minority renters are particularly disadvantaged, with the median net wealth of black renters at just $2,100 in 2010 and Hispanic renters at $4,500.
Overall, residential real estate accounted for $17.7 trillion in total wealth in 2012, or more than the nation’s gross domestic product. Aside from the inequity of locking out an entire generation from sharing in that wealth, the loss of first-time buyers could have broader economic effects.
For example, says Fears of the National Association of Realtors, a big wave of housing inventory is likely to hit the market as Baby Boomers begin to downsize in preparation for retirement. Without first-time buyers to help soak up the supply, Fears says, these Boomers will be “hamstrung” in their ability to sell and cash out the equity in their homes.
First-time homebuyers also create a “multiplier” effect on the economy at large because they generate new sales of furniture, home furnishings, and other items, not just by the first-time buyer but by the current homeowner who is “trading up” to another house or building a new one.
One study prepared for the State of Washington argued that just 12,000 new first-time homebuyers had the potential to generate up to $1.3 billion in total economic activity, including $133 million a year in new revenues from sales and property taxes. “First-time homebuyers are the springboard for the entire real estate market,” says Wydler.
In recent weeks, policymakers have shown renewed interest in the future of housing policy and housing finance. This week, Senators Bob Corker and Mark Warner introduced a much-anticipated bipartisan bill to reform the government-sponsored mortgage giants Fannie Mae and Freddie Mac.
If and when Congress moves forward, how to help first-time buyers should be a central concern driving the debate.
Correction: a previous version of this story incorrectly identified this study as performed on behalf on the Bipartisan Policy Center, when it was in fact the MacArthur Foundation. The text has been corrected.