Smaller homes in demand as affordability stymies buyers 

With affordability hovering around all-time lows, buyers are gravitating toward smaller homes.

Small homes — defined as homes under 1,000 square feet — are more in demand and have seen higher prices in January, according to research done by Zillow. 

The median price for a small home was up 13.2% year-over-year, far exceeding the rate of increase for large homes (3,000+ square feet), which was 5.3% for the same period. While sales were down for all types of homes year over year, the rate of decline was lowest for smaller homes, according to the data.

Smaller homes also had the lowest share of listings with a price cut, an indication that they are selling faster than their larger neighbors. Inventory of small homes was down more than 6% compared to a year prior, while medium and large homes saw their inventory rise by 10-11%, suggesting that demand for smaller homes is outstripping supply. 

Medium-size homes between 1,000 and 3,000 square feet also posted a price increase in the 13% range, but had a larger drop in sales and a higher percentage of price cuts compared to smaller homes.

The rising popularity of pint-sized properties reverses a trend from earlier in the pandemic, when homebuyers could tap into lower interest rates to get a larger home, perhaps farther from urban centers as remote work became prevalent.

With monthly payments nearly 10% higher in January compared to six months earlier, Amanda Pendleton, Zillow home trends expert, said demand for smaller homes will likely continue.

"Home shoppers have and will continue to make compromises to afford to buy, and smaller homes are usually a more affordable option," Pendleton said in an email. "But, it's a much friendlier environment to buy a home for those who can make the finances work. Buyers have more negotiating power, and more time to make sure the home they're buying is the right home for them and their family for the long term."

While expensive markets have generally been hit the hardest by the real estate slowdown, some, like Seattle and New York, are still seeing upticks in larger home prices.

"What this illustrates is that all markets — and even neighborhoods and price points — are moving at a different pace," Pendleton said.

Pendleton added that interest rates will have a huge impact on what happens next.

"While it's widely expected that rates will fall this year, mortgage rates shot up in early February, showing that no one can count on a consistent downward trajectory for rates this year," she said.

The trend toward smaller homes got its start last year as interest rates began to rise after a spike in home prices. The construction industry, perhaps sensing the affordability challenge, has been reducing square footage in new homes.

According to the U.S. Census data and analysis by the National Association of Homebuilders (NAHB), the median square footage of a single-family home dropped to 2,203 in the fourth quarter of 2022, the lowest level since 2011. 

The move toward smaller homes has also been seen in the luxury market, according to Coldwell Banker Global Luxury's most recent trend report. In the spring and summer of 2022, luxury homes with smaller footprints (2,500 to 3,500 square feet) sold 18.6% faster than high-end homes in the 5,000-square-foot range, the report found.

"Even though affluent consumers may actually prefer to have more space due to the changing role of homes as live-work-play-learn environments, tighter house budgets… may dampen sales of some large properties in the near future," said Liz Gehringer, president of Coldwell Banker Affiliates.