On June 9th, in a speech to the National Press Club, FHA Commissioner Brian D. Montgomery announced that his agency plans to create new regulations banning the use of down payment gift programs. The most popular of these programs is The Nehemiah Program and you can go to their site for more details, but the gist is this: seller contributes 3.5% to this charitable organization, which then contributes 3% to the buyers purchase, serving as their FHA downpayment. Appears to be a win-win: the seller gets their home sold, the buyer gets into a home with no money down and a charity gets .5% for helping. The problem, according to Montgomery, is that loans using this type of problem are defaulting at two and three times the rate of their traditional down payment loans.
There is no question that this type of program gets more people into homes than would otherwise be possible. But… what of the ethics? Although legal and within the bounds of FHA’s current guidelines, is there any question that this type of program also eviscerates the very spirit of the guidelines? FHA allows charitable gifts with the understanding that there is an implied vouching for the client. Whether it be family, employers or a city program, the idea is that the donor has some knowledge, purpose or interest in seeing the buyer succeed. But with the down payment gift programs, the donor is the seller and their only interest is in selling their home. (In fact, at times the home’s value is inflated to cover the 3.5% donation creating a circular interest of the buyer for the buyer.)
A down payment gives the buyer some “skin in the game” and creates within lenders a sense that the buyer won’t walk away at the first sign of trouble (which sense was confirmed as we watched homeowner after homeowner walk away from their mortgage recently when there was no equity to protect – not an ethical consideration, purely business). Without downpayments, rates would climb to cover the inherent risk. Maybe that type of loan will come back once the risk can be assessed, but don’t hold your breath.
So here’s the question: how do we, as agents and originators, stand on the issue of down payment gift programs? Their existence has the potential to generate for us more business and therefore more income; does that outweigh their “spirit of the law” contempt? More homeowners get into homes because of these programs than those who go into foreclosure. Does that fact justify these types of programs? More foreclosures due to the fact that the homeowner has no skin in the game leads to increased rates on mortgages. Should the FHA ban them for this reason?
Can we divorce ourselves from our income goals and evaluate something from purely an ethics viewpoint? If you agree that these programs are a laugh and a wink at the guidelines, can you justify using them? If you don’ agree on the salaciousness of these programs, why not?
Hunter Jackson says:
With all thoughts of my commissions aside (if that is possible):
I find the charitable programs are skirting the rules, though under current guidelines they are allowed.
With parents, family, friends giving a gift, they are in turn inesting in the future of the homebuyer.
With these programs where the seller contributes, the buyer, especially with my generation, might see it as “hey, it’s not my money”.
If I get something for free, I am less likely to respect it than saving up for months or years to earn it.
June 25, 2008 — 10:34 am
Sean Purcell says:
Hunter,
If I get something for free, I am less likely to respect it than saving up for months or years to earn it
I agree with you. I guess that is what leads me to my question: do you (the collective you – not putting Hunter in particular under the microscope) use these programs? Is it a case of “I use what is available and legal, whether I find it ethical or not?” or is this just a mild gray area and no real ethical dilemma at all?
June 25, 2008 — 10:43 am
Genuine Chris Johnson says:
What the hell.
That’s basically it. The gov’t is subsidizing the hell out of everything anyway, so what does it matter? That’s the bottom line. Who the hell cares.
The gov’t is stealing. Who cares where the money goes.
June 25, 2008 — 10:52 am
Sean Purcell says:
Chris,
Not sure if this is sarcasm or endorsement of the program. Your comments are generally so trenchant that I am assuming this one went over my head. 🙂
June 25, 2008 — 11:02 am
Todd Coleman says:
For me the ethical issues revolve primarily around a single question: Do I believe there is a real risk the buyer might default?
If I know and trust the buyer and am confident they can make the monthly payments, then I have no problem using Nehemiah.
The timing of the market also comes into play. 100% financing of any kind is much less of a risk for anyone buying near the bottom of the market. Who’s going to default on a “free” house bought at a bargain price that has the potential to appreciate in the coming years?
June 25, 2008 — 11:14 am
Hunter Jackson says:
I use these programs, yes. Under certain conditions.
