The Cost of Waiting for First Time Home Buyers

Ever since the first version of the first time home buyer tax credit, home buyers have been eager to engage but uncertain about home values and for some, this has caused them to sit on the sidelines.  I am not writing to suggest that this consideration is good or bad cause for not taking advantage of the first time home buyer tax credit.  I’m strictly writing from the perspective of a financing nerd.  Two influences will converge in April of next year that should serve as the decisive factors for causing first time home buyers to understand that this time, waiting will have a cost.  What’s more, that cost can be quantified.

 

The first factor concerns the expiration of the first time home buyer tax credit.  Sen. Benjamin Cardin introduced S.B. 1678 with bi-partisan co-sponsors (including Harry Reid) and it will only extend the credit for 6 months from its expiration date.  The 6 month extension was a disappointment for those who were hoping for a 12 month extension but Zillow estimated that a 12 month extension would cost approximately 14.86 billion based on current trends if that were to happen and 6 months seemed to be the fiscally responsible compromise.  This bill would set the tax credit to expire at the end of May and it doesn’t look likely that it would be extended barring a double dip recession.  It did not pass overwhelmingly and there was a of of opposition to the cost.

 

The second factor has to do with Ben Bernanke and the Fed.  In an effort to keep mortgage rates low and the secondary market machinery of the mortgage industry working, the Fed agreed to purchase 1.25-1.45 trillion dollars of mortgage backed securities.  Estimates of the impact of this effort on interest rates ranges from lowering them by 0.375% to 1 % but I find 0.5% to be credible.  The MBA rate forecast also lends credence to this assumption (shows rates going to 5.7 by year's end).  The Fed has announced that they will bring an end to this effort by March of 2010.  Consequently, we can expect a bump in rates in April of 2010 barring a double dip recession.  What’s worse is that there have been rumors that the Fed is doing to start selling some of what they bought and this could have the effect of driving rates up faster.

 

These two changes could cost first time home buyers tens of thousands of dollars if they don’t act in time.  Not only does an interest rate that’s ½ of one percent lower create a lower monthly payment but it pays down the principal balance faster on the front end of the amortization cycle.  If these two factors are added to the value of the tax credit the exact loss (financially speaking) to first time home buyers can be calculated if the assumptions are to be trusted.  Here are some examples:

Purchase Price	$125,000.00	$150,000.00	$200,000.00	$225,000.00	$250,000.00	$275,000.00	$300,000.00	$325,000.00
Loan Amount	$120,625.00	$144,750.00	$193,000.00	$217,125.00	$241,250.00	$265,375.00	$289,500.00	$313,625.00
10 year monthly payment differential assuming ½ point change to rate	$4,482.53	$5,379.03	$7,172.04	$8,068.55	$8,965.06	$9,861.56	$10,758.07	$11,654.57
10 year amortization differential assuming ½ point change to rate	$1,446.21	$1,735.45	$2,313.93	$2,603.17	$2,892.41	$3,181.65	$3,470.89	$3,760.13
tax credit	$8,000.00	$8,000.00	$8,000.00	$8,000.00	$8,000.00	$8,000.00	$8,000.00	$8,000.00
Potential Loss of Waiting	$13,928.74	$15,114.48	$17,485.97	$18,671.72	$19,857.47	$21,043.21	$22,228.96	$23,414.70

While it may have been unclear before as to when the right time to jump into the market might be, these factors combine to calm some nerves because even if home values do dip again at the end of the year, the savings from the combination of capitalizing on lower rates combined with the tax credit should offset value drops, should they occur. 

Zillow’s analysis of current market trends shows that, if the credit had been extended for 12 months, a total 1.86 million first-time home buyers would purchase homes between Dec. 1, 2009 and Nov. 30, 2010.  We didn’t get the credit extended that far.  I wonder how many are going to pack those plans into the first part of the year. 

Well we've got less than six months now so let’s saddle up!