Recessions and falling home prices aren't anything new. Housing prices took a nosedive during the Great Depression of 1929 and, in hindsight, that housing recession wasn't really a good time to buy real estate in the short term because it lasted until 1939.
Dating back to 1945, there have been 11 recessions that have taken, on average, 11 months to reach their lowest point. Many of them shared drops in stock prices and consumer confidence—and they were all good times to buy real estate.
You should know all the pros and cons regardless before you plunge in.
Before You Buy: Be Honest About Your Finances
The question isn't really how low can prices go during a recession. It's how much real estate you can afford to buy before prices go back up. Paying your mortgage and riding out the downturn is just as important as finding a low-priced home.
Make an honest appraisal of your own financial circumstances and use our mortgage payment calculator to determine what you can afford.
Understanding how solid your finances are is just as important during a recession as finding a good deal on real estate. For example, job instability can turn even a bargain home purchase into financial hardship. If you’re a business owner, gauge how likely it is that your business will continue to thrive in the current economy.
Advantages of Buying During a Recession
Prices Are Lower
Home values tend to fall during a recession. So, if you’re searching for a home, you’re likely to find:
- Homeowners who are willing to lower their asking prices
- Homeowners doing short sales to get out from under their mortgages
- Banks selling foreclosed properties
Each of these scenarios typically results in purchases prices below or well below what the home would demand during a healthy economy.
For example, the average sale price of a home from January to March 2007 was $322,100. When the Great Recession hit the following year, home prices fell. They hit their lowest point two years later, averaging $257,000 from January to March 2009.
During that same time frame, foreclosures more than doubled from less than 150,000 to more than 350,000.
The combination of reduced pricing and more foreclosures brings cheaper homes into the market.
Rates Are Lower
Along with falling home prices, recessions tend to bring falling mortgage rates. The housing industry plays an important role in the economy. So, by lowering mortgage rates during a recession, the federal government hopes to buoy home sales by making it cheaper to borrow mortgages.
In late January 2007, the average rate for a 30-year fixed-rate mortgage in the U.S. was 6.25%. Two years later, in the thick of the recession, the same rate dropped to 5.10%. That 1.15% drop would reduce your monthly payment on a $300,000 mortgage by nearly $220.
Drawbacks to Buying in a Housing Recession
Not every home you spot for sale will be a good deal. Some of the lowest-priced homes will be those that require repairs, so you should be able to tell the difference between a major rehab or a home that just requires small cosmetic fixes.
One of the reasons you may encounter homes that need more work than usual is time. If the homeowners moved out or the home was foreclosed, it may have been sitting vacant for months without any upkeep.
Be Wary of Foreclosures and Short Sales
Foreclosures and short sales abound in poor economies. Mortgage defaults affect home values, and nearby homes often feel the effect of foreclosures, especially when many foreclosures have been filed.
In a foreclosure, the lender seizes the home because of non-payment and transfers the title to its name. In a short sale, the homeowner sells the home for less than what he or she owes, in order to avoid foreclosure.
Homes in foreclosure or up for short sale often sell for below market value, which makes them an enticing option for homebuyers. However, these homes often come with a variety of issues:
- Short sales often involve multiple lenders and take a long time to close
- Homes may show severe damage due to prolonged vacancies
- Foreclosed homes are sold as-is, in many cases
While foreclosures and short sales may have great price tags, you'll likely encounter issues along the way that you would face with a home in good standing.
Don't Neglect a Title Search
In the frenzy of hoping your foreclosure or short sale closes, it’s important to make sure your realtor sets up a title search. These searches are important because they verify that the home’s title has no issues.
Sellers in financial distress might not just be underwater on their properties. They might owe others considerable money as well. For example, a homeowner may hire a contractor to do a kitchen renovation. When the recession hits, the homeowner can no longer afford to pay the contractor. So, the contractor files a “mechanic’s lien” that requires payment before the home is sold.
Be sure to have a thorough title search done to ensure that there aren't any liens placed against the property by contractors, taxing authorities, or lending institutions. You don't want to have to deal with these headaches after you buy your home.
The Bottom Line
Buying a home in a recession isn’t quite as simple as it seems, so it’s important that you remember a few key principles during your home search.
If you want to get a home for as little money as possible, prepare yourself for a lengthy closing process. Banks tend to draw out short sales and foreclosures, leading to frustrations for the buyer and seller.
If you have the money to buy a home, there’s a good chance you’ll get a better rate on your mortgage than you would prior to the recession. Don’t jump at the first rate a lender offers; shop around.
Recessions force homeowners to sell when they aren’t ready, which can cause frustration and sadness. Realize that what may be an ideal timeline for you may not be an ideal timeline for the homeowner.
Frequently Asked Questions (FAQs)
How does a recession affect the real estate market?
Recessions typically depress prices in most markets, including real estate markets. Bad economic conditions could mean there are fewer homebuyers with disposable income. As demand decreases, home prices fall, and real estate income stagnates. This is just a general rule of thumb, and during real-world recessions, housing prices may not necessarily go down, or they may experience volatility in both directions.
How do you invest in real estate to prepare for the next recession?
One of the worst financial mistakes you can make before a recession is to overextend your budget. If you're considering investing in real estate, ensure that you have plenty of room in your budget to afford the investment. If you invest in real estate before a recession, and then you're forced to sell during a recession, you'll likely lose money due to market declines. If you're worried about affording a full home investment, you can make smaller investments in REITs.