Taking the step to buy your first home may feel like a leap — across a canyon. You will probably be spending more money at once than you have ever spent in your life, and committing to spend even more money that you don’t have, all while becoming responsible for something that won’t necessarily love you back.
To make matters worse, 2018 presents a new set of problems for rookie home buyers: a new tax law whose full effects have yet to be felt on homeowner taxes or property values; record low inventory; tough credit; and rising mortgage rates.
So should you make that leap? What Will the New Tax Law Do to Home Values?
How the new Republican tax plan approved late last year will affect housing isn’t completely clear yet, but buying a home in 2018 will likely become more expensive, especially for buyers who live in high-tax states. Taxpayers used to be able to deduct all of their state and local taxes, including property taxes, state income taxes and city income taxes, from their federal taxes. Now those deductions are capped at $10,000 — and at $5,000 for married taxpayers filing separately.
In New Jersey, for example, the average 2017 property tax bill was $8,690 across the state, according to the New Jersey Department of Community Affairs, and more than $11,000 in counties that make up the suburbs of New York City. Those homeowners are likely to blow past the new deduction cap before they’re even done with their property taxes.
At the same time, the standard deduction has been raised to $12,000 for single filers and married people filing separately, $18,000 for a head of household and $24,000 for married couples filing jointly. So in 2018, it may make more sense for taxpayers to take the standard deduction instead of itemizing and taking the state and local tax deduction.
For taxpayers who decide to continue itemizing instead of taking the higher standard deduction, the cap on how much of those taxes can be deducted will no doubt hurt, said Sheila Brandenberg, a C.P.A. who serves on the personal finance planning committee for the New York State Society of C.P.A.s. “For most of my clients, those two numbers were over $10,000 when you added them together. They’re losing that benefit,” she said.
And tax changes affecting mortgages are also likely to hurt first-time home buyers — or any of us who can’t afford to buy a home with cash. That’s because the tax law cut the deduction for mortgage insurance premiums, those monthly payments tacked onto most mortgages when the buyer makes less than a 20 percent down payment.
The mortgage interest deduction has also been lowered: mortgage holders could previously deduct mortgage interest on up to $1 million of a mortgage. For 2018, that has been lowered to $750,000 (or $375,000 for married taxpayers filing separately).
“The tax laws used to have a heavy tax incentive skewing the decision-making process in favor of homeownership. It’s been largely eliminated, in my opinion,” said Stephen M. Breitstone, partner and chair of the Private Wealth and Taxation Group at Meltzer, Lippe, Goldstein & Breitstone.
Most parts of the new tax law, including the state and local tax deduction cap and the new mortgage interest deduction limit, are set to expire in seven years. B ut “it’s almost impossible to predict,” Mr. Breitstone said, whether or not that will actually happen. “We just don’t know what the economy will be, what the state of deficits will be.”
How all of this will eventually affect potential buyers’ attitudes — and therefore home values — is unclear. “We’re going to have a year or two or three of price discovery,” said Jonathan Miller, president of the real estate appraisal firm Miller Samuel.
Is There Anything to Buy?
Even for those ready to buy, historically low inventory around the country, especially in the entry and midpriced levels of the market, is raising prices for what is available, said Lawrence Yun, chief economist and senior vice president of research for the National Association of Realtors. Total housing inventory at the end of January rose 4.1 percent to 1.52 million existing homes for sale, but that is still 9.5 percent lower than it was in January of last year, and the number has fallen year-over-year for 32 consecutive months.
“During the housing recession, there were many Wall Street investors who came in and scooped up some properties that used to be for owner occupancy, but they purchased to rent it out,” Dr. Yun said. “Wall Street investors are not unloading those properties, so that part of the inventory has been taken out of the market.”
And even as the population has grown, Dr. Yun said, “building has been under historical records for the last decade,” compounding the problem.
Plus, many homeowners who may want to trade up aren’t doing that. “I think buyers are going to be more pessimistic than sellers. Sellers are going to just not sell if they don’t get their price,” Mr. Miller said. “In the New York City metro area, there is a clear shortage of entry to midrange properties, and an oversupply of luxury apartments.”
