Through much of 2019, the U.S. saw housing affordability improve as incomes grew and interest rates decreased[1]. Clearly, the winds have changed. Since COVID-19, the housing market in the U.S. has dramatically changed. In fact, the average home price jumped 30% from February 2020 to November, 2021[2]. In light of such a stark rise in costs and higher interest rates, many would-be Millennial and Gen-Z home buyers are wondering if it’s just too late, and their parents are wondering if their financial support is the only way their adult children can possibly achieve home ownership. For many, the situation feels hopeless.
Has the U.S. been here before?
In the late 1970s, the U.S. was struggling with persistent inflation, much like the post-COVID-19 era. As a result, the Federal Reserve increased interest rates leading to mortgages in the upper teens! Were baby boomers priced out of homeownership during that challenging time? In the first quarter of 1981, the typical price of a single-family home was $66,800[3], while the average married couple earned $25,500 per year[4]. That’s an value to income ratio of about 38%. In 2022 the typical single family home price was $413,500[5], while the average married couple earns $115,300[6]. That’s an value to income ratio of about 28% and mortgage rates are far lower today than they were in 1981. When you compare the value to income of married couples in these two periods, would-be homebuyers in the early 80’s seemed to be in a bigger pinch.
So why is there so much concern about housing affordability? A recent Zillow article titled, “Buyers Need a $127,000 Down Payment to Afford a Typical Mortgage Payment” captures the current climate well. According to Zillow, “a median income household would need to put 35.4% down to afford the payments on a typical U.S. home”. I’m sure many parents with adult children, saw this article and thought, “$127,000?! The down payment on my first house was $10,000! Nobody can afford that!”
The Typical U.S. Home: Then and Now
As is usually the case, the headlines become much less concerning when you dig. It’s important to note what Zillow means by a “typical U.S. home”. From 1975 to 2022, the way Americans experience home and family has changed substantially. The typical single-family home has nearly doubled while the size of the families living in those homes has shrunk. In 1980, the average single-family home was 1,595 square feet. In 2022, the average single-family home had increased to 2,561 square feet[7] .
So why is this generation of Americans buying larger houses? One major contributor is that younger generations are delaying… almost everything. Americans are waiting longer to move out, get married, have children, start their careers and, yes, buy their first homes. When interest rates dipped in 2020, millennials, many of whom had delayed homeownership after the turmoil of 2008, leapt at the opportunity to buy their starter house (or step up their current home). By 2020, millennials had been in their careers for a decade or more, many were closing in on 40, were working from home, and had much more in the way of family obligations such as caring for children or even aging parents. Unlike Baby Boomers who purchased homes in their 20’s, time was not on Millennials’ side. What forty-year-old wants to move into a 1,200 square foot fixer upper on the wrong side of town and wait 10 years to step up in house?!
So, yes, the housing market has become more expensive, but not JUST because of inflation and interest rates. Over the course of four decades, Americans have changed how they “do” home. This leads me to believe that the current circumstance may require compromise, but things are not hopeless. A willingness to compromise on home size could go a long way towards making new home purchases more attainable for first home buyers without help.
What if I just want to bless my grown kids?
While the current situation doesn’t necessitate action on the part of Baby Boomers to rescue their adult children, it’s well understood that gifts given to adult children during a parent’s lifetime can have benefits that inheritances (or those given upon death) don’t, for both parties. Not only does the recipient benefit from the opportunity to buy their first home, start a business, or just enjoy a dependable car without a monthly payment, the gift giver benefits as well! Giving gifts allows the older generation to see their adult children enjoy the gift, and creates opportunities to share family values on the topic of finance. For example, a recent study found that, 18 to 35-year-olds, who received substantial housing related gifts, were more confident about their personal aspirations, whether career, marriage, or… whatever[8]. Provided you can afford it, helping adult children enjoy the comfort, security, and dignity associated with owning their own “four walls” is worth considering because it has economic and emotional benefits for all involved.
Tips for Helping Adult Children Buy a Home
Any strategy for helping adult children buy a house, should be well thought out and should be designed to empower them to make their own decisions about goals, priorities, financing, and so on. I encourage clients to do this by giving a predetermined, fixed amount, and requiring their children to secure their own financing.
Predetermined, fixed amount
By giving a predetermined, fixed amount you require your adult children to build the important skill of prioritization. I also encourage clients to offer a dollar-for-dollar match (up to a predetermined amount) in order to create more “skin in the game” for their kids. Doing so encourages the recipient to look at the overall picture and ask questions like: “Should I work some overtime to scrape together another $5,000 and get a larger match?” or “Do I really need 2,500 square feet?” Building the skills of prioritizing and problem solving into the process can create more wealth than the capital appreciation they’ll enjoy from home ownership.
