Skin in the Game.

Posted on April 14, 2021

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Biden Proposes a New First-Time Homebuyer Tax Credit.

It’s almost a fundamental American faith that people should own houses and that policymakers should encourage them to do so. Whether that is wise policy is a question to which we will return often in this housing policy series. Commentators have suggested that homebuying incentives jack up the price of houses, that home ownership is not actually that good an investment, that “bone-headed” home ownership policies helped crash the economy in 2008, that home ownership is supported by racially exclusionary land use policies, that home ownership encourages the commodification of housing, and that home ownership culture is associated with retrograde political forces. Nevertheless, the American dream of home ownership is very much alive. The financial, social and psychological benefits of home ownership have been widely studied, and some say policymakers, if anything, aren’t doing enough.

Down payment assistance for first-time homebuyers is an enduring and effective tool for those who wish to see new opportunities for home ownership. It comes in various forms and has been tried by financial service providers and by governments at all levels. The topic moved up on the federal housing agenda when the Biden campaign proposed “a new, refundable, advanceable tax credit of up to $15,000.” This idea hasn’t yet moved to the legislative action stage, but there’s no reason why we can’t use the occasion to think about down payment assistance.

We can place the Biden plan in the proper context by taking a look first at some of the down payment assistance plans that have already been implemented. The City of Greensboro offers one. To be eligible for that program, a buyer who has not owned a home for at least three years can obtain a forgivable, interest-free second mortgage loan to finance up to $10,000 of the purchase price – and an additional $5,000 if the home is located in a designated redevelopment zone – but not to exceed 20%. The homeowner must have secured from a private financial institution a fixed-rate, 15- or 30-year FHA, VA or conventional first mortgage and must have a little skin in the game – at least $500 of their own funds. Household income can’t exceed 120% of area median income for a one- or two-person household, or 140% for a three or more-person household. The loan is forgiven at the rate of 20% for each year the homeowner remains in the home, with the loan completely forgiven after five years.

Let’s examine what this Greensboro plan does, and what it does not do. It does erase one of the most important barriers to home ownership encountered by low-income buyers – savings which are inadequate to make a down payment. It does promote stability in housing through the device of loan forgiveness. By pegging loan forgiveness to years in the home, the plan favors those home buyers who are willing to make long-term investments in the home and in the neighborhood.

But perhaps the Greensboro plan does not necessarily offer a pathway to home ownership for low-income buyers. For one thing, the assistance is available to households with up to 140% of AMI – $84,700 according to the City’s DPA fact sheet, or more than twice the income of a “low-income individual” under federal regulations. Then, it does little to overcome other barriers to home ownership: high levels of debt, poor credit and, of course, low-income. Not unreasonably, the predicate for assistance under the Greensboro and similar second mortgage plans is the prospective buyer’s eligibility for a first mortgage. That 140 AMI household has a solid chance of qualifying, while the 50 or 80 AMI, not so much. And these barriers can’t be laid solely at the feet of down payment assistance programming; the entire home subsidy system is geared to keep low-income people in rental housing and stacked against low-income home buyers. That’s why some commentators have suggested expanding the Section 8 voucher program to cover down payment assistance.

When Democrats turned their attention to down payment assistance, they thought “tax credit,” as they often do, rather than voucher or loan. The Home Buyer Tax Credit of 2009 was a key Obama administration initiative offered in the wake of the housing market collapse. The Obama plan built on a tax credit first signed into law the previous year by President Bush, but in an expanded and more generous form: whereas the Bush credit was in effect a loan and must be repaid in installments over fifteen years from the date of purchase, President Obama’s was a true credit and did not have to be repaid. Moreover, if the tax payable by the buyer proved insufficient to absorb the entire credit, the balance would be issued as a refund. The tax credit was available to “first-time buyers”, a misnomer really meaning a buyer who has not owned a home for at least three years. Covering 10% of the purchase price up to a maximum of $8,000, the program was expanded later in 2009 to include “existing” homeowners who had been living in their home for at least five of the last eight years and wished to purchase a new principal residence.

But importantly, under the Obama plan the buyer must advance the down payment from their own funds, and wait until tax time to claim the credit. This kind of credit structure falls short of fully addressing the savings barrier we mentioned in connection with the Greensboro plan, let alone the other, more intractable barriers to low-income home ownership. Rather than to encourage low-income home ownership as such, the Obama tax credit had a quite different objective – to stimulate a housing market ravaged by foreclosure and devaluation. As we will see, the Biden plan faces a decidedly different set of market conditions.

From the framework proposal so far announced by the Biden administration we can make out a tax credit plan that is yet more generous than the Obama tax credit. This one will cover up to $15,000, and this one will be advanceable, meaning the buyer won’t have to come out of pocket for the down payment; the federal government will disburse the amount of the credit in cash at closing. On tax day, if the buyer’s taxable income proves insufficient to absorb the credit, the buyer won’t have to cover the balance.

This generous tax credit, like many tax credits, is a complex of sometimes conflicting objectives and consequences. There is some indication that down payment relief of this kind could make home ownership affordable for as many as ten million renters, with monthly payments not exceeding one-third of their income – assuming low mortgage interest rates and a home priced in the median range. But as we mentioned, unlike the one Presidents Bush and Obama faced, today’s market is characterized by “sky-high prices and slim pickings.” Some worry that a generous tax credit could stimulate demand and end up making the market situation even worse. And absent direct subsidies, this policy package could end up helping builders more than it helps low-income buyers.

Let’s look at one more question swirling around down payment assistance programs as a whole. It turns out that removing the savings barrier to home ownership might have a downside, with zero down payment buyers defaulting on their mortgage loans at significantly higher rates than buyers who make down payments. Though the reasons for this aren’t clear, there are theories. While a lack of sufficient savings is not a condition of eligibility for down payment assistance, it may be that the subcategory of buyers who lack savings are less able to meet the expenses of home ownership. Or it may be that those with skin in the game – a financial stake in the home – are more likely to have the level of commitment adequate to sustain home ownership.

But high default rates need not be an inevitable consequence of down payment assistance, and careful program design could address this apparent defect. One nonprofit provider of down payment assistance offered an integrated program combining financial assistance with financial counseling, home buyer education, loan servicing, real estate brokerage services and an incentivized savings program. Low or zero down payment buyers who participated in the program defaulted in the first two years of ownership significantly less often than those who did not participate in the program, and better in some cases than buyers who made larger down payments.


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