This all means that whatever is out there right now for that entry to middle market is more expensive than it would otherwise be, Dr. Yun said, by “six to seven percent, which is about three times as fast as people’s income growth.”
He doesn’t expect available housing stock to return to normal levels for “at least a couple of years,” he said. “The worst in the inventory shortage may be coming to an end, but it will still feel like a shortage even into next year.”
Morris A. Davis, chair of real estate and professor of finance at Rutgers Business School, warned of another factor that could keep housing inventory low, or pinch it further: millennials.
“There’s a massive slog of potential first-time home buyers about to hit the marketplace,” he said. “Many of them are in prime childbearing age, and the single most predictor of whether or not you buy a home is whether you have children.”
Could You Give Me Some Credit?
Financing to buy a home continues to be tight because “we’re still in the hangover phase of the financial crisis,” Mr. Miller said. “Credit conditions are so tight that when a borrower is at the closing table, they get the feeling that the lender is still looking for reasons not to lend up until that moment.”
And that is affecting not just first-time buyers but also current homeowners who might want to move. Homeowners who think they will have trouble getting a new mortgage may decide not to sell and upsize or downsize, keeping all those homes off the market.
In the short term, Mr. Miller said he expects rising interest rates to reduce affordability, although that could ease credit conditions in the long term. Higher interest rates generally give banks more of a spread between the lower rates at which the banks borrow and the higher rates at which they lend to consumers. “When the spread’s very narrow, because you can’t go much lower than things are right now, you’re risk averse as a lender,” he said.
With interest rates currently at 4.54 percent for a 30-year-fixed rate mortgage per Bankrate — which is still a relatively low rate, despite having increased in the last year — lenders don’t have much incentive to lend. But higher interest rates could change that and eventually make it easier for first-time buyers to get a mortgage.
Where Do I Want to Be?
The tax bill’s changes are still shaking out, but at least first-time buyers won’t feel sucker punched like those who bought their homes in the last few years and planned to take advantage of deductions that no longer exist. If you are a first-time buyer in 2018, you have the advantage of going in with your eyes wide open.
And as Dr. Davis noted, even when the tax code made owning a home a nice big deduction, the idea of a home as an investment was a shaky one. “It doesn’t have a great risk profile,” he said. “You’re taking a huge financial investment in exactly the same location that determines your labor income.”
Any asset that isn’t risk-free, he added, “has a recession risk in it, so if there’s any bad shocks to hit the U.S. economy and we walk into a recession, or the inflation rate rises, housing prices can change.”
Dr. Davis and brokers will likely tell you that what your decision should come down to is not so much whether you will make money off your home, or how much of a tax break you will or won’t get, but where you want to be — and for how long.
“A first-time home buyer is taking a bet on a metro area, and the first thing I’d ask the first-time home buyer is: Are you willing to commit to this metro area and this school district for the next 10 years,” Dr. Davis said, assuming you have or plan to have children. If the answer is yes, he added, “they shouldn’t really worry about whether prices are three percent higher than they should be.”
That is what pushed Cornelius Graubner and Lucian Leung-Graubner, who rent in Williamsburg, to start looking at homes in areas within an hour’s commute of New York City. “Thinking about long term, we want a place that we can really stretch and grow,” said Ms. Leung-Graubner, 32, a program manager at a community-based organization in adult education. She means that in a very real sense of the word: She wants a “garden in my backyard beyond growing little herbs.”
Mr. Graubner grew up in rural Germany; Ms. Leung-Graubner in Jackson Heights. While they are factoring property taxes and potentially higher interest rates into their decision — Mr. Graubner, 39, a product manager for a risk analytics company, has it all modeled on a spreadsheet — their goal to have more space, in a more permanent spot, in a community they like is more important.
“We’ve always said we wouldn’t mind waking up in the morning and not seeing the neighbor first thing,” Mr. Graubner said.