Noelle Knox
USA Today
Peter Hudson, a first-time home buyer, checks out a Houston-area neighborhood with real estate agent Tina Kalafut.
Hudson, originally from Milford, N.H., says homes in that area are too expensive. That’s why he’s looking in Texas.
It’s 118 degrees in Baghdad, but Peter Hudson is willing to sweat it out there, literally, for 18 more months. Why? So he can save up enough money to buy his first home back in the States — ideally with a swimming pool.
“I’m really, really hoping for a pool,” says Hudson, 32, who works for a contractor providing private and corporate security outside Baghdad‘s Green Zone. By working in Iraq, he can temporarily pull in a six-figure salary that’s about double what he’d earn doing similar, if much less dangerous, work in the USA.
For most of us, it’s hard to imagine risking our lives in a war zone to afford the American dream. Yet many first-time home buyers are resorting to unusual — though mainly non-life-threatening — extremes to scrape together money for a down payment and qualify for a loan. A rising number are making life-changing sacrifices, such as raiding retirement accounts, taking second jobs and moving back in with Mom and Dad, according to government and industry figures.
Headlines about skidding home sales and prices portray a buyer’s market for real estate. For first-time buyers, though, the view is quite different. For them, the market is more challenging now than at any time since the early 1990s.
Rising mortgage rates have eroded almost all the financial relief that buyers might have derived from the slight decline in prices in most areas. On top of that, lenders are now demanding that customers produce larger down payments, more cash reserves in the bank, higher credit scores and less debt — all of which many first-time buyers lack, especially in high-cost states such as California, New York and Florida.
Nearly half of first-time home buyers nationwide last year put down no money, according to the National Association of Realtors, compared with fewer than one in five repeat buyers. The remaining first-time buyers put down a median of just 2% of the purchase price.
“I could put anybody in a loan last year,” says Stephanie Gagnon, a senior loan officer at First Capital Mortgage in San Diego. But, “In the last six months, all of the big lenders are shutting down all special programs they were working with because they’ve realized it’s bitten them.”
Now, she says, “I’m turning away 50% of my first-time home buyers. They just can’t qualify.”
It’s easy to say that the mortgage industry has finally returned to its senses, and to responsible lending policies, because a record 16% of borrowers with subprime adjustable-rate mortgages were in default at the beginning of the year. Dozens of lenders have gone out of business since the end of last year.
But the tighter mortgage market is not only shutting out borrowers with weak, or subprime, credit ratings. It’s also putting pressure on first-time borrowers, who sometimes share financial characteristics with subprime borrowers: meager savings, a new job and a brief credit history (which, in effect, is equal to a poor credit history). They also may have relatively large debts, such as a car loan or student loans, which can reduce the amount that a mortgage lender will give them. And just one late payment from their college days can haunt them for years.
Broader market hampered
As lenders raise their standards for borrowers, the squeeze on first-time home buyers is constricting the broader real estate market and slowing the recovery. That’s because about one in three homes sold last year went to a first-time buyer. As these first-timers are shut out of the market, sellers ready to move up to bigger houses have a harder time selling their homes.
In Miami, for example, where the median-price home has catapulted from $155,000 to $400,000 since the beginning of 2003, the demand for starter homes has largely dried up. Even though for-sale signs are sprouting on lawns like dandelions after a summer rain, sales of single-family homes priced below $250,000 tumbled 50% from March to May, compared with the same period last year, says Ron Shuffield, president of Esslinger-Wooten-Maxwell Realtors.
“The decrease in sales at the lower end of the market has been kind of a surprise,” Shuffield says. “That’s usually where we have the greatest number of buyers. It’s tougher for first-time buyers to save deposits and come up with the cash necessary to close” a sale.
Which is why Chad Moskal, 33, an account executive at a printing company, gave up his apartment on the beach in Miami last summer and moved back in with his parents in Chicago. He and his brother Paul, 34, who’s working two jobs as a cardiovascular technologist and has also been living at home, are buying their first house together this month. A home in Chicago, Chad Moskal decided, would be cheaper to buy than a similar one in Miami.
The number of people who are moving in with friends or family, or sharing apartments or houses to save money, has caught economists at the Realtors association off-guard. The growth in “new households” — first-time buyers or first-time renters — has plunged 70% from last year’s rate.
