The 2021 Home Affordability Myth

Certified Mortgage Advisor
NMLS 1701021
January 6, 2021

2021 Affordability increase

All right, let's talk about the 2021 home affordability myth. So don't get me wrong. Home prices historically are becoming more and more unaffordable. However, something interesting happened from 2020 to 2021. We're actually homes have become more affordable in 2021 because of interest rates even though home prices have increased.

We are using the wrong metric

Now, let's run through some real-life numbers on an example, purchase price here in just a second. But one of the big problems that we're facing right now is that we're using the wrong metric. Most people are talking about a median home price.

Median Home Price

For an example of a median home price, let's say we have $295,000 and it just means half of the home prices sold are above this half are below it. So what ends up happening? Why we're using this wrong metric is, is median home price. Doesn't tell us really anything about home affordability, nor does it tell us anything about the home value or the home price? When did it sell? All it's doing is telling us about what homes are being sold.

So what's ending up happening is the median home price actually rose about 15% year over year in 2020, but it doesn't mean the home price actually increased by 15%. All of this is showing us is that there's so much less inventory on the lower end of the spectrum. A lot fewer homes are being sold on the lower end and that pushes that median higher.

No changes in value, just less inventory in our price range

So it doesn't actually mean that the value of the home changed it just shows us the spread that there are more homes being sold on the higher end than there are on the lower end. Because if we remove some stuff on the lower end because there's less inventory, fewer homes being sold at that price range, all of a sudden the media increases to those higher price points.

So if we actually look at real appreciation, it's actually closer to 7%. Now it's still sizeable, right? 7% appreciation, especially when we compare that to weekly earnings growth last year, weekly earnings growth. So the earning growth for income was 5.9% year over year, even amidst the pandemic.

So we could still say, yeah, but appreciation is still so much higher than income growth. Right? Appreciation grew by 7%. But incomes grew by 5.9%. So there's still a disparity here, right? Home prices are increasing faster than income. And while that's true, it's not necessarily indicative of what's actually happening with affordability, right? Because only a portion of our income is being spent on a home price. They don't have to grow at the same number.

Let's see some example

So if we ran through an example here, if we purchased a home in 2019, and let's say our mortgage payment was a thousand dollars a month, principal and interest, we're going to leave out taxes and homeowners insurance, because those are going to vary based on where you're at, but principal interest a thousand dollars a month. The first to qualify for that roughly we need about $5,000 per month gross. These are based on averages from Fannie Mae.

What are the changes if we purchase in 2020

So if we purchased that home a year later, so let's say maybe we didn't purchase this home and we looked at it a year later to see what it would look like. Let's say there was 5% appreciation in that time.

So the home price increased 5%. Well, the new monthly payment would be $1,050 per month. That's a 5% increase in price raises our payment by 5%. So how much income change do we need to cover that additional $50? Well, we need to go up to $5,050. Which is actually only a 1% change in our income. So we can see that even though the price increased by 5%, our income only has to increase by 1% to accommodate that change.

To now qualify for a 5% increase in price. We only have to qualify with a 1% increase in income. So they don't have to track exactly the same one can be, we can grow faster than the other one. And if we look at this kind of, even more in-depth, let's say we bought a home in 2020, and we factored in 7% home appreciation. Not the median price of 15% growth, but the home appreciation growth, the true actual growth here in the home.

In 2019, that home would cost us $327,100. So just in the period of a year, that home brace increased by almost $23,000, $22,900 in one year. So we could say homes would become more expensive. Well, that's true.

What happens with interest rates

We have to also look at what's happening with interest rates. So 30 year fixed rate in 2019 would be around 3.75%. In 2020, would it be closer to 2.75%, which is a decrease of 1% on our interest rate.

So we also look at our loan amount. Let's say we did 10% down. In 2019 we would have borrowed $294,000. In 2020 we would have borrowed $315,000. So right off the bat, we have to borrow $20,600. Just over a period of one year, we can say home prices become even less affordable for us. But everything kind of breaks down a little bit. When we start actually looking at the monthly cost of what this looks like.

Monthly P&I

So in 2019, that home would have cost is $1,363 per month. In 2020, it would have cost us $1,286, actually a $77 per month savings. So here's when we can start to see, well, home prices have increased. The affordability has actually lowered because of how much that impact that 1% lowering on interest rate has actually lowered our monthly payment.

Mortgage insurance

Now, something we have to be fair about is mortgage insurance. We took out an additional $20,600 in our loan balance. So our mortgage insurance is going to go up because we're not putting 20% down. In 2019, this would have been somewhere around 113. In 2020 closer to $121. So that's a cost of $8 for us.

