Amid more intense buyer competition, rising prices, and higher credit qualifications, the share of first-time buyers continued to decline to 31% in September, according to the September 2020 REALTORS® Confidence Index Survey Report. The share had reached 36% in April 2020, a figure that reflects the transactions in February just before the economic lockdowns in March and the ensuing surge in job losses.1 Still, while the first-time buyer share declined, record-low mortgage rates have lifted the tide for all buyers, increasing the number of first-time buyers to an annualized rate of 2 million in September 2020, up from 1.32 million in May 2020.
Let’s analyze the challenges facing first-time buyers.
More competition: 3+ offers received per property with properties selling fast
Low mortgage rates combined with the lack of inventory have bolstered prices, created a dearth of inventory at the low end, and increased buyer competition. There’s a dearth of inventory in the market especially at the low end, bolstering prices and increasing competition. In September, the median existing-home sales prices rose by 14.8% and rose at double-digit rates across all regions. The inventory of existing homes in the market at the end of the month dropped to a level that is equivalent to only 2.7 months of supply of the monthly sales pace—an all-time low.
With demand outpacing supply, there is more competition and properties are selling faster, benefiting existing-home buyers who can make a faster and better offer (e.g. with a higher down payment). According to the September 2020 REALTORS® Confidence Index Survey Report, the median days on market fell to a historic low of 21 days, with 76 there were three to four offers for every property that sold in September 2020.
Potential Buyers under 44 years old will struggle to make the down payment compared to existing homeowners
With rising prices but with record-low mortgage rates, making the down payment is the primary challenge, rather than paying the monthly mortgage. At the median existing-home sales price of $311,800, a 3.5% down payment amounts to $10,910, and a 10% down payment amounts to $31,180. According to the 2019 Survey of Consumer Finances, the median financial asset holding (transactions account, CD, savings account, stocks, etc.) of families headed by a person under 35 years old is $8,400, so they typically won’t have enough savings for a down payment for even a 3.5% mortgage. Among families headed by 35-44 years old persons, the median financial savings is $22,700, so they will typically be able to make the 3.5% down payment but not the 10% down payment. According to NAR’s REALTORS® Confidence Index Survey, the average down payment among first-time buyers is about 10%.
An existing homeowner will have built up equity to offer as a down payment or to pay for a trade-down home with cash. An existing homeowner who purchased a property five years ago will have built up nearly $82,000 in home equity.
Mix of first-time buyers shifting towards those with higher credit scores
According to the Federal Reserve Board of New York’s Household Debt and Credit report, the median credit score has increased from 773 in 2020 Q1 to 784 in 2020 Q2. In fact, the FICO score has increased sharply since 2019 Q1 amid fears of a looming recession due to the US-China trade wars and global economic slowdown. Seventy percent of the dollar volume of mortgage originations went to borrowers with FICO scores of typically 760 + (median), up from just 56% in 2019 Q1. The higher credit score indicates that buyers who are borrowing have a higher credit score (self-selection) or that only those with higher credit scores also have the financial resources to put down as down payment and a sustainable level of income to pay the monthly mortgage.
NAR’s RCI Survey shows a decline in the fraction of first-time borrowers who used FHA financing, which indicates that the profile of first-time buyers is shifting towards buyers who have more financial assets to put down as down payment. A higher down payment means avoiding paying FHA’s upfront mortgage insurance payment (UPMIP) and the mortgage insurance payment (MIP) for the life of the loan2 or private mortgage insurance (PMI).
Among first-time borrowers who had had a mortgage, 61% obtained a GSE-insured loan (conventional conforming), up from 52% in March 2020. Meanwhile, 26% percent of first-time buyers who availed of a mortgage had FHA financing, a decline from 32% in March 2020. While there is no income floor or limit on the borrowers of FHA-insured loans, the FHA-insured loans are usually taken up by lower-income borrowers (because of the lower down payment).
Higher uptick in unemployment rate among 25-34 years old
One reason why the mix of buyers has been shifting is because of job conditions. The 25-34 years old workers have experienced the highest uptick in the unemployment rate, an increase of 5 percentage points, compared to the unemployment rates in February 2020. This age group has the highest unemployment rate of 8.7% (from 3.7% to 8.7%). Half of first-time buyers will fall in this age group because the median age of first-time buyers is 32 years old, according to NAR’s 2019 Home Buyer and Seller Profile Survey.
The 35-44 years old age group’s unemployment rate, which will also capture a wide swath of first-time buyers, rose by 3.4 percentage points. While this is the smallest percentage increase in the unemployment rate among all age groups, unemployment also increased relative to pre-pandemic levels.
Outlook for First-time Buyers Still Positive Under Low Mortgage Rates
Despite these headwinds, improving job growth and the low mortgage rates are helping first-time buyers afford a home. The median monthly mortgage payment is a tad lower than the monthly median rent as of October 16 (based on a 2.81% 30-year mortgage).
1 It takes nearly a month to sell a home and then another month to close the transaction.
2 In the case of an FHA-insured loan, the annual mortgage insurance premium rate (MIP) on a loan of less than $625,500 with less than 5% down payment (> 95% loan-to-value) is 0.85% which is paid over the life of the loan. There is also the upfront mortgage insurance premium (UPMIP) which is 1.75% of the base loan amount. Obtaining a conventional conforming mortgage with a 20% down payment saves the borrower the mortgage insurance payment.