“This is very unusual,” says Lawrence Yun, the NAR’s senior economist. “Even during a recession, household formations do not slow to this current level.”
Moving back in with his parents helped Chad Moskal pay off his bills and save some money. But he still felt compelled to cash out the $6,000 in his 401(k) retirement account to deliver his share of the $15,000 down payment — plus part of the money they will need to fix up the $290,000 home they bought in Skokie, Ill., just outside Chicago.
“That’s the kind of extreme measures it takes” for some first-time home buyers to enter the market, Paul Moskal says.
Tapping retirement accounts
Last year, about one in 10 first-time home buyers tapped their fledgling retirement or pension accounts to help come up with a down payment, according to the NAR. And that was back when mortgage companies seemed to be giving loans to anyone with a pulse.
“My mortgage broker wasn’t accepting zero down,” says Alfonso Rey, 32, who in February bought a one-bedroom, one-bath condo in San Francisco — one of the nation’s most-expensive markets — for an eye-popping $714,000.
Rey and his wife had been outbid on 16 properties until they offered $62,000 more than the asking price for the condo — and wrote to the owners, pleading with them to accept their offer so they wouldn’t have to move out of the city.
To scrounge up a 5% down payment, Rey and his wife sold their cars and cashed out the entire $36,000 Rey had socked away in his 401(k). To keep their monthly payments low, they took out a loan that lets them pay only the interest for the first five years. They’re taking a calculated risk, though, that the value of their condo will rise. With their interest-only loan, Rey and his wife will owe the same principal balance in five years. And their mortgage will reset, possibly to a higher interest rate.
Rey says his parents and friends told him he was crazy to use his retirement savings to buy a home. But Rey, who is halfway through an MBA program at the University of San Francisco, says he feared that if he didn’t buy now, he would never be able to afford a home, because he expects real estate prices in San Francisco to continue rising.
Such desperate measures make financial planners cringe. Although you can withdraw up to $10,000 per IRA for a down payment on a first home without penalty from retirement accounts, you will pay taxes on the withdrawal (unless it’s a Roth IRA you’ve had for five years) and you’ll be switching your investment from stocks or bonds to real estate.
“You’re wiping out your retirement, and if that’s the only money you have for a home, maybe you shouldn’t be buying a home,” says Ed Slott, an accountant and IRA expert in Rockville Centre, N.Y. And after that money is gone, “What if the roof leaks, then what are you going to do? This is just the beginning” of the expenses of owning a home.
There are still some 100% loan programs available for people with good credit, few debts and solid jobs.
Rhonda Woods, a 23-year-old factory worker, obtained a no-down payment loan through Freddie Mac last month to buy her first home in Battle Creek, Mich. She bought it with her fiancé but says, “Everything’s in my name because I have a little better credit.”
Such federally sponsored programs from Freddie Mac and its sister organization, Fannie Mae, have income limits and a maximum loan ceiling of $417,000. That’s not enough for some buyers in the most expensive markets. And last month, Fannie Mae raised the cost and lending criteria for its no-down payment mortgages.
The Federal Housing Administration, which caters to low-income and first-time buyers, also offers a 3% down payment loan. But loan limits make it less effective in many high-cost cities. The agency also plans to close a loophole that lets sellers help buyers with the down payment.
So in the end, some first-time buyers give up and move to a lower-cost city, sometimes in another state.
Looking elsewhere
Corporate consultant Christa Schlaudecker, 28, says eye-popping home prices were one of the reasons she left Washington, D.C., last year for Cincinnati. Two weeks ago, she moved into her first condo, which she bought the old-fashioned way: with a 20% down payment, saved a little at a time, out of each paycheck. “I don’t think I would have been able to (buy a home) any time soon in D.C. without taking on more debt, or a risky loan,” Schlaudecker says. “If I would have bought something in D.C., I probably would have needed my parents’ help.”
Meanwhile, Hudson, who will complete his contract in Iraq in early 2008, says he won’t be able to afford to buy that house with a swimming pool in his hometown of Milford, N.H. He says his $250,000 price target would buy him “a shack or a very nice condo” there.
So on vacation this month, he flew to Houston to look at properties and get a feel for the market. He says he plans to buy a home in December or January, by which time he should have saved up a sizable down payment. “By the time I come back from Iraq,” he says, he might not even need a loan. “I plan to have it paid off.”