Forget your dream home. Five years in a starter home could put $43,000 in your pocket

December 10, 2019 - 7 min read

The first-time home buyer dilemma

Home prices are on the rise, and the stock of affordable housing on the market just keeps getting smaller.

That means it’s more important than ever to know what to look for in a starter home.

Experts say: Don’t aim for amenities like stainless steel appliances or hardwood floors in your first house.

Instead, look for an affordable home that will build equity over the next few years.

If you invest in the right starter home, it could give you the cash returns needed to buy your dream home in just a few years.

Want to see what you could afford today?

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Starter home inventory remains low

It’s common for a first-time home buyer to dream of their first property having lots of space and modern amenities.

But with a shortage of affordable housing on the market today, many are holding off on their “dream” home in favor of a home they can actually afford.

“I think first-time buyers are realistic and are looking for homes they can afford,” says Gay Cororaton, director of housing and commercial research for the National Association of Realtors (NAR).

“But they are facing a dearth of homes in the price point they can manage.”

“First-time buyers are realistic and are looking for homes they can afford. But they are facing a dearth of homes in the price point they can manage.” —Gay Cororaton, Director of housing and commercial research, NAR

So, how can you find an affordable starter home that fits both your budget and your needs?

The trick is to start shopping with clear expectations. Know exactly what you’re looking for in a starter home — and what you could do without in a pinch.

What to look for when buying a starter house

Wondering what to look for when buying a starter home? If money is tight, experts say, prepare to do without some amenities.

  • Starter home "nice-to-haves"
    • Hardwood floors
    • Stainless steel appliances
    • Smart features
    • Swimming pool
    • Newly remodeled bathrooms, kitchen

But don’t feel like you have to compromise on the overall quality of the home or neighborhood.

Certain things should always be on your “must-have” list when buying a starter house. Things like:

  • Starter home "must-haves"
    • Structural integrity of the home
    • Enough bedrooms, bathrooms
    • Neighborhood safety
    • Reasonable commute to work
    • Quality of schools in the area

And of course, know your budget.

Make sure you get pre-qualified by a mortgage lender before you start shopping. Your home buying budget may be a lot bigger — or a lot smaller — than you think.

Get pre-qualified for financing. Start here

“Realistic expectations” when buying your first house

Kara Stachel, an attorney with Stachel Law Planning, believes first-time home buyers need to be sensible and practical.

“[First-time home buyers] tend to dream big,” says Stachel. “But they often end up having those dreams quickly crushed when they get the estimated costs for their closing from their lender.

“Instead, first-time home buyers should focus on finding a home that will be an investment for the future.

“First-time home buyers should focus on finding a home that will be an investment for the future.” —Kara Stachel, Attorney, Stachel Law Planning

“It should be an affordable property. But they should also expect it to appreciate in value in the next three to five years.”

They should also aim to build equity “that can be applied to a future home,” Stachel continues. “That future home can be more in line with the expectations first-time buyers have initially.”

Moving from a starter house to a bigger one

If you’re compromising a little on your first house, remember that you can likely work your way up to a bigger, better place in the near future.

“The trick is to think long-term,” says Rick Albert, real estate consultant, broker, and investor.

“Understand that by buying something small today, you can sell and utilize the equity. Or, you can keep the home as a rental and make more income to qualify for higher loan amounts.”

  1. Start with a small home or condo
  2. Rent out one room or unit to help pay for the mortgage
  3. Use equity built in the first home to buy a bigger one
  4. Repeat

Albert personally chose the latter option.

He bought a condo starter home, rented out the second bedroom, and built up equity.

He used a home-equity line of credit on that condo as a down payment to purchase a house.

Then, he converted the garage to a rentable guest dwelling that he and his wife currently live in. The main home is rented out to a tenant.

Albert is saving up the rent money he collects for a bigger, better move-up home. All the while he has the condo being rented out.

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Five years in a starter home could put $43,000 in your pocket

Albert recommends living in your starter home for at least two to three years before making a move.

“This way, you can build up equity and take advantage of tax savings on any potential profit you earn,” he says.

Say you bought a starter home today at the current national median price of $270,900.

Cororaton says you can expect a price appreciation of $43,000 after five years. That’s assuming your home appreciates at the normal 3% per year.

" can expect a price appreciation of $43,000 after five years. That’s assuming your home appreciates at the normal 3% per year.”

“That $43,000 is enough to make a 10 percent down payment on a move-up home that’s median-priced at $314,000,” says Cororaton.

But the length of time it will take you to build up enough equity in savings to think about moving up may vary.

“It depends on the area your home is located in. It also depends on whether you upgraded any parts of your home,” says Stachel.

“Some buyers see significant returns on their home purchases in as little as two years without making any upgrades. For others, it may take five to seven years.”

The moral to this story?

“Be patient. And don’t be picky with your first home,” Stachel adds. “A home that may not initially be your dream home may have the potential to be your dream investment.”

Experts weigh in on buying your first house

Experts offer advice on where to compromise when considering homes.

Stachel suggests that starter home buyers should consider sacrificing higher-end features like stainless steel appliances, smart devices, and hardwood floors.

“All of these items can be added by the buyer after closing for far less than they’d pay for them in a turnkey home,” says Stachel.

Many amenities can be added later on for a lot less than you’d pay to purchase a turn-key home.

Albert recommends also doing without an in-unit washer and dryer if you purchase a condo.

“And a swimming pool is an easy thing to sacrifice, considering the cost of maintenance, water, and supplies,” he notes.

Things not worth sacrificing are quality of the local schools and quality/safety of the neighborhood, Cororaton recommends.

Overall structural integrity is another thing you don’t want to cut corners on.

Don’t sacrifice structural integrity or a home inspection. Hidden issues can be incredibly costly to repair.

“There are hidden costs and a lot of lost time and resources that can go into needing to repair a home with structural issues,” says Albert.

For these and other reasons, don’t sacrifice having a home inspection conducted.

“Structural issues, which a home inspector can discover, can turn your home from an investment into a money pit,” Stachel cautions.

More affordable homes on the market in 2020?

The problem many first-time buyers are facing is that there’s currently a lack of affordable homes on the market.

“In October, the median price of existing homes rose 6.2% to $270,900,” says Cororaton.

And yet, “hourly wages only rose 3%. And fewer homes are being sold in the $250,000 or below price point compared to one year ago.”

She adds that, at the end of October, the inventory of homes sold was at 1.7 million – equivalent to 3.9 months of the monthly level of demand.

“That’s well below the normal six months of housing supply we’d like to see,” says Cororaton.

Forecasts say that by late 2020, about 55% of homes could be selling for less than $300,000.

The good news is that economists at Capital Economics are forecasting an increase in new homes sold for less than $300,000.

That’s up to 55% by late 2020 from less than 50% currently. The result would be a spike in overall housing starts to 950,000 annualized.

Find your perfect starter home

Compromising on amenities doesn’t mean compromising on quality. If you know exactly what you need in a starter home, you can compare houses at that price point to find just the right one.

The first step is to nail down your budget. Do that by getting pre-approved for financing so you know what you can afford.

You can get started right here.

Time to make a move? Let us find the right mortgage for you

Erik J. Martin
Authored By: Erik J. Martin
The Mortgage Reports contributor
Erik J. Martin has written on real estate, business, tech and other topics for Reader's Digest, AARP The Magazine, and The Chicago Tribune.