Decreasing affordability
For those tracking the housing market, the past few years have been a battleground for homebuyers.
Intense competition and limited housing supply caused prices to skyrocket. As affordability worsened, fewer buyers were able to save enough for a down payment compared to pre-pandemic times.
In 2022, almost 40% of potential buyers were unable to afford a 5% down payment, according to The Mortgage Reports. We explored the reasons behind the rapid decline in affordability and how buyers can secure loans with any down payment size.
Fewer buyers can afford a 5% down payment
According to proprietary survey data from TheMortgageReports.com, 39% of potential homebuyers were unable to make a down payment of at least 5% in 2022, compared to 33% in 2019.
The past few years have seen record-breaking home price increases, driven by a severe imbalance between supply and demand, along with remote work influencing where people chose to live and buy homes. Combined with high inflation and rising mortgage rates over the last 12 months, these factors have made it increasingly difficult for buyers to save for larger down payments.
“Economic uncertainty and the Federal Reserve’s monetary easing during the pandemic pushed mortgage rates to historic lows, which increased consumers’ home-buying power,” explained Ksenia Potapov, economist at First American.
“From February to December 2020, home buyers saw an estimated increase of $50,500 in purchasing power, which offset the impact of rising home prices. However, as mortgage rates began to climb, purchasing power shrank, and affordability decreased by 78% between January 2021 and December 2022,” she added.
Fortunately, the requirement of a 20% down payment is largely a thing of the past. Today’s buyers, especially first-time homebuyers, have different expectations and more loan options available that better meet their needs, along with programs to assist with down payments.
The effect of the pandemic on housing prices.
The Covid-19 pandemic had a profound effect on housing costs, reshaping the market in lasting ways.
With remote work becoming widespread, people no longer needed to live near their workplaces. As a result, many left crowded urban areas for more spacious properties in less expensive regions. This shift in demand intensified competition for homes and exacerbated the existing shortage of available properties, driving up housing prices.
“The Federal Reserve, in its efforts to prevent a severe recession triggered by COVID-19, kept the Fed Funds rates low and invested billions into mortgage-backed securities as part of its quantitative easing program,” explained Rick Sharga, CEO of CJ Patrick Company. “This resulted in historically low mortgage rates, which fueled demand at a time when the number of homes for sale hit record lows.”
The surge in demand, combined with a scarcity of available homes, led to bidding wars and drove property prices through the roof. Homeowners saw their equity grow rapidly, while potential buyers scrambled to make winning offers.
National home prices jumped by 18% in December 2021 compared to the previous year, according to the Federal Housing Finance Agency (FHFA). In comparison, this was nearly three times the top-end growth rate of a more stable housing market. From Q1 2017 to Q2 2020, annual appreciation typically ranged between 4.89% and 6.8%.
“Housing prices soared during the pandemic as remote work and other factors changed where and how Americans wanted to live,” said Eddie Seiler, AVP of Housing Economics at the Mortgage Bankers Association (MBA) and Executive Director of the Research Institute for Housing America. “The low interest rates helped mitigate the high home price growth in terms of monthly payments.”
The 2022 Housing Market in Figures
Although the median home price fell to $363,100 in January 2023, signaling a potential home price correction due to the impact of higher mortgage rates on affordability, Sharga noted that it’s still possible to see changes in the market.
Saving for a down payment remains a major hurdle for many renters looking to become homeowners. One common misconception is that a 20% down payment is required, but the amount can vary significantly based on the type of loan and the buyer’s situation.
In 2022, the median down payment for homebuyers was 13%, according to the National Association of Realtors (NAR). However, this median was as low as 8% for buyers aged 23 to 31. In contrast, buyers over the age of 57 typically exceeded the 20% mark, as they had more time to save and could use home equity.
First-time homebuyers typically contributed 6% as a down payment in 2022, while repeat buyers paid an average of 17%.
Home loans for buyers who can’t afford a 5% down payment
If you’re finding it difficult to save for a down payment, you’re not alone. There are numerous lending and assistance programs to help.
Fannie Mae and Freddie Mac, two government-sponsored enterprises (GSEs), offer low down payment options—HomeReady and Home Possible—which only require 3% down and have more flexible underwriting guidelines. The Conventional 97 loan also allows borrowers to make a down payment of just 3%.
Mortgages insured by the Federal Housing Administration (FHA) are a popular choice for first-time and lower-income buyers, requiring only a 3.5% down payment. Additionally, the FHA reduced borrower costs for 2023. According to NAR data, FHA loans made up 15% of all mortgages in 2022.
Military veterans have access to Department of Veterans Affairs (VA) loans, which typically feature lower interest rates and require no down payment. VA loans accounted for 9% of all mortgages in 2022, based on NAR data. USDA loans, offered by the Department of Agriculture, are designed for low- and moderate-income buyers in rural areas, and they also don’t require a down payment.
Some private lenders also offer zero-down mortgages, but each comes with its own set of guidelines and eligibility requirements.
It’s important to remember that loans with smaller down payments often require private mortgage insurance (PMI), which can be removed once your loan-to-value ratio reaches 80%.
Down payment assistance programs are another option, offering grants or loans to homebuyers at the time of purchase. There are over 2,000 programs across the U.S., with variations depending on the state.
Some companies offer supplemental cash at closing in exchange for a share of your home’s future equity, but these “shared equity” programs should be approached carefully. Sharga advises caution, as these programs are not heavily regulated, and borrowers should thoroughly review the terms before committing.
Tips for Home Buyers
Housing affordability has significantly decreased in recent years, with fewer potential buyers able to afford a 5% down payment compared to pre-pandemic times. However, there are still many mortgage options and assistance programs available to help.
“We are currently seeing a rise in down payment assistance programs, both nationally and locally, designed to help new homeowners bridge the income gap and cover the shortfall in down payment funds,” said Ralph DiBugnara, president of Home Qualified. “These programs work alongside Fannie Mae, Freddie Mac, and FHA loans, offering buyers low or no down payment choices.”
When you’re ready to start your home buying journey, be sure to consult with a local mortgage lender to explore your options.