House Poor: Navigating the Challenges of Rising Housing Cost

House Poor is it Back in Vogue?

Surging Mortgage Rates Strain Budgets of New Homebuyers

Sep 19, 2023

Over the past year, mortgage rates have risen quickly in decades, doubling from 3% to over 7% for a 30-year fixed-rate loan. This seismic shift has drastically increased the monthly payments for homebuyers even as home prices remain elevated.

Many buyers are stretching their budgets to the limit to get into the housing market, becoming “house poor” with little money left over after making their mortgage payment. This phenomenon of house poor buyers appears to be back in vogue as affordability deteriorates.

According to real estate data firm Black Knight, a homebuyer’s average monthly mortgage payment reached $2,300 in July 2022. That’s an increase of 60% or $871 compared to last year. Over half of recent buyers are now paying at least $2,000 per month and one-fourth pay $3,000 or more.

Yet average monthly earnings are only around $4,600 for US workers. This means some homeowners could devote over 60% of their paychecks to housing costs. When factoring in additional expenses like property taxes and insurance, it’s easy to see how some buyers are left with little residual income after making their mortgage payments.

While house-poor buyers are stretching to buy now, they face risks if interest rates rise further or if home prices decline. Their tight budgets leave little room for managing higher expenses or saving for other goals.

Millennials Drive Demand Despite Affordability Challenges

Millennials have been driving demand in the housing market in recent years as they enter their prime homebuying years. But this largest generation now faces much lower affordability than previous cohorts.

Despite fast-rising mortgage rates and home prices, many millennials remain determined to become homeowners. After years of saving, some are willing to become house poor to attain the dream of homeownership finally.

This enthusiasm has helped propel millennial homebuying activity even as affordability has deteriorated. But it means more young buyers are taking on larger mortgage burdens that consume a substantial portion of their incomes.

While becoming house poor is often viewed as a temporary tradeoff on the path to building home equity, it’s a risky gambit if income growth or mortgage rates don’t cooperate. For now, millennials’ zeal for homeownership is overriding affordability challenges.

Remote Work Trends May Enable More Stretched Budgets

The rise in remote work during the pandemic has allowed some buyers to become house poor by relocating to more affordable areas. No longer tethered to a physical office location, these buyers can acquire larger or nicer homes for the same monthly payment.

For example, a buyer earning $100,000 per year can only afford a small condo in an expensive metro area like San Francisco or New York City. But if they move to a location with lower home prices, like Phoenix or Atlanta, they could potentially buy a single-family home with the same mortgage payment.

This dynamic has facilitated some buyers purchasing homes that stretch their budgets, assuming they can permanently work from home or take a pay cut. However, if remote work arrangements change in the future, these house poor buyers could be stuck with an unaffordable mortgage.

HELOC Risks Loom for House-Rich Buyers

Some buyers who have become house rich amid rapid home price appreciation are now tapping into their newfound equity to fund their next home purchase. These buyers are using cash-out refinances or home equity lines of credit (HELOCs) to come up with a down payment on their new mortgage.

This strategy is essentially doubling down on housing by withdrawing equity from an existing home to become house-poor on a new, larger mortgage. It epitomizes the speculative mindset permeating the housing market.

While it allows some buyers to purchase homes they otherwise couldn’t afford, it’s a hazardous approach. If home prices decline, these buyers could end up underwater on both their old and new mortgages. This could create a cascading liquidity crisis as HELOC balances come due.

The use of HELOCs and cash-out refis to finance down payments enables more stretched budgets but adds to systemic housing market risks. It’s another sign of frothy conditions driven by loose credit and bullish sentiment on home prices.

Are Adjustable-Rate Mortgages the Answer?

Some priced-out buyers are turning to adjustable-rate mortgages (ARMs) as a way to lower their monthly payments. The average 5/1 ARM rate is currently around 5.5%, meaningfully lower than the 7%+ fixed mortgage rate.

ARMs allow buyers to initially qualify for a larger loan than with a fixed rate by reducing their monthly payment. But ARM rates reset higher in the future, usually after 5-7 years.

