Two of the nation’s largest lenders are now removing the struggle many homebuyers face in saving up for a down payment by offering loans that require just 1% down. Experts warn that might not be a good thing.
Last month, the nation’s largest home mortgage lender, United Wholesale Mortgage, announced it would begin offering loans requiring down payments of only 1% of the home’s purchase price. The move was followed by fellow lender Rocket Mortgage, which announced this week the launch of a similar program called One+. The Rocket Mortgage loan doesn’t require borrowers to pay private mortgage insurance, or PMI, which traditionally kicks in when buyers have down payments of less than 20%. (PMI usually amounts to 0.5% to 1.5% of the loan amount per year, paid in monthly installments.)
Both lenders will kick in an additional 2% of the home’s sale price so the borrower has at least 3% down. (United Wholesale Mortgage will only kick in up to $4,000 toward the extra equity borrowers receive. There is no limit for Rocket Mortgage borrowers.) The loans are also income-restricted, geared toward lower- and moderate-income borrowers.
“It’s a really good way to expand homeownership for families that otherwise may not be able to get a hold of the American dream,” says David Stevens, CEO of Mountain Lake Consulting, a company that provides services to the mortgage industry and does not work with United Wholesale Mortgage or Rocket Mortgage.
“One unfortunate reality for homeownership is saving up for a down payment can be pretty tough,” he adds. “Oftentimes it ends up excluding families with more diverse backgrounds.”
He anticipates these new sorts of loans could help people of color and single parents who see the down payment as a barrier to homeownership.
“The biggest problems people have right now is affordability and down payments,” says Adam Speck, executive vice president of purchase at Rocket Mortgage. “This is something clients have been asking for.”
However, some have cautioned that these extremely low down payment loans could be risky for borrowers, especially those with limited savings.
And as home prices have begun falling in certain parts of the county, buyers who don’t make larger down payments could find themselves owing more on their mortgages than their homes are worth in these areas.
“Making it easier for everybody to get a mortgage with only 1% is like putting candy in front of a baby,” says mortgage lender Shmuel Shayowitz, president and chief lending officer at Approved Funding in River Edge, NJ. “People who should not be buying homes will be encouraged and enabled to buy homes.”
The average down payment was 13% in the first quarter of this year, according to a recent Realtor.com® analysis.
Low or no down payment loans aren’t that uncommon
These low or no down payment loans aren’t unprecedented.
Popular Department of Veterans Affairs loans and U.S. Department of Agriculture loans don’t require any down payments. The government loans respectively cater to active military, veterans, and their families or those purchasing property in rural areas.
Last year, Bank of America launched a 0% down payment program for first-time buyers purchasing properties in historically Black and Hispanic communities in certain cities.
Borrowers with qualifying credit scores can also snag a government-backed loan for as little as 3% down or a Federal Housing Administration loan for just 3.5% down. Many of these borrowers receive down payment assistance from various levels of government or through other sources, so their personal contributions might be less than the minimum required.
“Does 1% or 3.5% really make that big of a difference?” asks mortgage consultant Stevens. “The goal is to ultimately expand the pool of potential homebuyers.”
The extra up to $4,000 that United Wholesale Mortgage kicks in for borrowers to bring them up to 3% down is “basically a grant,” says the chief strategy officer, Alex Elezaj. “It’s helping make homeownership more accessible and more affordable across the country.”
The fine print of these 1% down mortgages
Not everyone is eligible for these mortgages.
Borrowers still need to have high enough credit scores, sufficient income, and low enough debt to be approved for these mortgages. For the United Wholesale Mortgage and Rocket Mortgage loans, buyers must have credit scores of at least 620 and cannot earn more than 80% of their area median income. The latter means if the typical, local family in a region earns $100,000, then the borrowers there can’t make more than $80,000 a year.
Those seeking the Rocket One+ mortgage must purchase a single-family home. And the United Wholesale Mortgage conventional 1% down loan is available only through mortgage brokers.
“The buyer still has to qualify for whatever that [monthly] payment is,” says mortgage consultant Stevens.
Rocket Mortgage borrowers also don’t have to worry about paying mortgage insurance each month. The lender plans to pay it for borrowers in a lump sum at the time they take out the loan.
Some in the mortgage industry have assumed the lenders will charge higher mortgage rates or fees to make up for down payment assistance—and in Rocket Mortgage’s case, the lack of mortgage insurance. But both lenders tell Realtor.com that the mortgage rates and fees offered on these loans are the same offered for their higher down payment mortgages.
United Wholesale Mortgage’s Elezaj says the goal of its 1% down loan is to help borrowers as well as drum up additional business for lenders right now. As mortgage rates spiked, many buyers have been priced out of the market while others are waiting for rates to fall. Few homeowners want to refinance with rates averaging 7.14% for 30-year fixed-rate loans as of Friday afternoon, according to Mortgage News Daily.
Mortgage applications were down 34.3% year over year in the week ending May 19, according to the Mortgage Bankers Association. This included purchase loans and refinances.
The risks of the 1% down mortgages
There are risks to taking out one of these loans.
Most first-time buyers don’t realize just how expensive homeownership can be. There are the big-ticket items that eventually need replacing, such as a roof or boiler or an appliance such as a stove or washing machine. Then there is the maintenance, such as having the gutters cleaned, the property landscaped, the HVAC system serviced. And there are also those unexpected expenses when something goes wrong without warning. Homes are called “money pits” for a reason.
Homeowners who don’t have much equity in their properties won’t have anything to tap into to pay these expenses. And if they opted for one of these loans because they didn’t have much in savings, they might not be able to cover these costs plus their mortgage.
“It’s potentially enabling homebuyers who should not be buying a house,” says mortgage lender Shayowitz. “The people who should be given mortgages with 1% down should be more highly qualified individuals with the income and the reserves to make their mortgage payments.”
Another concern is that, as the housing markets corrects and prices drop in many parts of the country, homebuyers who use small down payments could find themselves underwater on their loans.
But that’s not necessarily a problem in this era of accelerated housing cycles.
“They still have a place to live, [and] prices generally recover over time,” says Keith Gumbinger, a vice president at HSH.com, a mortgage information website.
But if they have to sell quickly, they could lose money if they owe more than the home is worth. They would have to absorb those losses.
Homeowners who don’t have much of their own money invested in their properties are also more likely to walk away from them if there are problems or their property value goes down. Foreclosure or short sales would severely damage someone’s credit.
“I don’t even think those are real concerns,” says Elezaj. He points out that borrowers still must have strong financial credentials to qualify for the loans. “These are good quality loans and good quality borrowers.”
The lender absorbs more of the risk than the borrower, says Gumbinger. If the borrower can’t pay the mortgage, then the lender doesn’t get paid until the home is ultimately sold.
Could 1% down mortgages trigger another housing crash?
While these loans might conjure up comparisons to the housing crash of the late 2000s, there are a few key differences that should prevent another crisis. These borrowers’ financials are carefully vetted versus the run-up to the recession when people were lying about how much they earned and still getting loans.
Their credit scores need to be high enough and their debt low enough, and they have to prove their income is sufficient to make the mortgage payments each month.
Plus, these loans don’t balloon in size over time or adjust as mortgage rates change. Both are 30-year, fixed-rate mortgages offering steady, monthly payments.
“These borrowers are at least reasonably qualified,” says Gumbinger.
SOURCE: REALTOR.COM
