Affordability: It’s All Relative

Prices are getting lower, so it stands to reason that houses are getting more affordable — or, more accurately, less out of reach — in California. Still, I have a few issues with this California Association of Realtors news release, headlined “C.A.R. Reports Entry-Level Housing Affordability Increases 50 Percent in Second Quarter 2008 Compared with a Year Ago.”

The percentage of households that could afford to buy an entry-level home in California stood at 48 percent in the second quarter of 2008, compared with 24 percent for the same period a year ago, according to a report released today by the CALIFORNIA ASSOCIATION OF REALTORS(R).

C.A.R.’s First Time Buyer Housing Affordability Index (FTB-HAI) measured the percentage of households that can afford to purchase an entry-level home in California.

How does C.A.R. calculate affordability?

The minimum housing income needed to purchase an entry-level home at $329,120 in California in the second quarter of 2008 was $62,870, based on an adjustable interest rate of 5.69 percent and assuming a 10 percent down payment. First-time buyers typically purchase a home equal to 85 percent of the prevailing median price. The monthly payment including taxes and insurance was $2,100 for the second quarter of 2008.

At $62,870, the minimum qualifying income was 38 percent lower than a year earlier when households needed $101,440 to qualify for a loan on an entry-level home. Recent decreases in home prices and mortgage rates have brought affordability into better alignment with income levels of the typical California households, where the median household income is $59,160.

The median price of a California single-family resale home is around $370,000, so $329,000 is about 85 percent of that.  But what about the loan — an “adjustable interest rate” of 5.69 percent? Why an adjustable?  Because they’re about a percentage point lower than a fixed-rate loan, which allows more people to “qualify” for a house.  But in the long run, payments are likely to rise — often by quite a bit.

Furthermore, the scenario assumes 10 percent down.  Most loans that take under 20 percent down require private mortgage insurance, or PMI, to the tune of about one-half of one percent of the loan amount. 

Let’s look at the entry-level home more realistically.

Price:  $329,120
Down payment: $32,912 (10%)
Loan amount:  $298,108
Monthly principal and interest payment on a 30-year fixed-rate loan at 6.32% (the overnight rate at bankrate.com): $1,849
Taxes: $308 per month ($3,700/12 months)
Private Mortgage Insurance: $137 per month
Property insurance:  $50 per month
Total Monthly Payment:  $2,344

That’s over 10 percent more than the monthly payment C.A.R. is quoting.  As far as the “minimum qualifying income” of $62,870:  That’s a gross monthly income of around $5,240 per month.  Take-home pay would be about 65 percent of that, or about $3,500 per month. 

Spending 60 percent to 70 percent of one’s take-home pay on a mortgage payment does not sound very affordable to me.  Or wise.

I’ll agree with C.A.R. that home prices are moving in the right direction. But they still have a long way to go before they’re truly affordable.

Recent Redfin posts:
What I Learned About Home Ownership Costs:  The Treetop View
Free Home Designs:  Gimmick or Great Idea?
More on the Neighborhood Pages:  Los Feliz