WRAPUP 2-U.S. home sales scale 2-year high in September

* U.S. existing home sales highest since July 2007

* Housing supply lowest in 2-1/2 years

* Tax credit for first-time buyers helps lift sales (Recasts, updates markets, adds byline)

WASHINGTON, Oct 23 - A tax incentive for first-time buyers helped propel sales of previously owned U.S. homes to a two-year high last month, according to data on Friday that showed the economy's recovery was becoming entrenched.

The National Association of Realtors said sales of existing homes jumped 9.4 percent in September to an annual rate of 5.57 million units, the highest level since July 2007. Financial markets had expected sales to rise to a 5.35 million unit pace after a surprise decline in August.

Sales were partly driven by first-time buyers rushing to take advantage of the government's popular $8,000 tax credit, which is due to expire at the end of November. Sales were up 9.2 percent compared to September of last year.

"The rapid gain in home sales over the past few months likely owes, in part, to the home buyer tax credit. That said, the trend in home sales is still higher amid greater affordability and an improving economic outlook," said Michelle Meyer, an economist at Barclays Capital in New York.

Despite the bullish report, U.S. stock prices fell as investors fretted over disappointing results from chip maker Broadcom Corp <BRCM.O> and silicon producer MEMC Electronic Materials Inc <WFR.N>, which bucked a recent trend of solid earnings reports.

The housing sector's collapse and subsequent global credit crisis helped to push the U.S. economy into recession at the end of 2007. The downturn was the worst in 70 years.

The housing market is now crawling out of a three-year slump and analysts believe homebuilding probably contributed to economic growth in the third quarter, which would be its first positive contribution since the end of 2005.

ECONOMY GROWING AGAIN

Signs of recovery in the housing market, coupled with other fairly upbeat data, strongly suggest the economy started growing again last quarter for the first time since the second quarter of 2008. The government will release third-quarter gross domestic product estimates next week.

Sales for both new and previously owned homes have been boosted by a combination of the tax credit, depressed prices and low mortgage rates.

There are worries the expiration of the tax credit could hamper the recovery, however, and many lawmakers want to extend the program, with some pushing to expand it to all buyers.

The tax credit has so far cost the government about $10 billion and the Obama administration has yet to decide whether it will back an extension, weighing it against the impact it will have on an already bloated budget deficit. For more see[ID:nN21338575].

"We are hopeful the tax credit will be extended and possibly expanded to more buyers ... because the rising sales momentum needs to continue for a few additional quarters until we reach a point of self-sustaining recovery," said Lawrence Yun, chief economist at the Realtors' trade group.

Distressed properties made up 29 percent of sales last month, with first-time buyers accounting for 31 percent, but analysts said other forces also helped.

"Our view is that near-record affordability and falling inventory is pulling people into the market," said Ian Shepherdson, chief U.S. economist at High Frequency Economics in Valhalla, New York.

The inventory of existing homes for sale in September dropped 7.5 percent to 3.63 million units, the NAR said.

September's sales pace pushed the supply of previously owned homes on the market down to 7.8 months' worth, the lowest in 2-1/2 months, from 9.3 months in August.

On the prices front, the national median home price fell 8.5 percent to $174,900 in September from a year earlier, the smallest percentage decline in 13 months.