First-time homebuyers prefer lower interest rates to bigger tax breaks

Forget a two-car garage and a white picket fence — first-time homebuyers want lower interest rates.

A recent Redfin survey of homeowners who purchased their first home within the prior 12 months found lower interest rates were highest on first-time homebuyers’ wish lists. Of the first-time homebuyers surveyed about what the government can do to make homebuying easier:

66% said lower interest rates;
49% said tax credits;
45% said easing lending standards; and
24% said encouraging more home construction.

While tax credits are nice benefits for homeowners to have access to come tax season, they don’t actually help in the homebuying process. And yet, the federal government loses out on approximately $30 billion a year in tax revenue due to the mortgage interest deduction (MID).

This amount is equivalent to granting every first-time homebuyer a theoretical one-time refundable tax credit of $10,000, according to the Brookings Institution. The MID is worshipped by real estate professionals as a major enticing factor for homebuying. But homebuyers don’t have access to the savings until tax time (after they’ve purchased), and even then, it only makes a significant dent in their taxes as long as their mortgage payments consist mostly of interest.

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The mortgage interest deduction, explained

On the other hand, the factor least cited by first-time homebuyers — more residential construction — is likely to be the most helpful, since it directly translates to more inventory.

Here in California, residential construction decreased 5% for SFRs and 6% for multi-family units in 2019. This trend is the opposite of what needs to occur to meet the ever-rising demand for new housing across the state. The lack of inventory caused by the construction shortage over the past several years has led to home prices increasing well beyond the pace of incomes, lifting entry-level homes steadily beyond the reach of most first-time homebuyers.

The good news: lower interest rates are here

Fortunately for real estate participants of all types, mortgage interest rates are at an all-time low in March 2020.

The average interest rate on a 30-year fixed rate mortgage (FRM) is below 3.4% in mid-March, down from 4.3% a year earlier. All other factors being the same, this increase in buyer purchasing power alone allows the average homebuyer to borrow 10% more today compared to the same time last year.

This purchasing power boost is helpful for homebuyers hoping to qualify for higher prices. But the thing is, everyone else has access to the same low interest rates. Thus, today’s low interest rates will essentially act as a boost for home prices — not a boost for first-time homebuyers.

The true cure for today’s entry-level housing crisis will be more residential construction. California’s government is well aware of the housing market’s supply-and-demand imbalance and has been making efforts to add to the entry-level housing inventory for the past couple of years now. But, evidenced by 2019’s lower construction starts, these efforts continue to fall short.

Individuals can get involved and encourage more residential construction at their local level by being advocates for: