When zero-down mortgages were all the rage during the boom years, eager buyers with little savings understandably took advantage. In the present day—after two years of huge bank losses brought upon by rising foreclosures, short sales and loan defaults—well, let's just say that lenders aren't exactly looking to give away free money without a little collateral in return.
So zero-down mortgages must be gone, then, right? Well, no, actually.
Zero-down mortgages are effectively gone in the conventional mortgage market, with at least a 5% down payment required on loans in that sector for even those with credit that sparkles like Vanna White's teeth. However, zero-down mortgages are alive and well in the FHA mortgage market, just in a slightly altered state, through the infamous seller-funded down payment assistance programs (DAP).
Most of you are likely familiar with this method, it having been in existence for quite some time, but it bears a re-visit considering its recent revival from the dead and renewed prominence.
Scenario: A buyer wants to buy a property but has no money to put into the loan for collateral. FHA loans "require" a 3 percent down payment for approval. To circumvent this financial hurdle, the buyer asks the seller of the property to "donate" 3 percent of the purchase price to a non-profit like this one or this one who specialize in down-payment assistance. After collecting a small fee for their trouble, usually a few hundred bones, the non-profit then "donates" the 3 percent back to the buyer, who uses it as a down payment on the loan they could previously not be underwritten for.
Some have called it legal money laundering. Others call it the best hope for first-time buyers in this challenging housing market.
Since the traditional credit markets constricted last year, DAP has had its cobwebs dusted off and been pulled from its spot at the back of shelf. From a recent WSJ article:
"The FHA estimates that down payments provided by nonprofit groups account for 34% of all 200,000 loans backed by the FHA so far this year, up from 18% in all of 2003 and less than 2% in 2000. And the agency says that borrowers are two to three times as likely to default on their payments when they receive a down payment from a nonprofit."
And aye, matey, there's the rub. Some claim that the trouble with DAP and it's rebirth in 2008 is that it only leads to the same ailment our market is already trying to recover from: foreclosure. Here's a chart from the very same WSJ article:
The FHA has even publicly proclaimed that it wants to eliminate DAP in the months ahead for fears of becoming insolvent, necessitating public taxpayer support to keep their loans serviced:
"The Federal Housing Administration expects to lose $4.6 billion because of unexpectedly high default rates on home loans, officials said Monday.
Brian D. Montgomery, the F.H.A. commissioner, attributed the unanticipated losses primarily to the agency’s seller-financed down payment mortgage program, which has suffered from high delinquency and foreclosure rates in recent years."
Whether or not the FHA is successful in removing DAP from its offerings remains to be seen. As a highly regulated public entity, simply wishing something away isn't that easy.
Regardless, what do you think? With some claiming that lending standards have gotten too tight already and others claiming that they're not tight enough, where does DAP fit in to the discussion? Friend or foe?
For an "uber-nerd" look at how DAP works, check this: DAP for Uber-Nerds.