State and local downpayment assistance programs expand homeownership opportunities for moderate-income families by helping them make a down payment on a home. In some cases, downpayment assistance also helps to reduce the amount of mortgage a family is required to take out. When downpayment assistance is provided in the form of a grant or a forgivable loan, a new grant in the full amount may be necessary to serve each additional family. Programs that recycle downpayment assistance provide the assistance in the form of a loan that families are required to repay. This strategy allows the community to help more families with a set amount of funding.
There is some risk in declining real estate markets that the owner will not be able to repay the downpayment assistance when the house is sold. In these cases the revolving loan may end up functioning more like a grant or a forgivable loan. In such markets, the upside is that the house has become more affordable and future downpayment requirements are reduced.
What problems does recycling downpayment assistance solve?
The principal problem addressed by recycling downpayment assistance is the limited availability of public funds for down payment assistance. Because the need for down payment assistance often exceeds the demand, many communities have determined that the funds should be recycled to help more families. In general, there is a trade-off between the value of recycling the funds to help other families and the administrative costs involved in handling the recycled funds. For very small amounts, recycling may not be cost-effective. But for more substantial amounts - opinions differ on the exact level, but certainly for assistance of $5,000 or more and perhaps for lower amounts as well - recycling is an efficient use of government funds.
In some cases, downpayment assistance loans are structured as no- or low-interest mortgages. But to avoid adding to families' monthly housing costs, downpayment assistance loans are often provided in the form of a "silent second mortgage," in which no payments are due until the family sells the home.
As the amount of downpayment assistance needed to get a family into a home increases, many communities decide that not only do they want the original assistance to be recycled, but they want the funds to keep pace with the housing market as well. These communities have turned to shared equity homeownership - a set of solutions designed to preserve the buying power of public funds in the face of rising home prices.
Solutions in Action
The Anaheim, California Redevelopment Agency offers the Second Mortgage Assistance Program (SMAP), providing downpayment assistance in the form of a silent second mortgage with 5 percent simple interest. SMAP loans cover up to 20 percent of the home purchase (not to exceed $35,000) and are available to first-time homebuyers earning up to 120 percent AMI.
SMAP loans are generated from a 20 percent housing set-aside from tax increment gains generated in the city's redevelopment districts.
Recycling of downpayment assistance is most important in communities with down payment assistance programs that provide more than a minimal level of assistance to each family. Such communities often have large gaps between what entry-level homes cost and what working families can afford. As the per-household subsidy level increases, communities may wish to consider moving to a shared equity solution that helps their subsidy keep pace with the housing market.
Programs aimed at recycling downpayment assistance work best in stable and strong housing markets. When home prices remain steady or appreciate, owners are typically able to repay their loan which can be recaptured to provide assistance to future homebuyers. In slower housing markets, it may be a challenge for government agencies to recycle downpayment assistance. If home values decline and a borrower with a silent second mortgage or other form of downpayment assistance is underwater at the time of home sale, it may not be possible for the homeowner to repay the loan. In such a case, some communities that provide downpayment assistance have few options and chose to forgive the loan, thus losing their subsidy.
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