The red-hot pandemic-era US housing market is showing clear signs of cooling. Home prices were not yet declining as of mid-year—the median existing-home sales price reached a record $416,000 in June—but those high prices and rapidly rising mortgage rates were forcing many would-be buyers to the sidelines…and bidding wars and over-asking-price offers had become less common.

Is the housing market returning to normal? What does “normal” even mean for a market that endured both an epic meltdown and a stunning rally within the past 15 years? Bottom Line Personal asked real estate expert Andrew Lieb, Esq., where things stand in the housing sector…where they might be headed…and what homeowners and would-be homebuyers can do in response…

If you expect to sell your home soon, don’t wait. Home prices are headed into a downturn that’s likely to continue through at least 2023. High home prices—they’ve shot up 38% in the past two years through June—and increasing mortgage rates mean that homes are too expensive for many would-be buyers. That slows demand, which inevitably will lead to falling home prices.

This doesn’t mean that US homes are about to lose one-third of their value as they did during the 2008 housing crash. That crash occurred because millions of mortgage loans were made to subprime borrowers who really couldn’t afford them…and millions of homeowners ended up walking away from their homes because they owed more on their mortgages than the properties were worth. These days, many homeowners have strong credit scores and significant equity in their homes.

But there’s considerably more downside risk potential in today’s housing market. If you have been planning to sell your home in the next few years, it would be prudent to accelerate that schedule. And if you do sell, consider renting for a year or two rather than immediately buying a new home. Rents currently are steep in many parts of the country, but it’s better to pay high rent for a few years than buy a home that will lose significant value.

Warning: If you do buy a home in the coming years, don’t stretch your budget to do so. Owning a home you can barely afford in a declining market is a huge risk. If you stretch to afford your dream home and then your financial situation takes a hit, you might be forced to sell at a big loss…or borrow against the home’s value at an unfavorable interest rate.

Mortgage rates will continue to climb for the foreseeable future. As recently as early 2021, the average rate for a 30-year fixed mortgage was below 3%. But as of late July 2022, it had approached 6%. Those 3% rates helped drive the recent real estate rally…and today’s rising rates are a big reason why home prices are going to fall. How this rate increase affects potential homebuyers’ budgets: When rates rise from 3% to 6%, the monthly payment on a $500,000 30-year fixed-rate mortgage shoots up from around $2,100 to $3,000. A buyer who would have been able to afford a $500,000 home early last year now can afford one worth only $350,000.

There’s every reason to believe that mortgage rates will continue to rise. The Fed is focused on fighting inflation, and with inflation rates at their highest since the 1980s, that fight isn’t going to be won quickly or easily. The Federal Reserve chairman even has expressed a willingness to risk a recession to tame inflation. And it’s not like 6% mortgage rates are particularly high by historical standards—rates averaged more than 7.7% during the past half-century and soared above 18% in the early 1980s. The recent sub-3% rates are the exception.

Option for homebuyers hoping to minimize mortgage rates: Choose an ­adjustable-rate mortgage (ARM). The average introductory rate for a “5/1 ARM” was a relatively reasonable 4.18% as of late July, for example. But ARMs are not for the faint of heart—their interest rates are fixed for only the first three, five, seven or 10 years, depending on the ARM selected. After that, their rates reset regularly. Example: A 5/1 ARM has a five-year fixed-rate introductory period, then resets annually. That’s not a problem if you sell the property before the end of your ARM’s introductory rate period and/or if rates cool and you can refinance at a reasonable fixed rate—but if neither of those things occur, you could end up saddled with ever-rising mortgage payments.

The “great reshuffling” will be revised but not reversed. During the pandemic, millions of Americans abandoned pricy cities and suburbs for remote “exurbs” —locations too far from cities for daily commuters but close enough that residents can be downtown in a few hours…or they relocated from the Rust Belt to the Sun Belt. One key driver of this “great reshuffling” of where Americans live was remote work. Employers permitted employees to work from home during the pandemic. It appears that remote work is here to stay, which is good news for real estate values in parts of the country that have limited local employment opportunities—but not every off-the-beaten-track burg will continue to thrive. Now that the pandemic panic has passed, remote ­workers are inevitably going to start evaluating hometowns with a more critical eye. The two types of pandemic-era boomtowns that are likely to continue…

Towns and cities that were appealing destinations even before the pandemic. People didn’t move to South Florida, Arizona and lakefront properties across the country because they panicked during the pandemic—they moved there because they always wanted to. Remote-work simply accelerated their schedules—they didn’t have to wait until retirement. Now that the pandemic is over, that influx of financially successful former urbanites will attract espresso bars, four-star restaurants, boutiques and other trendy businesses, further boosting these areas economically…making them even more appealing to wealthy homebuyers…and preventing home values from falling far or remaining low for long even if the housing market declines nationwide.

Towns and small cities within two hours or so of big cities. Many remote workers need to head to the office once or twice a week. That should help protect the value of homes in the exurbs.

The home-price outlook is more troubling for parts of the country that don’t fit into either of these categories. Many urbanites who fled to Montana’s wide-open spaces eventually will realize that they miss what more developed parts of the US have to offer…and those who relocated to remote towns that previously lacked cachet are going to figure out why those places lacked cachet.

Remote work doesn’t just mean that people don’t have to live in big cities or surrounding suburbs—it means they can live anywhere or, in some cases, anywhere within a roughly two-hour radius of a city. So when considering how well a pandemic-era remote-work boomtown’s home values are going to hold up, ask yourself, If someone could live anywhere, why would they choose here?

Three more points worth noting about today’s housing market…

Great rooms are not great for work from home. Think twice before you remove interior walls to create an open floor plan or a massive master bedroom suite. Many homebuyers need home offices now, driving demand for houses with lots of separate, private spaces.

Energy prices are skyrocketing, but energy-efficiency home upgrades are not appealing to homebuyers. The cost of heating and cooling a home has shot up, and many homeowners are considering installing solar panels, geothermal heat pumps and other energy-saving items. These can save homeowners money and be good for the planet, but most homebuyers are unwilling to pay a premium for a home that has energy-saving features even if those features will reduce their future energy bills. In fact, many buyers don’t understand or trust the unfamiliar technology. This buyer hesitance might change if energy prices remain high and this technology becomes more common—but until then, make energy-efficiency upgrades only if it’s likely that you’ll remain in the home long enough for them to pay for themselves in the form of lower energy bills before you sell.

Homebuilding is starting to slow. In recent years, homebuilders have been slowed by sluggish supply chains and tight labor markets. Now they’re starting to slow down on purpose. Rising interest rates are making it expensive for them to take out the loans they need to buy land and finance construction—especially since land, building materials and labor remain expensive. Builders don’t want to end up selling at a loss or be stuck holding depreciating assets if home prices fall. On the bright side, slowing new-home construction might make it easier to find contractors for home-improvement ­projects, something that’s been a challenge lately in many parts of the US.

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