WASHINGTON – First-time buyers seized on a tax credit, combined with low mortgage rates and falling prices, to boost home sales in October to their highest level in 2 1/2 years.

Home sales are now nearly 37 percent above their bottom in January, though still 16 percent below their peak in 2005. At the current sales pace, there's a modest seven-month supply for sale. Bidding wars are occurring in some areas.

Analysts, though, said the gains mainly reflected the homebuyer tax credit, which had been due to expire on Nov. 30. Earlier this month, Congress voted to extend it until spring — and expanded it to more buyers.

The report Monday from the National Association of Realtors pleased investors on Wall Street. Analysts said the homebuyer tax credit will help sustain the housing market next year.

Yet the overall economy is likely to benefit only slightly from higher home sales.

Too many factors are weighing on the fledgling recovery. Home construction is weak. Foreclosures are rising. Job creation is slow. And consumers remain reluctant to spend.

Though housing is contributing to growth, other parts of the economy must turn around if the recovery is to gain strength, analysts said.

Residential spending has gone from being a drag on the overall economy to a positive force, but "I wouldn't want to bet the house on housing, really, in terms of the strength of the U.S. economy going forward," said Diane Swonk, chief economist at Mesirow Financial in Chicago.

The Realtors group said resales rose 10.1 percent to a seasonally adjusted annual rate of 6.1 million in October, from a downwardly revised pace of 5.54 million in September. It was the biggest monthly increase in a decade, and far above the 5.65 million pace economists expected, according to Thomson Reuters.

"People who are looking, they are serious," said Harrison Tulloss, an agent with ZipRealty Inc. in the Raleigh-Durham area of North Carolina. "They're not riding around with me if they need to go shopping or buy a turkey."

Investors seized on the better-than-expected home sales, along with a falling dollar, to snap up stocks. The Dow Jones industrial average and other stock indexes rose more than 1 percent in mid-afternoon trading.

The strength in home sales helped ease the market's pessimism that followed weaker data on housing starts, employment and consumer confidence over the past few weeks. The falling dollar contributed to the rally, on the expectation that a low dollar will keep interest rates low. Low rates make it cheaper for companies to borrow and investors to finance purchases of stocks and commodities.

Stocks also were helped by momentum buying, with investors buying stocks simply because the market is rising and no one wants to miss out on the rally.

The recovery in the housing market is being driven by reduced prices, combined with federal programs to lower mortgage rates and bring more buyers into the market. The median sales price was $173,100. That's down 7 percent from a year earlier and off roughly 2 percent from September.

Many experts, though, predict prices will hit a new low next spring, perhaps falling another 5 to 10 percent, as more foreclosures get pushed onto the market. The government has tried to counter that trend by offering a tax incentive for first-time buyers and by keeping mortgage rates around 5 percent since the spring.

"The only reason we're seeing good numbers is because of government policies that are propping the market up," said Patrick Newport, an economist with IHS Global Insight. "Housing is still fundamentally weak."

The biggest contribution the housing industry makes to economic growth is from home building. Commissions and fees generated from home sales also help, but far less than construction does.

The tax credit of up to $8,000 for first-time owners was originally set to expire on Nov. 30. But Congress renewed it earlier this month and broadened its reach. People who have owned their current homes for at least five years can now claim a tax credit of up to $6,500 for a home purchase. To qualify, buyers must sign a purchase agreement by April 30.

The Realtors' report on October home sales reflects offers made before buyers knew the tax credit would be extended. In Raleigh, N.C., first-time buyer Louise Brunson snapped up a three-bedroom,town house for $235,000. She and her husband first planned to buy 1 1/2 years ago but decided to wait until prices fell a bit further. The tax credit was a big plus too.

"We suspected that it might be extended," said Brunson, a 39-year-old paralegal. "But we did want to go ahead and get it done to be on the safe side."

Without the looming tax credit deadline, home sales are likely to fall over the winter as buyers hibernate for a few months, analysts said. But the new deadline likely means sales will surge next spring, before dropping back again later in the year.

"The incentives really did get people to go out and buy," said Wells Fargo economist Adam York. "The question is: What does the trend look like when the credit is over with?"

Still, the government support can't last forever. For example, the Federal Reserve is likely to curtail its effort to push down mortgage rates next year. If rates then rise too high, it would make home purchases less affordable and dampen demand.

Economists also cautioned that consumer spending and job creation remain too weak for the overall economy to mount a strong recovery. The government said last week that construction of new U.S. homes plunged in October because of uncertainty over whether the homebuyer tax credit would be extended.

The extension, and expansion of the credit, eased those fears. But it also showed how much the housing market — along with the broader economy — has relied on government support.

"When we do kick those crutches out from under the housing market, will it be able to stand on its own?" said Mark Fleming, chief economist with real estate information company First American CoreLogic. "It's really hard to tell."

Another disquieting note last week was a report from the Mortgage Bankers Association that a rising proportion of fixed-rate home loans made to people with good credit were sinking into foreclosure. It also found that 14 percent of homeowners with a mortgage were either behind on payments or in foreclosure at the end of September. It was a record-high figure for the ninth straight quarter.

And in areas where foreclosures have hit hard, housing remains depressed, despite low prices and mortgage rates and the tax credit.

Cleveland real estate agent Colleen Rock notes that the city's economy is still struggling with job losses. Another round of foreclosures could depress prices again.

"Just because we're stabilizing, I can't comfortably tell you we're back to a normal market," said Rock, an agent with Re/Max Crossroads. "It might be another year."

Yet for homebuyers with cash and access to credit, falling prices and low mortgage rates have proved irresistible.

Joey Wilson, 53, and her husband made unsuccessful offers on 20 Las Vegas homes since midsummer before closing on a four-bedroom, $136,000 home this month.

"It's insane," said Wilson, who relocated from Kentucky. "I've never seen a market like this before."

Source: Associated Press, November 23, 2009