Good job, they can make the payments, the value is not inflated.
June 25, 2008 — 11:29 am
Bawldguy Talking says:
I don’t deal with FHA in any way, though that’s how I bought my first home back in the Jurassic era.
Regardless of the skin in the game, a concept with which I have not quarrel, if the buyer has a stellar credit history and score, and initial capital is the only problem, I’d not move away from the gift program.
First time buyers only, or those who haven’t owned a home for 10 years or more. The underwriting would also have to be un-HUD-like.
June 25, 2008 — 11:30 am
Bob in San Diego says:
Credit cannot be the only criteria, We went down that road already and discovered that the homebuyer has now adopted business ethics where home buying is now a business deal governed by the legal options of walking from a bad deal (see Jose Canseco, et al).
For the immediate future, the 3% seller gift is toast. If there are any solvent lending institutions still standing at the end of this decade, then maybe it will be revisited, but not now.
June 25, 2008 — 1:29 pm
Brian Brady says:
I’m inclined to agree with Chris. American homeowners have been subsidized by the American taxpayer for so long that it doesn’t matter.
June 25, 2008 — 1:44 pm
Bob in San Diego says:
But it does matter. At some point the bleeding has to stop or the patient dies.
Cutting of the downpayment assistance is a needed action or FHA is done.
June 25, 2008 — 1:56 pm
Brian Brady says:
“Cutting of the downpayment assistance is a needed action or FHA is done”
Bob, that’s opinion and not fact. HUD’s been trying to ban these for 10 years and they never get beyong first base.
The default rate for DPA foundation gifts is higher than downpayment gifts, which is higher than borrower saved 3% cash-to-close, which is higher than 10% downpayments. All, however, are within acceptable ranges for HUD.
Is it possible that Commissioner Montgomery is protecting his turf? Well, that seems to be every HUD Commissioner’s tradition, going back to the Clinton years.
June 25, 2008 — 3:06 pm
Bob in San Diego says:
Yes, it is my opinion, and too soon to tell whether or not its not true. What is fact is that those walking away from loans with no skin in the game is at an all time high. There is a paradigm shift in thinking among 1st time buyers walking. The entire lending industry understands this now and must take this mindset into consideration on future underwriting standards (Again, my opinion).
June 25, 2008 — 3:55 pm
Sean Purcell says:
So let me see if I got this straight:
>Chris believes that the riots are afoot, so loot away…
>Todd, Hunter and Bawldguy believe that ethics are not inherent to a program (or at least not this program) and rely on the much lauded ethical decision making of the originators…
>Bob believes the program is already gone or soon will be, but based on a paradigm shift in the client’s business ethics rather than the program’s…
and Brian believes that all is well (which I take to mean ethically satisfying also)
Is the program in and of itself, with its end-around on the FHA down payment gift idea, ethically challenged? If so, does that matter?
June 25, 2008 — 4:30 pm
Bawldguy Talking says:
Sean — Not sure how you run an effective ‘end around’ on HUD. They’re allowing it. They haven’t been hoodwinked that I can see. Am I missin’ something?
Also, military vets have been buying homes since WW II with ‘no skin in the game’. Is that unethical, or is there a different set of ethics applied when underwriting vets?
The VA does exactly what I proposed. Look way deep into the character of the borrower. Squeaky clean credit, 720+ score, letter from their minister, whatever. I’m not saying they require those things, but their long term record stands up pretty well to scrutiny.
If it’s not ok for the general public, based on ethics, to be denied FHA loans ‘cuz of a lack of ‘skin’, then VA should be abolished, if we wanna be consistent. I’m thinking the VA has been the best performing program around since its inception. Why? The borrowers are of proven high character, and do what they say they’re gonna do.
We’re now at the part in the movie, one which I’m now seeing for the fourth time, where everyone’s got hold of the baby, ready to throw the poor thing out with the bath water. Before we, (he says, about to ghoulishly mix metaphors) grab all those we think are bad guys or bad programs and head for the hangin’ tree, why don’t we take just a tad more time to assess the pros and cons for each supposed bad guy or bad program?
