When U.S. Housing and Urban Development Secretary Shaun Donovan announced last week that first-time homebuyers soon will be permitted to turn their $8,000 tax credit for purchasing a property into downpayment money, he called the development “exciting” and “a real win for everyone.”
But his enthusiasm isn’t universal.
Amid the buzz the program has generated over the possibility of jumpstarting the sluggish housing market, some worry that “monetizing” a tax credit – which means providing homebuyers with short-term loans secured by their expected tax refunds, so they can gain quick access to the money – isn’t quite as simple as it sounds.
It could make borrowers vulnerable to the same predatory abuses that plague the Earned Income Tax Credit program, an anti-poverty government effort. That program remains a regular target of tax preparation companies, which partner with banks to aggressively market short-term, high-rate Refund Anticipation Loans secured by the refund. Recipients – the working poor – often fork over as much as one-third of their refunds in charges and fees, in order to get their money a week or two earlier. The loan is repaid when the actual refund arrives.
It’s possible that unscrupulous lenders could launch homebuyer tax-credit programs of their own, profiting from the publicity over HUD’s initiative. It’s not clear if the Federal Housing Administration, which has seen its share of the mortgage market explode from less than three percent to more than 30 percent in the past few years, will have the resources to police the program adequately. And with government the largest source of mortgage money in a tight credit environment, “people are going to try to take advantage of it” through fraud, said Ann Fulmer, of vice president of business relations for Interthinx, a provider to lenders of fraud prevention services.
Beyond all that, some decry the idea of helping people buy homes who can’t come up with downpayment money on their own, calling it the kind of thinking that led to the mortgage crisis in the first place. Congress instituted the credit as part of the stimulus package approved in February.
At Minyanville, a financial information Web site, real estate consultant Andrew Jeffery declared that “subprime lending has come roaring back,” noting that a few states already have started similar tax credit programs. Financial recklessness, he said, isn’t coming from Wall Street this time around, but from the government itself. As Jeffery put it, federal and state governments are “in a rush to prop up home prices and delay the ultimate day of reckoning” by insisting on “coercing taxpayers to over-leverage themselves” and take on debt they can’t afford.
Peter Morici, an economist and business professor at the University of Maryland, was equally blunt. “If you can’t save for a downpayment, should you be buying a house? It’s like we’re saying, ‘People who can’t save a cent and who can’t let go of their credit cards should get downpayment assistance.’”
Morici also called the program a “total payoff to builders,” who lobbied heavily for the tax credit.
But others aren’t so quick to criticize. They point out that the government is just trying to balance helping out a housing market desperate for buyers with avoiding the kind of risky lending that created the crisis.
Fulmer, of Interthinx, noted that the FHA is working hard to “walk a tightrope” – making sure that moderate income buyers still have a shot at buying homes, given steep new downpayment requirements, while backing responsible and sound lending.
“There are competing goals,” said Brian Chappelle, a former FHA official and founding partner of Potomac Partners, a Washington mortgage industry consulting firm. “They want to stimulate housing and economic activity and they also want the borrower to “have skin in the game.”‘
The downpayment idea has attracted widespread interest, with the Wall Street Journal calling it a possible “game changer” for the moribund housing market. In the end, said Chappelle, “our economic problems trump risk concerns.”
In his speech to the National Association of Realtors, HUD’s Donovan said that “we all want to enable FHA consumers to access the tax credit funds when they close on their home loans so that the cash can be used as a downpayment.” He said the FHA will allow “trusted FHA-approved lenders,” as well as HUD-approved nonprofits, and state and local government entities, to monetize the credit through short-term bridge loans.
HUD spokesman Brian Sullivan said he couldn’t comment further, except to say that the FHA is continuing to work out final details.
The program is expected to mirror efforts already in place in a handful of states, including Missouri, Delaware, New Jersey, Washington, and Pennsylvania. Under those programs, the states offer bridge loans that allow buyers to borrow against their tax credit for down payment and closing costs, then repay it when their tax refunds arrive. If the borrower doesn’t pay, the unpaid loan becomes a lien on the property, at a slightly higher interest rate, which means the borrower faces higher monthly payments over the next decade.
The FHA has run into trouble in the past with down payment programs. Congress last year banned a seller-funded down payment assistance program that led to high default rates on FHA loans. As The Washington Independent reported recently, supporters of the banned program, including builders, Realtors, mortgage brokers, and some in Congress, are trying to revive it.
Under the seller funded program, the FHA allowed homeowners to get down payment help from nonprofits or charities funded in part by sellers. But sellers often raised the sales price of a home to cover the cost of the down payment “gift.” The charity or nonprofit that supplied the down payment money was reimbursed by the seller for it, along with service costs and fees, once the deal closed. Borrowers paid for it all, whether they realized it or not. The Internal Revenue Service called the whole thing a scam and revoked the charitable status of seller-funded providers.
Aaron Krowne, founder of the Mortgage Lender Implode-o-Meter, a Web site that tracks the mortgage industry and is leading a campaign in the blogosphere to block any reinstatement of the seller-funded down payment assistance program, said he doesn’t have the same concerns about the homebuyer tax credit idea.
“It differs significantly from SFDPA (seller funded down payment assistance) in that the seller has no specific inducement to inflate the price, nor is there any third party who earns a fee for laundering a “contribution” from the seller,” he said. “So, in my opinion, it is a bad macroeconomic inducement and is bad policy — but it isn’t criminal and dishonest with likely knock-on effects like SFDPA.”
In addition, the FHA is likely to keep a close watch on the entities it approves to make the short-term loans, and will limit the costs and fees that can be charged, noted Robin Medecke, a researcher at the Mortgage Lender Implode-o-Meter.
Her worries about the program, she said are different.
“Where I would be concerned is the possibility of Fannie and Freddie adopting similar guidelines with limited or no power to dictate or enforce similar restrictions,” she said. “That’s the real as-yet-unopened can of worms, in my opinion, and if it’s further extended to the secondary market, thereby opening up the tax credit advance to private investors, the potential for abuse increases exponentially.”
HUD’s goal in developing the program was to encourage lenders issuing the mortgages to also make the short-term loans to the borrowers, noted Chappelle, the former FHA official. But Chappelle spoke with several small and regional lenders last week, who said they aren’t interested in doing so. Only government agencies and approved nonprofits can issue a lien on the property if the loan goes unpaid, he said.
“While the lender can make the loan, I hear that most won’t do it because it must be unsecured,” Chappelle said. “It can’t be attached to the property. No question some of the tax credit could be abused by entities that will step-in and make these loans.”
Guy Cecala, publisher of Inside Mortgage Finance, which covers the lending industry, agreed, saying an “obvious problem” is that predatory lenders will start marketing similar homebuyer tax refund anticipation programs, “piggy backing on the publicity surrounding the non-profit products authorized by HUD.”
While Donovan referred to “trusted” FHA-approved lenders that will be allowed to participate, Cecala also questioned that assurance. “It gets a little trickier when you bring FHA-approved mortgagees into the mix since that group includes brokers – and probably former subprime lenders,” Cecala said.
Business Week magazine reported last year that subprime lenders with histories of abuses were turning to FHA-backed loans.
The biggest question about the program is whether of the agency has the ability to monitor it for fraud, said Sonia Garrison, a senior researcher with the Center for Responsible Lending. The FHA was downsized over the past decade as it played a smaller role in the mortgage market.
“We’ve got to be able to get the FHA the resources it needs to police the program properly,” she said.
And to draw the fine line between helping the housing market, and keeping a lid on risky lending.