The Pros and Cons of a Down Payment Assistance Program

The following post is by MPFJ staff writer, SK. SK writes about the reasons we get into debt, changing the patterns that get us into debt, and examines small business ownership and real estate investing at her blog, American Debt Project. 

If you’re in the market for your first home, there are a plethora of programs at the federal, state, and local level that can help you with your purchase. There are also private financing incentives from builders who may allow you to put a smaller percentage down if you work with their preferred lender.

One of the most interesting and underutilized programs are local down payment assistance programs.

These programs are usually offered by cities as an incentive to purchase a home within their boundaries, and often within a special “redevelopment” neighborhood. If you’ve ever seen very cute, brand-new homes across the street from an auto repair shop and a liquor store in the heart of a city’s most blighted streets, then you are probably looking at a redevelopment zone. While these projects stick out at first, redevelopment is an interesting part of city planning, and it can bring positive changes to a neighborhood. New residents, new businesses, and new transportation projects all come together to make the area more pleasant and appealing, which was the city’s original intent with its DPA program.

These programs can come in several different forms. The most common one is a second mortgage offered by the city. In the City of Anaheim, there are two new developments in a rapidly developing and quite attractive downtown area where the DPA is offered. In this case, it is a deferred loan, at 3%-5% interest (and closer to 3% currently) fixed simple interest, with no payments due until maturity in 30 years or at the time of sale of the property. In other cases, the second mortgage may even be a zero interest loan that is not due until maturity or sale of the property.

DPA programs are meant to make new homes affordable to moderate to low income buyers. It keeps the cost of your monthly payments down by deferring a portion of the total amount mortgaged until maturity or sale of the property. For example, a new home costs $350,000. You finance $238,000 with your regular bank, $100,000 with the city, and put down $12,000 of your own funds. So, your mortgage payment is for $238,000, even though you have a $350,000 home. Because you are financing less than 80% of the home’s value with a traditional lender, you are also eligible to put less money down to purchase your home. Many of these programs require as little as 3% down from the buyer’s own funds. If you don’t have a 20% down payment saved up (and I don’t!), then a DPA can seem very appealing to make a new home your own. Not all bank loans require a 20% down payment to qualify for a good mortgage, but at less than 20% down, you will be required to pay PMI, which is a premium on your mortgage until your loan-to-value ratio is at 80%. Finally, DPA programs almost always have income limits, which means that preference is given to buyers in the low to middle income range for the area.

You know, once the government gets involved, they gotta’ start telling you what to do, right?

A property that uses city funds (like a DPA) becomes a deed-restricted property. Many programs require that the unit remains owner-occupied, or it is no longer eligible for the second mortgage, and payments (or the entire loan) will become due immediately. So, rentals are out of the question.

Second, when you decide to sell the property, you may only be able to sell it to another qualified low to moderate-income buyer, and there may be a cap on how much you can sell the property for. Finally, if you are still living in the house after 30 years and haven’t begun paying the second mortgage at all, it could be due in full at maturity—and if you haven’t saved the money you would need to borrow on your home to fulfill that obligation!

DPA programs are helpful for buyers who are interested in purchasing a home they plan to live in and don’t view the property as an investment. If you are looking to make a first time purchase and want new construction, a DPA offers you affordable payments for a home you may not otherwise have been able to afford.

That being said, that last sentence epitomizes my entire personal finance journey! If I can’t afford it with a 10% or 20% down payment, how do I justify getting an entire second mortgage because I wanted something nice and new? It is also the idea that the payments on this home are affordable, but your opportunities to build equity in this investment are limited, especially if resale is restricted to certain limits and only certain buyers.

Although I have decided not to consider a DPA, it can certainly make sense for many other buyers, especially those who might view their first purchase as somewhere they only want to live for a few years until they can sell the home for something larger or in a different area.

What about you all? Do you have Down Payment Assistance Programs in your area? Do they seem like a good deal or are they too much hassle for what they’re worth?

How much of a down payment did you place to purchase your home?