Federal Tax Credit for FHA Down Payment? Who Knows?

Posted by  on May 22, 2009

An $8,000 Tax Credit Became Even Better Than Free Money

When the government conceived its plan for an $8,000 tax credit for first-time home buyers, it underestimated the creativity of those who wanted the money upfront to use as down payments for homes--a return to zero-down financing. Last week, U.S. Department of Housing and Urban Development Secretary Shaun Donovan had told the National Association of Home Builders that HUD would let certain entities offer second mortgages or short-term "bridge loans" to cover the down payment for buyers eligible for the tax credit--making it even easier to shop for a home. These would have applied to first-time buyers applying for FHA loans. No down payment, low interest rates, special financing deals--all very popular with the real estate industry--it was time to start the party! Plans for managing this down payment contribution immediately popped up everywhere--ten states so far put have programs together.

Making the No Down Payment Plan Work

The typical plan involved issuing a second mortgage to cover the down payment of the home and perhaps expenses, which would become due and payable once the buyer should have received his or her tax credit. For example, here's Colorado's plan: The second or bridge loan could be made for an amount of up to 3.5 percent of the first mortgage loan or $6,000 (whichever is less) and would carry a 0% interest rate until June 30, 2010. And $250 of the $350 administrative fee for issuing the loan would be applied toward the payoff if received by June 30. After that date the interest rate would rise to 8% and the loan would amortize over eight years.

HUD: "Just Say No"

However, federal officials put a stop to the programs. According to Mortgage News Daily, an industry expert publication, HUD has "suspended this program until further notice." Someone got a foot on the brake pedal just in time. Those who remember the sub-prime blowout that started this mess will also recall that the loans most likely to go into default were the ones in which the borrower had the least invested. That is, borrowers with pretty much identical profiles were several times more likely to let a house go than those who had even a couple percent down on the property--"skin in the game" made all the difference. And when HUD received the results of that study, it promptly and correctly disallowed contributions from charitable agencies, builders, etc. toward down payments on loans it insured.

No Down Payment: Nothing from Nothing Leaves Foreclosure

So why, when it was only so recently discovered that getting people into homes with none of their own money at stake is stupidly risky, would anyone consider doing this again? Probably due to pressure from both well-meaning and profit-seeking, and the rush to "do something" to stimulate demand.

Thankfully, somewhere the federal government's brake system is still functioning.




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