Total Payment (P&I + MI)

If we add this together, total payment, principal, and interest plus mortgage insurance. Again, we're leaving out taxes and homeowners insurance, cause those are going to vary by state and aren't going to impact this kind of calculation. So 2019, this would have been $1,476, in 2020 turns to $1,407. It's actually $69 per month.

So, this is where it kind of breaks down a little bit. If we just look at that front number, if we say median home prices are increasing, home prices are now, you know, $23,000 more expensive. It doesn't mean they're less affordable because now what's changed is the monthly cost is actually cheaper than it was last year.

There was an increase of $23,000 in price, but a lowering of almost $70 per month monthly. Now here's where home affordability really starts to kick in. Is this not necessarily the monthly cost that becomes the issue? A lot of people think it's the monthly cost.

Down payment

The down payment is the big thing that starts to, add a little bit of a crippling factor to qualifying for a home. So in 2019, a 10% down payment would have cost us $32,710. 2020 while the home price increased, and now that down payment is up 10% is $35,000. So now that's 2290. So if you were in 2019 and you said I'm not gonna purchase a home, it's too unaffordable for me. Which is fair. Maybe it was for you at that point, just waiting a year, you would have had to have another, almost $2,300 in your savings to go towards your down payment for that same scenario.

So the monthly cost decrease, but the down payment costs increased. This is where sometimes the cost of us waiting to purchase a home can actually be a little bit of a downside for us.

Monthly income increase

Now, if we also look at income, what we have that 5.9% increase year over year is $5,000 per month. Income change to 52 95. We gained $295 in income. All right. So we can see that even though median home prices increased 15% actual appreciation was closer to seven. Okay. That's still 7% growth, right? $23,000 more expensive for this home price. And you're seeing home prices increase, increase, increase, and you're thinking there's no way I can afford it.

Down payment is the issue, not the monthly payment

When in reality, you can afford the monthly payment. The monthly payment actually decreased your income. Most likely went up statistically on a national average and the home monthly price decreased, by a little bit. So the monthly affordability is not the issue. It's primarily the down payment that becomes a little bit more of the issue.

Understand the impact

The longer that we wait to purchase a home, the more we put that off, the bigger that down payment expense can become as that home continues to appreciate in value. The main goal of this, of your understanding this is really to see how interest rates are actually impacting this decision and kind of dispelling the myth around home affordability because over a historic period, yes, homes would become more and more unaffordable.

Because we've seen this huge shift in interest rates from 2020 to 2021. And actually, you know, pretty much all of 2020 had a lot lower interest rates. We can see that homes are becoming more affordable monthly, and the longer that we wait, the more, it can actually cost for us to purchase a home with that upfront.

No one is pushing you to buy a home

Now with that, there's the caveat of me saying, you know, I get no benefit from you purchasing a home right now, or by waiting, that's completely up to you. And I don't want you to take this as a way of me saying, you need to go buy a home. Now homes are affordable. Go buy a home, the interest rates are low.

That's not what I'm saying. Okay. There's zero pressure here. This is only. What happens with interest rates, how this affects your affordability and how do we need to look at the totality of everything. We have to look at all of these numbers together. It's not fair just to look at the median home price, into, you know, throw in the towel and say, it's over because that's not true. We have to look at the whole thing here.

When is the right time to buy?

When you start asking the question of is it is now the right time to buy. We have to go back to conversations like this. Is now the right time to buy is more of a question about what's happening with us internally than what's happening externally in the market. Because it's almost always going to be the right time to buy. If everything financially in your life is solid. If you have the high-interest debt paid off if you have money saved up for closing costs down payment, any reserved cash that you want as an emergency fund.

If you have those finders things set up things like a budget. You can buy in almost any market and still come out on top, as long as you're comfortable with understanding how these numbers are working in your favor and things that you need to watch out for.

Again, this is just an illustration

So again, don't hear me say, this is now what you have to go purchase a home because that's not what's happening here at all. This is just an illustration of what's going on with interest rates and how this has impacted the monthly payment and what affordability can look like from 2020 to 2021. What it's looked like over the past, you know, short-term two to three years. Historical average. Home prices have become a little bit more unaffordable, but I've seen, I've seen so many people who are afraid to even enter into the conversation about purchasing a home because they just see this increase in the purchase price.

FYI, you might need it

And I don't want you to miss out on whatever homeownership looks like for you. Just because you're seeing that one number, because again, we need to look at the whole. Everything that's going on. If we just focused on one number, that's when we become short-sighted, we miss out on the whole picture of the whole scope of what's going on. And that's normally where we end up making bad decisions.

When we base everything off of one piece that drives the rest of our judgment. We need to look at the whole picture.

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