Lift the ban on lenders providing down payment assistance on FHA loans: Ted Tozer

Lifting a ban on mortgage lenders providing down payment assistance (DPA) to Federal Housing Administration (FHA) borrowers would help underserved borrowers become homeowners, according to a paper published by the Urban Institute.

Under the FHA Modernization Act of 2008, sellers, lenders and others with a financial interest in a real estate transaction are prohibited from providing DPA to FHA borrowers.

Before the 2008 housing crisis, home sellers would offer DPA to FHA borrowers and raise the sales price to cover the cost, creating exaggerated losses for the FHA program.

The housing environment is different today – where a lender has far less control over a home’s sales price and no control over the appraiser, according to a paper published by Ted Tozer, a non-resident fellow at Urban Institute and the former president and CEO of Ginnie Mae.

“By lifting this restriction to allow lenders to provide DPA, either through self-funding or through a grant program, policymakers could help remove the down payment obstacle for many families,” Tozer said. 

Lenders could provide DPA through two channels — the first channel through self-funding offered on an unlimited basis.

The lender could charge the borrower a 1% higher interest rate to fund a 3.5% down payment, which would allow the lender to issue a Ginnie Mae–guaranteed mortgage-backed security (MBS) that would generate enough of a premium to fund the required down payment, Tozer explained. 

These loans would still have access to all the features of the FHA streamline refinance program, allowing borrowers to reduce their payments if they stay on their new mortgage.

“Given the robustness of using premium-price Ginnie Mae MBS to fund the program, there wouldn’t be a need to limit its availability,” Tozer said. 

The second channel would be through a grant provided by the lender’s corporate funds. 

Since lender grants have limited funding, the programs could be restricted to specific income levels and priority markets, the paper noted.

Through this channel, borrowers would still have to pay mortgage insurance costs – which would come down to the difference between the private mortgage insurance that the GSE loans require and the 0.55% annual mortgage insurance premium required by the FHA. 

“The FHA could work with Congress to amend the FHA Modernization Act so only entities that can affect the home’s sales price are banned from providing DPA,” Tozer said.

As an alternative solution, Tozer floated the idea of making the FHA program a zero-down-payment program – a proposal first made by the George W. Bush administration in 2004.

“If this change were made, the FHA program would join the other government-insured programs offered by the U.S. Department of Veteran Affairs and the U.S. Department of Agriculture that do not require a down payment,” Tozer noted.

The paper’s suggestion to amend the FHA Modernization Act comes amid affordability pressures on first-time homebuyers.

The lack of homes for sale is driving up home prices and the 30-year fixed rates have been hovering near 7% in the past two months. 

“Housing affordability remains dangerously close to the 37-year lows reached late last year, despite the Federal Reserve’s attempts to cool the market,” said Andy Walden, Black Knight’s vice president of enterprise research. 

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In a recent paper published by the Urban Institute, it was suggested that lifting the ban on mortgage lenders providing down payment assistance (DPA) to Federal Housing Administration (FHA) borrowers could help underserved borrowers become homeowners. Under the FHA Modernization Act of 2008, sellers, lenders, and others involved in a real estate transaction are prohibited from offering DPA to FHA borrowers.

The ban was put in place after the 2008 housing crisis, as home sellers would offer DPA to FHA borrowers and increase the sales price to cover the cost, resulting in exaggerated losses for the FHA program. However, the housing environment has changed since then, with lenders having less control over a home’s sales price and no control over the appraiser.

According to Ted Tozer, a non-resident fellow at the Urban Institute and former president and CEO of Ginnie Mae, lifting this restriction would remove the down payment obstacle for many families. Lenders could provide DPA through self-funding or a grant program.

Self-funding would involve the lender charging the borrower a slightly higher interest rate to fund a 3.5% down payment. This would allow the lender to issue a Ginnie Mae-guaranteed mortgage-backed security (MBS) that generates enough premium to fund the required down payment. These loans would still have access to all the features of the FHA streamline refinance program.

The second option would be for lenders to provide a grant from their corporate funds. However, this option would have limited funding and could be restricted to specific income levels and priority markets.

To implement these changes, the FHA Modernization Act could be amended to ban only entities that can affect the home’s sales price from providing DPA. Alternatively, the FHA program could be transformed into a zero-down-payment program, similar to government-insured programs offered by the U.S. Department of Veteran Affairs and the U.S. Department of Agriculture.

These proposals come at a time when first-time homebuyers are facing affordability pressures. The lack of available homes for sale is driving up prices, and mortgage rates have been hovering near 7% in recent months. Despite the Federal Reserve’s attempts to cool the market, housing affordability remains dangerously low.

In conclusion, lifting the ban on mortgage lenders providing down payment assistance to FHA borrowers could be a game-changer for underserved borrowers looking to become homeowners. The use of