Top 7 tips for buying your first home in today’s market

With lofty house prices and steep financing rates, today’s market shows little mercy for first-time homebuyers.

Since 2020, median house prices have soared by more than a third. On top of that, the Fed has hiked rates 11 consecutive times in the past year alone—bringing them from near zero to the current range of 5.25%-5.50%.

Fortunately, not everything is out of your hands. While you have no say in the Fed's policy decisions, you can deploy several strategies to land your first home at a reasonable price.

Not only that, higher rates can sometimes benefit buyers.

Read on learn how the Fed’s aggressive tightening campaign can actually help you—along with seven tips for buying a house today.

Crunching the numbers

Although house prices have retracted from peak levels, they remain high. And, of course, mortgage rates have followed the Fed’s interest rate trajectory.

In March 2022, when the Fed kicked off its current tightening campaign, the average 30-year fixed-rate mortgage in the United States was under 4%. As of the end of August 2023, the same term was well over 7%.

Although the difference might not seem significant, it is. Before diving into home-buying tips, it’s helpful to understand the implications of today’s high-rate environment.

Imagine you’re looking to buy a $500,000 house with a 20% down payment ($100,000). Ignoring property tax and insurance, what would your monthly payment on a 30-year fixed-rate mortgage look like in March 2022 compared to today?

In 2022, a 4% interest rate on a $400,000 mortgage ($500,000 less the $100,000 down payment) would cost you $1,909 per month.

The exact terms with a 7% interest rate would increase your monthly mortgage payment to $2,661.

That’s a $752 increase or a nearly 40% jump in monthly payments.

The top 7 tips for buying your first home in today’s market

While historically high-interest rates may be tough to swallow, it’s not all bad news. Rising rates tend to place downward pressure on home prices. As a result, the average sale price of a U.S. house has fallen from $552,600 in Q4 2022 to $495,100 in Q2 2023.

That’s a more than 10% drop in price.

Regardless, it’s still a tough market if you're just starting out. As a result, you should use every strategy you can to help make the most of the situation.

Improve your credit score

All else equal, borrowers with better credit scores tend to secure lower mortgage rates. Before applying for a mortgage, consider whether it might be worth addressing your credit health.

You can raise your score through a variety of approaches:

• Make timely bill payments: Ensure you consistently pay existing debts on time.
• Keep old credit cards open: The longer your credit history, the better. It’s often wise to keep old credit cards open even if they aren’t used much.
• Reduce your credit utilization: Credit utilization is the share of a loan being used. Lenders prefer borrowers with a history of a low credit utilization ratio. For example, spending $250 on a credit card with a limit of $500 implies a credit utilization ratio of 0.5 ($250 / $500). Although counterintuitive, spending $500 on a credit card with a $1,500 limit looks better to a lender. The latter example presents a lower ratio of 0.33 ($500 / $1,500).

Consider different loan types

There are two primary types of mortgages: fixed-rate and variable-rate. Fixed-rate mortgages provide a locked-in rate for the life of the loan which can range from 15 to 30 years. This means your payments will remain consistent and unchanged for that period.

On the other hand, the monthly payments on variable-rate mortgages, also known as adjustable-rate mortgages (ARMs) or floating-rate mortgages, can change throughout the period. The rates on these mortgages rise and fall according to the Fed’s interest rate decisions.

• When the Fed raises rates, ARM interest rates tend to increase, along with the monthly payments.
• When the Fed lowers rates, ARM interest rates tend to decrease, along with the monthly payments.

Variable-rate mortgages generally start with lower rates than comparable fixed terms. As a result, they are often very attractive to buyers—at least initially.

Of course, with ARMs, there is the risk that the Fed will hike rates, leading to higher monthly payments.

There’s also the possibility that the Fed does nothing, and your variable rate mortgage delivers a lower payment than a comparable fixed alternative for the term.

Or, even better, the Fed lowers interest rates, and you watch your mortgage payments fall.

So, which should you choose?

With interest rates at their highest levels in 16 years, many economists predict the Federal Reserve will soon pivot. That is, many industry experts expect rate hikes to pause and begin declining later in 2023 or early 2024.

While nothing is guaranteed, a rate pivot could hugely benefit homebuyers. If you believe the Fed is likely done raising rates, opting for a floating-rate mortgage makes sense.

If you’re correct, the monthly savings could be substantial.

Always negotiate

This tip may seem obvious, but it’s important to internalize. With rates as high as they are, demand for housing has slipped.

In March 2022, houses sat listed for an average of 36 days before being sold. One year later, in March 2023, that number grew to 54 days, a full 50% longer.

In other words, sellers aren’t receiving the same interest they once did. As rates have risen, the pool of potential homebuyers has shrunk.

It’s imperative to leverage the current environment to your advantage. Never accept the listing price, especially for a property that has been listed for months.

Use shorter terms

If you can afford it, consider opting for shorter terms. While most people select 30-year mortgages, you can obtain better rates on loans amortized over shorter periods.

While you’ll pay less interest over the life of the mortgage, shorter amortization periods will entail higher monthly obligations.

Work with a professional

Real estate agents sometimes get a bad rap, and often, it's warranted. But the right real estate agent can help you negotiate a substantially lower purchase price on your home.

Save for a large down payment

While this may not be an option for everyone, consider paying a larger down payment if you can afford it.

The more you pay in cash, the less you'll have to borrow. And the less you borrow, the less interest you’ll pay in interest.

Shop around

Mortgage rates can vary widely between lenders, so make sure you shop around for the best rates.

Even a fraction of a percent lower interest rate can add up to substantial savings over the life of a mortgage.

Looking forward

Yes, rising rates have driven monthly payments up, but they’ve also served to exert downward pressure on prices.

Although the environment remains challenging, first-time homebuyers can use numerous strategies to help secure a favorable rate on a reasonably priced house.

As you begin to navigate the housing landscape, consider working to improve your credit score. Decide which type of mortgage you want, and never accept the first price without negotiating.

If possible, use a shorter amortization term and work with a real estate agent. If you have the ability, drop a larger down payment and be sure to shop around.

After all, this may be the biggest purchase you ever make.