This is part of an ongoing series that answers frequently asked questions from home buyers. Today’s question is: How do mortgage down payment assistance programs work?
Before we get to the logistical details, let’s start with a basic definition. What is a down payment assistance program, exactly?
What Is a Down Payment Assistance Program?
These programs offer some form of financial help to home buyers who don’t have a lot of money to put down when buying a house. They are often referred to as “DPA” programs, or DPAPs, for short.
There are several different kinds of down payment assistance programs. Some are offered by housing-related nonprofit organizations, while others are managed by state or local government agencies. Most of them include partnerships with select mortgage lenders.
Three Common Types of Assistance
Let’s move on to talk about how down payment assistance actually works. While these programs are offered by many different organizations, they usually fall into one of three categories:
1. Down payment grants: A grant is different from a loan in the sense that it doesn’t have to be paid back (if certain conditions are met). Down payment assistance grants are funds that the home buyer does not have to repay as long as he or she occupies the home for a certain period of time. At least, that’s usually how they work. Occupancy is a common requirement associated with down payment grants. But the specific rules and requirements can vary from one program to another.
2. Second mortgage loans: This is the most common form of down payment assistance program available these days (as of summer 2017). The primary or “first” mortgage is applied to the purchase price of the house, with a second loan that covers the upfront investment. As with down payment grants, stipulations for second mortgage loans can vary widely depending on the agency that offers it. Many of the second loans offered by state and local housing agencies have very low interest rates – or even zero interest. It’s also common for the payments to be deferred for a certain period of time. In some cases, the loan is completely forgiven once a certain number of years has passed.
3. Tax credits: Some housing finance agencies and government organizations offer mortgage credit certificates to home buyers who meet specific requirements. Strictly speaking, it’s not a down payment assistance program, like the two mentioned above. But it can reduce the home buyer’s tax burden and free up additional money for the down payment and closing cost expenses.
In some cases, the grant or second loan will be offered along with a primary mortgage loan that is offered by a partnering lenders. They’re usually 30-year fixed-rate mortgage loans, since that’s the most stable and predictable financing option for borrowers.
Some DPAs Are Limited to ‘First-Time’ Buyers
Some down payment assistance programs are limited to first-time home buyers, while others are more broad in nature. But the exact definition of a “first time” buyer can vary from one program to the next.
In some cases, eligibility might be limited to people who have never owned a home in past. Other times, the down payment assistance program might be offered to people who haven’t owned a home within the last three years. So the precise definition of a first-time buyer might be narrow or broad, depending on the agency that is offering the program.
Counseling, Size Limits, and Income Requirements
Educational counseling requirements are another common feature of down payment assistance programs. This means that the home buyer must receive some form of counseling or training from an approved counselor or agency. The training topics can vary, but they usually relate to mortgage finance and home buying. Counseling sessions are often brief and, in many cases, can be completed within a few hours.
With many down payment assistance programs, there are usually limits to the purchase price and/or loan amount. A lot of times, the agency offering the program will use median home values to set these limits.
Income restrictions are also common. For instance, if a program is geared toward low- to moderate-income home buyers, it might limit the borrower’s income to 115% of the median home value in the area (a common threshold). That’s just one example of how these limits might be set. But it can vary from one down payment program to the next.
An Real-World Example of a Down Payment Assistance Program
You’ll have an easier time understanding how a down payment assistance program works if we look at a real-world example. The Arizona Public Housing Authority (APHA) is a good example, because it offers a couple of the options mentioned above – grants and second mortgage loans.
APHA offers a loan program called “Home Plus.” It’s a 30-year fixed-rate mortgage with down payment assistance in the form of a grant. The size of the grant varies depending on the amount being borrowed, and it can range from 0% to 5%. It’s truly a grant, in the sense that there are no repayment terms.
APHA also offers a “Pathway to Purchase” program. This option includes “an attractive 30-year fixed-rate mortgage with a down payment assistance second mortgage equal to 10% of the purchase price, up to a maximum of $20,000.”
This just one example of a government housing agency partnering with lenders or other groups to create down payment assistance programs for local home buyers. I chose this particular agency because they offer two of the DPAP options described earlier — grants and second mortgage loans.
Using Gift Money From a Family Member / Third Party
When people mention a “down payment assistance program,” they are usually referring to the grants and/or second mortgages discussed in the previous section.
But there’s another form of assistance that can be equally helpful, and a lot of first-time home buyers don’t even know it exists. This is the down payment gift.
These days, most mortgage programs allow buyers to receive funds donated from a third party. These funds can be used for the down payment and, in some cases, the closing costs.
The list of approved donors varies based on the type of home loan you’re using, but it’s generally a broad category. For example, some mortgage programs allow funds to be provided by close friends, family members, employers, or nonprofit organizations.
A key requirement for this kind of down payment assistance is that the person donating the funds must also provide a letter stating that they do not expect any repayment. In other words, the money being provided must truly be a gift, and not a short-term loan from one person to another.
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