Nonprofit FHA downpayment assistance scheme nets 19% Texas defaults

FHA default chart
FHA default chart

I’m sorry if this makes me sound like an affordable housing hertic but this bothers me.

NPR reports there are nonprofits out there that are serving as middle men (for a fee) between home sellers who want to pay a buyer’s three percent downpayment on an FHA loan and buyers who can’t come up with the downpayment.  This is known as “seller-funded downpayment assistance”.

Here is how it works.  The home seller gives the downpayment money to a nonprofit along with a $300-$600 fee for the nonprofit.  The nonprofit then gives the fee to the homebuyer under the provisions of an FHA loan program that permits buyers to qualify for an FHA mortgage so long as the buyer gets the downpayment from a relative, employer or charitable nonprofit.

HUD’s current policy disallows downpayment assistance directly from an entity, such as a seller of a home, that would derive a financial benefit from the sale. The basis for this policy is that such an entity, standing to derive a financial benefit from the sales transaction, may promote its own interest in the transaction to the detriment of the buyer. Specifically the seller may just inflate the sales price of the home to offset the downpayment grant.

This is no small problem.  According to a story in the Dallas Morning News just one national nonprofit claims to have provided 13,144 seller paid downpayment grants in Texas since 2006.  HUD says 19 percent of the seller assisted loans are 90 days or more delinquent and 4 percent have already defaulted.  Among other FHA borrowers the Texas foreclosure rate is 1.3 percent.

Default rates like that raise flags all over the place about possible predatory lending.  FHA wants to outlaw this practice and has published a lengthy justification.

It is pretty clear that this program is doing many of the the borrower no favors.  Almost one in five borrowers in default in the first two years is outrageous.  The benefit of this practice seems to accrue to the seller who gets to sell the house and to the nonprofit that pockets the fee for brokering the transfer of the downpayment money.

One official of a Houston-based mortgage company is quoted in the DMN claiming that hundreds of small nonprofits are now active in this financing scheme.

The FHA wants to outlaw this practice.  I for one think they should.

What is needed instead is a well crafted limited or no downpayment program that incorporates standards and practices such as real, quality homebuyer education, carefully underwritten credit standards and post purchase counseling and assistance that will allow lower income families to actually buy and hold on to a home.  Housers should not get caught up in support for schemes like this that produce high defaults and pain among borrowers while hiding behind nonprofits organizations.