Right now we are in one of those periods of steep, rapid appreciation of real estate values in Silicon Valley. It is nearly impossible for first time home buyers to save as fast as home prices rise, so what ends up happening is that affordability falls. I have seen this throughout my career whenever we have a steep seller’s market, multiple offers and bidding wars. In fact, Jim and I were in that same kind of market in the late 1980s when we were trying to purchase our first house.
Recently I heard about some nice folks who’ve been renting for 15 years while they saved their 20% down payment. In 15 years, home values have about doubled throughout Los Gatos, San Jose, and Silicon Valley.
Although it would have been hard to buy a home here with a 5% down payment in 2000 (it was an ultra hot market then, like today), there were periods when it would have been possible. We had a couple of corrections in the market when it shifted to a buyer’s market, and at those times, sellers were not so fussy about large downs.
How fast can you save? How much does waiting to buy a home cost?
For most people, saving a few thousand a month is a great goal. Unless you have stock options which will be available soon, though, most people cannot save fast enough to compensate for San Jose area home appreciation.
Today I logged on to MLS Listings and did some research. For this study, I pulled sales of single family homes in Cambrian with 1300 – 1700 square feet on lots of 6000 – 7000 square feet (so pretty typical Cambrian area homes). The time included is from Jan 1st to June 9th for 2015, 2014, and 2013. Please see the data and what it cost someone to wait:
The average price shot up $129031 between the same period of 2013 to 2014. It was a little better between 2014 and 2015, but was still $96,032 more than the same period a year earlier. Combined it’s a staggering $225,063, or around 30%, which is more than a typical down payment. In other words, waiting 2 years basically caused your down payment to evaporate! Not only that, but property taxes and all the closing costs would have jumped 30% as well.
It comes back to how fast you can save and if it’s worth it. To keep up with the pace of the last 2 years, you’d need to be socking away about $100,000 per year. And that’s to get into a very decent home – but not a luxury property in an exclusive area.
If you cannot take the time to save 20% or more, what to do?
Because our Silicon Valley real estate market is so red hot, it’s difficult to get offers accepted if the financing is FHA backed – but it is not impossible! The key is in finding homes that have been on the market for a longer period of time. They are unlikely to get multiple offers or bids. If yours is the only one, most sellers will welcome that FHA backed financing with 3.5% down. You cannot be fussy, though. Plan to go after homes which need work. In some cases, they may only be overpriced and the sellers willing to take your reasonable offer.
So what is a home buyer to do who does not have a large down payment?
There are options for San Jose area home buyers without a large down payment.
- Pull together at least enough for an FHA backed mortgage and buy what you can (condo, townhouse etc.) so that you have something tied to the real estate economy that can appreciate over time.
- With FHA, you can actually use gift money for your down payment, so if family or friends want to help you, that can happen.
- Because our market is over heated, you cannot be a picky buyer! Get over having the perfect first home. If you aim at perfection you will end up with nothing. For most people, the first home is not as nice as the place you were renting. That’s the reality of the market – you make a sacrifice now to gain equity for the long haul.
- Plan to go after homes which need work. In some cases, they may only be overpriced and the sellers willing to take your reasonable offer.
- Plan to “move up” once you have equity on the starter home, especially if you gain enough for a 30 year fixed, conventional loan
- If you can get 5-15% down, consider using an 80% first mortgage plus a 10-15% second mortgage and then work like mad to pay off the second loan.
- If those plans don’t work, you might look into buying property with a parent, other relative or friend. This can be tricky but may be the best way to get your foot in the door. It would be a “shared equity” purchase and the terms would need to be clearly defined before doing it (preferably with the help of a great real estate attorney).
What’s next with this crazy market? Can this appreciation continue?
I’d like to think that we are in for a leveling off period, while we catch our collective breath and allow a little calming. As we know, incomes are not keeping up with this housing inflation. At some point, buyers just cannot afford to buy, or decide that other areas are more attractive due to lifestyle improvements that come with lower housing costs. Irvine, California, for instance, is known for its good schools, nice climate, and many other good things. And it’s about 15% less than San Jose. Some families are electing to relocate there rather than here. And that’s just one example.
As for the buyers who saved and saved for years – normally such a good idea in and of itself – the homes that they could have bought with a small down payment appreciated so much as the years passed that they got priced out of the market and became permanent renters. As a permanent renter, at least in most places you do not control the increases in your lease payments. You don’t gain equity. And 30 years later, you don’t have a place to live without a monthly payment.
Do not fall into the myth that the most important thing is the down payment and drag out the time it takes to pull a good sized one together. With real estate, the old adage is often true that “he who hesitates is lost”.