During the housing crash, many subprime borrowers with ARMs could not afford their mortgages once rates reset. However, today’s buyers are generally more creditworthy. The question is whether their budgets will remain stretched once ARM rates adjust higher.

Seeking a lower monthly payment via an ARM allows more buyers to become house poor. But like interest-only loans, it’s a temporary reprieve that may sow seeds for issues down the road. Time will tell whether today’s ARM borrowers can afford eventual payment increases.

Housing Market Slowdown Could Catch House Poor Buyers

The sharp deterioration in affordability has cooled the scorching housing market, with sales slowing and price growth moderating. This slowdown could intensify, especially if the economy slips into recession.

If housing demand falls much further, prices could flatline or even decline in some markets. This poses risks for house poor buyers who stretched to buy near the peak of the market this year.

If home values stagnate or buyers owe more than their home is worth, it will be difficult to sell or refinance. Homeowners could find themselves stuck in an unaffordable house with rising mortgage payments as ARM rates adjust higher.

Meanwhile, if the job market weakens significantly, layoffs could further pressure house poor buyers. Those without sufficient financial cushions could be forced to sell or default on their mortgages.

While the housing downturn so far has been gradual, a deeper slump could expose the vulnerabilities of house poor buyers. Those who stretched to buy could face challenges ahead.

Becoming House Poor Requires Careful Consideration

Becoming house poor is back in vogue as many first-time homebuyers stretch to enter the housing market amid declining affordability. But this strategy requires careful evaluation of the risks.

Buying a home that consumes an outsized portion of take-home pay leaves little margin for error. Income disruption, rate hikes, or home price declines could quickly turn a manageable budget into an unworkable one.

On the other hand, being house-poor for a few years while building equity can be a reasonable tradeoff on the path to long-term homeownership. But buyers should enter into such a situation with eyes wide open to the potential downsides.

Owning a home is still considered an important milestone for many Americans. In today’s housing market, becoming house poor may be the only way for some buyers to attain that dream. While tempting, buyers should weigh if the risks are worth the reward.

Conclusion

In conclusion, the resurgence of “house-poor” situations underscores the challenges posed by escalating housing costs. As buyers tread this path, balancing the dream of homeownership with prudent financial planning is vital. Navigating these waters requires careful consideration of risks, potential income fluctuations, and a readiness to adapt to changing circumstances. While owning a home remains a cherished goal, it should be pursued with a clear understanding of the trade-offs involved, ensuring that the rewards outweigh the risks in the journey toward homeownership.

FAQs

Q: What does it mean to be “house poor”?
A: Being “house poor” refers to a situation where a significant portion of your income goes toward housing expenses, leaving little room for other financial needs or goals.

Q: Why are people becoming house-poor
A: Rising mortgage rates and soaring home prices have led many homebuyers to stretch their budgets in order to enter the housing market.

Q: What are the risks of being house-poor?
A: House poor individuals may face financial challenges if their income drops, interest rates rise, or home prices decline, potentially leading to difficulties in meeting housing-related expenses.

Q: Is becoming house poor a temporary or long-term situation?
A: It can be either. Some people choose to be house poor temporarily to achieve homeownership, while others may find themselves in this situation due to financial constraints.

Q: How can house poor buyers mitigate risks?
A: House poor buyers should carefully assess their financial situation, consider potential future changes in income, and ensure they have a safety net in case of unexpected expenses or financial downturns.

Q: Is becoming house poor worth it to own a home?
A: The decision to become house poor should be weighed carefully. While homeownership is a significant milestone, buyers should evaluate if the risks align with their long-term goals.

Q: What should house poor individuals do if their situation becomes unmanageable?
A: Seek financial advice and explore options such as refinancing, downsizing, or finding additional income sources to improve their financial stability.

Q: How does the housing market affect the house poor phenomenon?
A: Housing market conditions, including home prices and interest rates, play a crucial role in determining the prevalence and impact of house poor situations.

Q: Can remote work help house poor individuals?
A: Remote work can enable some to relocate to more affordable areas, potentially reducing housing costs, but it also comes with its own set of considerations and risks.