When I first started as a Loan Officer, Down Payment Assistance (DPA) was all the rage. Many prospective Home Buyer’s were coming out of the recession with great income and decent credit, but lacked the assets for a down payment. In addition, home prices were so low that just about everyone could afford the monthly payments and the terms associated with DPA’s.
Fast-forward to 2019, changes in DPA programs have altered it’s allure and now it’s important to consider how using a DPA will impact your financial future when purchasing your home. In this post, we explore the various DPA programs, their requirements, the monthly payments, and future considerations. It’s a lot of information, but well worth the read if you are considering a home purchase in the near future.
*Loan parameters are based on Rates and terms as of 2/1/2019. Conventional Financing terms based on a 720 FICO score and the Fannie Mae Homeready Program with 3% down payment. Program terms and rates consider coverage variations prescribed by Fannie Mae Homeready, HFA Preferred, Home In Five, and Home Plus. FHA Financing terms based on a 660 FICO score. NMLS# 1074188 All Borrowers subject to credit qualifications. Not all borrowers will qualify as certain restrictions apply on all programs. The information contained in this material is not a guarantee to extend credit or lend. Terms & conditions are subject to change without notice.
What is a DPA & what types are offered?
The DPA programs mentioned here are offered in Maricopa County Arizona. They grant certain percentages of the purchase price on a home in the form of a silent second lien towards the down payment needed. Home in Five offers special incentives for Teachers, First Responders, Veterans, Military, and Nurses. Home Plus allows additional funds as a down payment towards your purchase. Below is a brief list:
- Home in Five Program
- Home Plus Program
- Pathway 2 Purchase
- Neighborhood Stabilization Program (NSP) – Through a respective City
- Matthew Hensen Program (tied to NSP)
- Chicanas Por La Casa
For the sake of time and popularity, we will discuss only the Home in Five and Home Plus programs.
Home in Five
The Home in Five will grant up to 4% assistance to cover the down payment and/or closing costs on your new home. The 4% is the max allowed provided you meet the requirements for credit and qualify for the special incentive. There is a maximum income limit allowed of $99,169 unless you are using the Fannie Mae HFA Preferred portion of the program which is $69,100. The maximum debt-to-income ratio allowed is 45%. That means your total obligation (including your proposed house payment) cannot exceed 45% of your gross income used to qualify for a mortgage loan.
Your assistance is calculated off the BASE loan amount after a down payment would be applied. For example, Buying a home at $275,000 with FHA at 3.5% down using this program, the BASE loan amount is $265,375. If your max assistance is 3%, the grant will be 3% of $265,375 or $7,961.25 as your grant. You would still need $1,663.75 for the remaining down payment which can be a gift or come from your own funds.
The grant is now considered a forgivable silent second mortgage loan or lien. There are no payments due on this second lien for 36 months. You will be required to pay back the pro-rated portion of the silent second loan if you payoff the original first mortgage before 36 months; i.e. a refinance, selling your home, etc. After the 36 months, the silent second lien drops and you no longer owe those funds.
Finally, the interest rate for the Home in Five program is pre-determined for you regardless of your FICO score. The program administrator and master servicer set the terms for the rate. As of 2/1/2019, the rate was 5.625% for the FHA and 5.75% for Conventional & VA.
Home Plus is very similar to Home in Five except the debt-to-income ratio allows up to 50% and the down payment grant can go from 0% – 5%. However, the more you receive, the higher the pre-determined interest rate. In addition, the income limit is much lower, $66,100. Both programs do NOT require you to be a first-time buyer and you are allowed to own other property. You must occupy the home you are purchasing as your primary residence within 60 days when using either program.
You may be wondering (or not in which case skip to the next section) what is HFA Preferred? House Finance Authority is a designated department of a State government agency in charge of administering and managing grants for homeownership. Fannie Mae & Freddie Mac give a special discount on mortgage insurance when you originate your loan through a HFA. Arizona’s HFA is represented through the Industrial Development Authority of Maricopa County. True homebuyer grants must come through government entities. To learn more click here to be directed.
That’s Nice: How do these programs affect my payment?
I am so happy you asked! In fact, thank you for staying with me to this point.
