The First-Time Homebuyer Squeeze

According to CNNMoney.com, changes over the past year such as higher interest rates and home prices have made it even more challenging than ever for first-time home-buyers.  Starter homes in many areas of the country could cost several hundred dollars more per month today compared to last year.  

Nationwide, median home prices rose at annual rate of more than 10 percent in the first quarter of 2006, according to the National Association of Realtors.

Meanwhile, rates on adjustable rate mortgages, the most common for first-time buyers, are up more than a percentage point.

If you can't put down 20 percent -- as many first-timers can't -- your monthly bite is likely to be larger because you'll have to take out a bigger loan and you may have to pay for private mortgage insurance, which can run up to $50 for every $100,000 in mortgage debt.

Remember, too, the additional costs cited here do not include the cost of homeowner's insurance and property taxes, which also have been on the rise in many markets, as have utility costs.

To compensate, most first-time home buyers ratchet down expectations about what kind of home they can afford once they figure out how much a home will really cost.  They may shop in less expensive neighborhoods far from their original preference.  Some buyers choose communities up to 20 miles from where they really want to live.   First-time home buyers are also more likely to opt for fixer-uppers rather than move-in condition housing if it helps get them into their first home.  

In terms of financing, many banks are willing to offer 100 percent financing so long as a buyer has good credit and liquid assets equal to 5 percent of the purchase price.  Some are even willing to finance 103 percent, in order to cover the buyer's closing costs as well.

In some cases, the difference between first-time buyers last year and now is greater willingness to go for an interest-only loan if that's the only way they can afford the purchase. The hope being that they will build equity over the next five years via price appreciation, rather than through their monthly payments.  The catch is that while these loan structures may pay off in a booming housing market, buyers run the risk of owing the bank should they have to sell when prices are down. At the very least, if prices flatten, they'll have to pay for the selling costs. 

Another option, of course, is to drop the search for now and work on building a bigger down payment either by saving more or taking a second job, Francis said.  And if a first-time buyer lives in a market where home prices have showed signs of cooling, it may pay to wait a little and rent in the meantime.