While historically low mortgage rates might make homes appear more affordable, they may be overshadowing a the start of a problematic trend, according to Zillow.
By looking at an affordability index and a price-to-income ratio, Zillow researchers have determined that overall home prices are actually significantly more expensive than historic norms relative to annual incomes.
Measuring the percentage of homeowner’s monthly incomes devoted to housing payments, the affordability index found that homeowners spent less toward their monthly mortgage payments during the pre-bubble period from 1985 through 1999.
During this period, Zillow found that homeowners spent 19.9% of their monthly income on their mortgages.
Because of the historically low interest rates currently hovering around the 3%-4% range, according to Zillow, homeowners at the end of the fourth quarter of 2012 were spending only 12.6% of their monthly income on mortgage payment.
While the percentage seems lower, it is in roughly 37% lower than historical norms, Zillow notes.
Historically, the typical median home in the U.S. costs 2.6 times as much as the median annual income, according to Zillow.
For example, if the median income in an area was $100,000, then the median price of a home would then be about $260,000.
Even though home prices have been steadily increasing in the past year, median wages have not kept pace.
Because of this phenomena, Zillow notes, once rates rise and “the illusion of affordability” disappears, the market will be left with homes that could be potentially too expensive to afford on a typical median wage.
“The days of historically high levels of housing affordability are numbered,” said Zillow Chief Economist Stan Humphries. “Current affordability is almost entirely dependent on low interest rates, and there’s no doubt that rates will begin to rise in the next few years.”
This will have an undeniable effect on housing demand, says Humphries, as home buyers will have to spend more of their incomes to buy a home.
“Home values will have to either remain stagnant while incomes catch up or, quite possibly, home values will have to fall in some markets,” said Humphries. “This will especially be the case in some markets that have seen strong home value appreciation.”
Written by Jason Oliva