Most of my borrowers discover they will be paying more per month on their mortgage payment using a DPA program than if they had the capacity to fund their own down payment. It’s important to be educated to know your options and work with a Lender who takes your best interest as their own. Many lenders shy away from discussing the differences for fear of losing you as a client and potentially their referral partners.
Let’s review using a FHA loan with the Home in Five and Home Plus programs compared to using your own funds or a gift as a down payment source. The purchase price is $275,000 and the down payment requirement is 3.5% or $9,625. This scenario is based on a 660 FICO without the special incentive. I did not use the special incentive in this case because not everyone will qualify for that advantage. If you do, you will simply get an additional 1% in assistance. See below:
There’s no free lunch
Most lenders will tell you to refinance this loan later. If you’re buying a home getting instant equity at the purchase, then this is a good strategy because ultimately you will build value much faster. But what if you don’t get that instant equity? You are stuck paying that additional $166 for the next 36 months. That adds up over time, $8,080 in interest with less money going towards principle. Go back to the beginning when I described your grant proceeds on $275,000, the total was $7,961.25. Essentially, you are still paying for your down payment over the course of 3 years. It’s a borrowed grant.
Here is a look at a conventional loan scenario taking into consideration the HFA Preferred mortgage insurance rates and the Homeready program. This is the same purchase price at 3% down.
In this scenario, you’re paying $7,990 in additional interest over 3 years and less towards your principle during that time.
Starting out with Negative Equity
I had a client recently hit a Homerun out of the park using a DPA. Their home apprised $40,000 higher than the contract purchase price. Even though they have a forgivable silent second mortgage, we are going to refinance them this summer and lower their payment. They will have to pay back the grant, but it comes out of the equity they already have. They will be saving substantially each month and over the life of their loan.
However, for many borrowers using a DPA, they may not get that kind of sweet. It’s rare for that kind of value to come in and it takes a great Realtor to make something like that happen. You need to be aware that you will start out in a negative equity position when you use this program because of the silent second lien.
If you refinance or sell your home, you need to pay off your home for at least to total of your mortgage liens. For example, take the same $275,000 house using FHA. The total lien amount will be $277,980 when you purchased the home at $275,000. For conventional, the total lien amount will be $274,752, which is a little better, but nearly 100% loan-to-value (LTV). My point to this is your appreciating value of your home will take longer to realize if you want to consider a refinance or selling your home for the shorter future. You must have some equity for a refinance to make sense.
Down Payment Alternatives
The down payment on a home is not limited to have a large saving account or waiting years to buy a home with 20% down. In fact, many borrowers have been savings all along and don’t realize they have the resources available to purchase a home.
Your 401k through your employer is a solution. Most 401k plans allow you to borrow against your plan up to 50% of the vested balance for any purpose. The money is not taxed and is paid back through payroll deductions. Some plans even allow the interest you pay on the loan to go back into your 401k or the payments are made pre-tax. You will need to check with you plan provider.
An IRA can be leveraged if you are a First-Time Homebuyer purchasing your primary residence. Up to $10,000 can be withdrawn without the penalty if you are withdrawing before you turn 59 ½. You will still pay taxes on the $10,000 distribution (if a traditional IRA or Roth IRA when the $10,000 exceeds your initial contribution).
Immediate family can also gift you the down payment to purchase a home. Many times borrowers let their family know their plans and it comes up that they can help contribute to their future.
I want to use the DPA
There is absolutely nothing wrong with using the DPA programs described here. In fact, if this is the only option for purchasing your home, it is a good solution because ultimately, you still build wealth and fix your overall monthly expenses for the future. It is just important to understand the differences and how it can affect your overall monthly payment IF you have the capacity to qualify for a home loan without using these programs. We have not turned anyone away wanting to use these programs and will always make sure to do our best giving borrowers access to homeownership.
If you made it this far, I thank you whole-heartedly. I have these conversations daily and wanted to make a post about DPA’s for a while to help educate and explain the basics. The decision to buy a home is not something to take lightly and should be treated with attention to detail. Fortunately, working with our team, we will manage the details for you so all you need to think about it which home you like best. Happy House Hunting!