Just a thought.
June 25, 2008 — 5:04 pm
Brian Brady says:
“Is the program in and of itself, with its end-around on the FHA down payment gift idea, ethically challenged?”
It is a fantastic deal for first-time home buyers. The less money a borrower has to put into the home, the more she has to keep in the bank. My interests are aligned directly with my client
June 25, 2008 — 5:50 pm
Sean Purcell says:
Jeff,
Don’t agree with the analogy. VA is one of the benefits bestowed on veterans for their sacrifice to this country. One might argue that this is a self-selected group of higher follow-through as well, but that is another topic. VA is a benefit and no-down is part of that benefit. FHA, on the other hand, is supposed to help home-buyers, but is not a benefit (excluding the “big brother” benefit nature of all government redistributions).
The end around is this: FHA allows down payment gifts of a limited nature. The charity group washing of the seller’s money is legal and within the letter of the law… but hardly within the spirit.
June 25, 2008 — 5:51 pm
Sean Purcell says:
Brian,
I agree with your premise completely. We should not look at the ethical nature of what we do or the programs we use, so long as we can justify ourselves by aligning our interests with those of our client. I think there is a saying similar to that… something about the ends justifying the means.
June 25, 2008 — 5:59 pm
Bawldguy Talking says:
Sean — The point was that they have no skin in the game, and because of their good character, the program has a solid rep. I believe the analogy stands. The fact they’re a privileged class due to their service doesn’t keep them from being declined for the loan.
I agree with your ‘spirit’ argument with FHA. I’m not one to see how close to the cliff I can get.
June 25, 2008 — 6:00 pm
Brian Brady says:
How far are you willing to take that “ethical argument”?
June 25, 2008 — 6:32 pm
Sean Purcell says:
Jeff,
You’re right, they do have no skin in the game. But I believe they do have what Brian Brady refers to as “compunction”: they feel an obligation to pay their loans and I think that is reflected in the lower default rate you pointed out.
My question here is not with no-down loans (I’m all for them), it is with the ethics of these particular loans, which I describe as doing an end-around. My curiosity was whether or not others agreed with my ethical analysis and, if they did, did it matter as far as doing the loan.
June 25, 2008 — 6:33 pm
Bawldguy Talking says:
Sean — The spirit of the rule is indeed being skirted.
Brian — Was your comment for me? If so, I’m not sure what the question was specifically.
June 25, 2008 — 6:39 pm
Sean Purcell says:
Brian,
As far as I can carry it (fully acknowledging that the weight of ethics grows in relation to the distance it is carried). Will this become ad hominem or remain a discussion theoretical?
June 25, 2008 — 6:45 pm
Brian Brady says:
Theoretical, of course.
You realize that you are about to suffer from the Atlas syndrome. Not only will you be protecting the borrower’s best interest, you’ll be looking out for the lender’s, and now, the taxpayers of the United States of America. A heavy load, indeed.
Proper planning dictates that you transfer as much of the market risk to the lender if you are to operate in your client’s best interest. Vigorous protection of the lender dictates that you suck every last dollar and piece of collateral out of the borrower. Societal protection dictates that you only make loans inasmuch as it will serve the taxpayers of the country.
A heavy load, indeed.
How about we let the eggheads in Washington and the rocket scientists on Wall Street protect their interests? I’m going to look out for the borrower.
June 25, 2008 — 7:10 pm
Sean Purcell says:
Brian,
Atlas indeed shrugged, as do I. I have no interest in carrying the weight of the eggheads or the rocket scientists. Despite your thinly veiled implication that, as opposed to you, I do not look out for the borrower – I am very much doing that right now.
When we as agents or (more likely) originators, decide to “game” the system, are we actually looking out for our client’s best interests? Can you accomplish the right thing by doing the wrong thing? If the wholesaler comes into my office and says they allow room rentals and even gives me a completed rental app (ensuring there are no mistakes to trip up their U/W) am I looking out for my client’s best interest by encouraging them to game the system and include the potential rental income on their loan app? They have not committed a fraud here because they have every intention of renting out a room… until the loan closes and they change their mind. They (and I) have just “gamed” the system. Was it in their best interest? Was it in mine?
