An Open Letter to First-Time Home Buyers in 2013

The year is coming to an end, and that means it’s time for our annual letter to first-time home buyers. Here’s a look ahead at the 2013 real estate market.

Buying in 2013
We’ve seen many changes in the real estate world over the last year or so. The housing market has started to heal. Home prices are rising in many parts of the country. And a new set of mortgage rules are on the horizon. It’s a lot to take in, so we have boiled it all down to seven key points.

1. Start saving money.

Mortgage lenders today are more concerned with the amount of money you have in the bank. This goes above and beyond the cash you’ve set aside for your down payment and closing costs. They want you to have additional cash reserves in the bank. Some lenders waive this requirement. But for many of them, it’s a make-or-break issue. So do yourself a favor and start saving money now — the more the better.

2. Don’t expect a buyer’s market.

Over the last few years, we’ve been flooded with news of a struggling real estate market. We’ve heard stories of desperate homeowners slashing their prices to lure in buyers. But in most parts of the country, those days are gone. We have entered a new phase in the housing saga, a period of recovery and rising home values. As a result, many housing markets have transformed from buyers’ markets into sellers’ markets.

Take California for example. In Sacramento, for-sale inventory dropped by more than 60% over the last year. Granted, this is an extreme example. But it is being mirrored, to a lesser extent, across the country. First-time home buyers should expect to compete with other buyers for limited inventory. And that brings us to the next point.

3. Get to know your local housing market.

We hear a lot about ‘the’ housing market, as if there’s only one. In reality, there is a tremendous amount of variation at the local level. Consider the difference between Phoenix and New York City. According to the Case-Shiller Home Price Index, house prices in Phoenix rose by 20% between September 2011 and September 2012. In contrast, prices in NYC fell by -2.3% during the same period. So much for a singular housing market.

As a first-time home buyer, you must familiarize yourself with local housing conditions in your area. Real estate agents can be helpful, but you shouldn’t rely entirely on your agent to educate you. Do your own research. Sift through the online archives of your local newspaper. Use Google. Read everything you can find about your local housing market. It’s the difference between flying blind and using a compass.

4. Expect a thorough ‘investigation’ from your lender.

During the housing boom of the early to mid 2000s, nearly anyone could qualify for a home loan. It didn’t matter what shape your finances were in. Bad credit? Questionable income? A mountain of debt? No worries. The lender could put you into a subprime, stated-income, payment-option ARM loan — or some such madness. But those days are gone.

Today, lenders are dotting their i’s and crossing their t’s. They want to see documentation, and plenty of it. So you can expect to pony up a pile of paperwork, before all is said and done. And that brings us to point #5.

5. Start gathering your documents.

Low-doc and no-doc home loans were common during the housing boom. These were scenarios where the lender required little or no documentation as proof of the borrower’s income, debts and assets. You could simply tell them how much you earned, and that would be enough. But don’t expect that in 2013. Lender losses, as well as new mortgage rules, will keep these loans off the table.

Gathering your documents now will expedite the application and underwriting process later on. Commonly requested items include the following:

  • Tax returns for the last two years
  • IRS W-2 forms for the last two years
  • Address / place of residence for the last few years (length varies by lender)
  • Pay stubs for the last two months, showing year-to-date earnings
  • Bank statements for the last two to three months (checking, savings, money market, IRA, etc.)
  • A profit and loss statement (P&L), if self-employed

Your lender will provide you with a more complete list when you apply for a loan. But there’s a 99% chance they’ll request the items above, at a minimum. So why not start early?

 6. Keep an eye out for the qualified mortgage (QM).

In 2013, a new set of mortgage-lending rules are scheduled to take effect. They are mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act. The so-called qualified mortgage, or QM, will essentially set the bar for loan-approval requirements in the United States. So it’s a pertinent issue for first-time home buyers in 2013. You can learn all about it in our QM fact sheet.

7. Be aware that FHA loan insurance is rising.

FHA loans are popular among first-time home buyers, because they require smaller down payments than conventional mortgage loans. A borrower with a credit score of 580 or higher could put down as little as 3.5%, when using the FHA program.

But there’s a drawback to these loans. FHA borrowers must pay an upfront mortgage insurance premium (MIP), as well as an annual premium. The annual MIP is scheduled to go up soon. Home buyers in 2013 will pay around $13 more per month on their FHA loans, compared to home buyers in 2012. You can learn more in our FHA outlook.

Mortgage Rates to Remain Low in 2013

In 2012, we saw a series of record lows for mortgage rates. The average rate for a 30-year fixed mortgage fell to 3.31% in November, the lowest average in more than 40 years of record keeping. This trend will likely continue into the first half of 2013.

This is partly the result of actions taken by the Federal Reserve. According to Fed chairman Ben Bernanke: “Our mortgage-backed securities purchases ought to drive down mortgage rates and put downward pressure on mortgage rates and create more demand for homes and more refinancing.”

Freddie Mac predicted the average rate for a 30-year mortgage would remain below 4% for the first half of 2013.

Of course, not everyone will qualify for the lowest rates. In fact, many would-be home buyers won’t qualify for a loan at all. Tighter lending standards have become the new normal. To qualify for a home loan in 2013, first-time buyers will need solid credit, steady income, and manageable debt levels.