Secure financing
In addition to having a fixed budget, it’s a good idea to require your grown children to secure their own financing. This is a good idea for two reasons: First, securing their own financing means he or she has to have the kind of money habits that demonstrate to a bank that they’re worthy of a loan, i.e. they need to demonstrate a record of paying their bills on time.
Second, by requiring them to secure their own financing you diminish the risk to your relationship that loaning it to them yourself or cosigning can cause. In my practice, I’ve seen a number of parents cosign or loan their adult children money, and have their hearts broken when their children didn’t keep their word. This can create a financial hardship and stress for the older generation, not to mention create more tension at your next Thanksgiving dinner!
We’ve all heard the saying “Give a man a fish, he’ll eat for a day. Teach a man to fish, he’ll eat for the rest of his life.” By giving a gift that’s a fixed amount and making your adult child secure their own financing you’re giving him or her a fishing pole and teaching them to use it.
Tax Considerations
Taxes are always important to keep in mind when giving a significant gift to adult children. There are many considerations, but I’ll share two big ones that are particularly relevant: The annual gift tax exclusion and the concept of a step-up in basis.
The 2024 annual gift tax exclusion is $18,000 per person or $36,0000 for a married couple. That means, if you’re married, you can give $36,000 to each of your children without creating a taxable event. This exclusion applies to each individual so if you’d like to help your daughter, who recently got married, buy a starter home you can give your daughter $36,000 tax free AND give your new son-in-law $36,000 tax free for a total tax-free gift of $72,000! If you’re really wanting to bless your kids, you can do the same thing year after year. This is a powerful tool for maximizing the transfer of wealth to the next generation without someone having to pass away first!
When considering giving a home to your adult children outright, the concept of a step-up in basis is extremely important. When you purchase an asset, the original purchase price is called the basis. As the asset appreciates, the increased value is taxable. When a person inherits an asset that has appreciated in value, for tax purposes, their basis is the value of the asset when it’s inherited, not when it was originally purchased. As an example, let’s say that a couple bought $10,000 of Apple stock in 1980 and kept it until their passing in 2040. Let’s assume this stock appreciated to $1,000,000 by 2040. That means the beneficiary could sell their inherited stock for $1,000,000 and not have to pay any taxes on the $990,000 in gains. That is a huge tax break! So, before giving an appreciated asset to your adult children while you’re living, proceed with caution. Depending on your goal and considering the gift tax exclusion, it may be more tax efficient to give a gift of cash while living and bequeath appreciated assets.
Final Thoughts
Provided you can afford it and have a good plan, there are strong emotional and economic benefits associated with giving gifts. Helping your children achieve home ownership could be particularly valuable to you and them. However, you should not feel pressured to rescue your adult children. Past generations have managed to become homeowners in similarly difficult circumstances. You should also be mindful that there are important character traits that can be strengthened by empowering the next generation to do their own decision making, and gifts should be given in a way that maximizes the growth of those traits. Additionally, giving a gift in a way that doesn’t protect both parties can put a terrible strain on important family relationships. Finally, giving a gift can have dizzying tax implications that can be difficult to understand. Whether you are concerned about the amount or type of gift, the potential effect of that gift on character and relationship dynamics, or tax implications; a financial advisor that is focused on the WHOLE picture can help you make sure nothing is being overlooked.
[1] Heath, K. (2024). How did COVID affect the housing market? Retrieved from https://www.fastexpert.com/blog/housing-market-after-covid/ on June 29, 2024
[2] The Fred Blog. (2022). Building home price indexes: Federal, S&P/Case-Shiller, and Zillow housing measures. Retrieved from https://fredblog.stlouisfed.org/2022/02/building-home-price-indexes/?utm_source=series_page&utm_medium=related_content&utm_term=related_resources&utm_campaign=fredblog on June 29, 2024.
[3] FRED Economic Data. Median Sales Price of Houses Sold for the United States. Retrieved from https://fred.stlouisfed.org/series/MSPUS on June 29 2024
[4] U.S. Census Bureau Median and Average Sales Prices of New Homes Sold in United States. Retrieved from https://www2.census.gov/programs-surveys/nrs/tables/time-series/historical-nrs/uspriceann.pdf
[5] FRED Economic Data. Median Sales Price of Houses Sold for the United States. Retrieved from https://fred.stlouisfed.org/series/MSPUS on June 29 2024
[6] Source: U.S. Census Bureau, Current Population Survey, 2022 and 2023 Annual Social and Economic Supplements (CPS ASEC).
[7] Statista Research Department. (2023). Average size of floor area in new single-family houses built for sale in the United States from 1975 to 2022 (in square feet). Retrieved from https://www.statista.com/statistics/529371/floor-area-size-new-single-family-homes-usa/ on June 29, 2024.
[8] Lux, M. & Sung, P. (2024.) The impact of within-family housing assistance on the certainty of young people’s (housing) aspirations in the Czech Republic. YOUNG Editorial Group, 32(2), 223-244. https://doi.org/10.1177/11033088231219091