I don’t care to protect the lenders that purvey such assinine programs and I don’t care to protect society from anything. Free market dynamics creates all the societal protection I need. But I do wish to look in the mirror every morning and I do wish to look my clients in the eye every time I see them. When we play games like this, they know it and I know it. You can’t get a little bit pregnant.
Is the Nehemiah program a proper analogy to room rentals that never materialize? Hardly. But the question is this: do they both travel down the same slippery slope?
June 25, 2008 — 7:24 pm
Brian Brady says:
No.
Your opinion is that DPA programs game the system. The Honorable Paul Friedman disagreed with you.
Look. If every loan were a 70% LTV, full doc, 740 FICO, owner-occupied loan, we’d have a much smaller default rate. The spirit of this country has always been innovation. The spirit of mortgage banking has always been innnovate, overextend, contract, and innovate when prices got low.
The market got whacked. Does that mean we all have to run scared like mice when the light comes on? I guess my problem is that we’re all pontificating a bit too much these days. Our jobs are to get (and keep) people into homes. Rather than exposing problems we should be looking for solutions.
The answer to this nebulous program is for HUD to insure 100% financing and reduce the seller contributions to 3%, Now, now, now…pundits will tell me that I’ve not learned my lesson with 100% loans.
To which, I respond…rather than focusing on the 3-5% of the homeowners for whom this program DIDN’T work, can we celebrate the 95-97% of the borrowers for whom it did work?
June 25, 2008 — 7:53 pm
Sean Purcell says:
Brian,
Very nice comment. Of course I agree with on 100% financing. I said that in one of my previous comments.
Nobody here is pontificating (unless you count references to Atlas as high-horse). Looking for solutions is great, but what happens when a natural market is taken away (e.g. 100% financing) and a poor substitute is used in its place? At the very least we should explore the ethical nature of such a substitute, if not the outright viability. Rates should reflect the inherent risk. Are rates currently up to speed with the end-around being done with DPA programs? Wouldn’t the economics of lending be better served by the transparency of calling a 100% loan a 100% loan and pricing it accordingly?
Brian, you have deftly moved away from the original question: is the Nehemiah program ethically challenged? If so, does that make a difference?
June 25, 2008 — 8:05 pm
Brian Brady says:
“is the Nehemiah program ethically challenged?”
No. Let’s assume that I could prove that DPAs had a lower default rate that 3% $2Close. Would we be having this argument?
June 25, 2008 — 8:42 pm
Sean Purcell says:
Brian,
Metaphysically speaking: what argument?
Seriously: of course we would. They may very well have a lower default rate, that’s not the point. They are an end-around. They represent a way to have seller paid down payments (which FHA does not allow). If you want the program to be ethical, go back to 100% financing and price accordingly (which, if the defaults were lower, might even be better pricing!)
The second part of my question was answered by everyone: if it is legal than why not use it. Ethics plays a small part here and that is probably as it should be. If we start using ethics and things like compunction instead of economics, we will have to decide whose ethics to use… right?
June 25, 2008 — 9:16 pm
Brian Brady says:
Okay. You got me Monsignor. They skirt the spirit of the law. You forget, however, that I placed more faith in the Jesuits than the Diocesans.
I think HUD can layer risk (through MIP premiums) and offer 100% financing. My answer would then be, as you stated, the ends justifies the means
June 25, 2008 — 9:20 pm
Sean Purcell says:
I think HUD can layer risk (through MIP premiums) and offer 100% financing
Your Jesuit lips to God’s ears.
Amen and Good Night…
June 25, 2008 — 9:25 pm
Keely Jared says:
I’m a new poster and have lurked for some time – I must first compliment all of you for the veritable ‘think tank’ you’ve created for me and the accumulation of a mass of excellent postings! Your writings are always educational, exceptionally well written and witty, so thank you!
I wish I could say I back these types of programs but I too believe that one of the reasons we are seeing so many ‘walk aways’ (if I may call them that) is indeed because buyers don’t have any ‘skin in the game’ (that and I believe it can almost be too easy to walk away for other reasons). While it hurts my pocketbook to say so, I believe these programs are borderline unethical, at best.
June 26, 2008 — 12:40 am
Sean Purcell says:
Keely,
Thanks for the comment. I am with you on this. It may hurt the pocket book a little, but this business is about endurance… not sprinting.
June 26, 2008 — 2:07 pm
Vance Shutes says:
Sean,
Sorry to intrude on yours and Brian’s conversation here.
>If I get something for free, I am less likely to respect it than saving up for months or years to earn it
I’ve had buyers participate in the “free” DP-assistance programs, and they haven’t treated it with less respect. That said, though, I agree with Hunter’s original position – that we tend to treat something with the value we paid for it.
It’s fabulous to see the gleam in a first-time buyer’s eyes at the closing table after a successful close. Even more so when their parents have provided the DP assistance (yes, I know about the “seasoning” requirements).
My sense of the market today, as compared with a couple of years ago, is that the buyers today are really the ones who SHOULD be buying a home. If their DP was provided by some government assistance, today’s buyers are still far more qualified to buy, given the more-stringent requirements that lenders must follow today (as compared with two years ago).
It’s nice to read your work here again. Keep it up!
June 26, 2008 — 2:24 pm
Joe Hayden says:
Kentucky offers some DPA programs that come in the form of forgivable 2nd mortgages through the HOME program. Some are not forgivable, but still function as a way to get access to funds for closing costs and pre-paids.
I have found that these are very good programs with manageable restrictions providing a fair benefit to the buyer, given the fact they need the assistance.
The way the Nehemiah Program, Genesis, HART, AmeriDream, and the others work compromise negotiations in my opinion. At some point in time, “the cat is out of the bag”, and specific wording that affects the seller’s bottom line must be introduced into the contract. It really takes a competent, gentle hand to keep everyone happy and informed with one of these programs, and this is one of the ethical fine-lines I think they walk…
I also think they artificially affect market value. To me, their biggest negative…
June 26, 2008 — 7:57 pm
Carolyn Gjerde-Tu says:
Some sort of seller contribution is currently the norm in my area for entry level homes. However, adding another 3.5% on top for the charitable gift seems excessive to the typical seller who then is likely to ask for an increase in price to cover the DAP. For years there have been problems with appraisals when homes sell for over the list price to cover excessive seller contributions, it just gets more difficult in the current market.
June 27, 2008 — 7:37 am
Sean Purcell says:
Vance,
Interesting points. I am hearing a theme amid the many comments here: The quality of the buyer is what matters to agents and originators; the loan program itself is neither ethical nor unethical. In some ways I am excited by this. It reflects a professionialism and sense of responsibility on our parts. But at the same time it scares me a little because I think we are hearing from the cream of the crop at BHB and not necessarily the majority.
A parallel comparison: option arms are perfectly good tools in the right hands, but they were abused tremendously by our less scrupulous brethren. So, do we look at the ethics of the program, the agents & originators or the borrowers? Or… do we ignore ethics altogether and make business decisions – pure and simple?
June 27, 2008 — 9:08 am
Sean Purcell says:
PS
Sorry to intrude on yours and Brian’s conversation here
You sir, are never intruding.
June 27, 2008 — 9:09 am
Sean Purcell says:
Joe,
I agree with you on all counts. The community programs have a vested interest in the success of the borrower and that changes the very nature of the program. Programs like Nehemiah are an end-around and obviate the purpose of down payment assistance. When you go down this path you end up with things like inflated prices.
Well said.
June 27, 2008 — 9:13 am
Sean Purcell says:
Carolyn,
Yes, and by adding on to the price we are further burying someone who was not able to afford the home in the first place. Will it work out most of the time? Statistically the answer is “yes”. Does that justify doing it? Tougher question.
June 27, 2008 — 9:15 am
Vance Shutes says:
Sean,
> they were abused tremendously by our less scrupulous brethren.
No truer words were spoken here! Fortunately, most of those “brethren” (and I use that term VERY loosely) have exited the business of mortgage origination.
June 27, 2008 — 9:29 am