The first-time home buyer’s tax credit cannot be directly used for down payment at the closing table due to federal tax law. In order to claim tax credit, one must meet certain criteria. Since the first-time home buyer tax credit eligibility is contingent upon acquiring the home, it is impossible for one to receive the credit directly before closing on the home. NAR worked with Members of Congress to find a way to “monetize” the credit directly at the closing table. After weeks of work, the result was that because of the structure of the tax code and tax credits in general, it is somewhere in between impractical and impossible to make a tax credit directly available at the closing table. However, it is not impossible to leverage the anticipated credit for down payment assistance.
The principal way to use the anticipated credit for a down payment is through a bridge loan secured from a state housing finance agency (HFA) or other eligible agency. The HFA gives the bridge loan at closing and the buyer promises to repay. Ostensibly, the repayment should occur upon receipt of the tax refund. However, it is difficult to make this a certainty under existing law. Existing law does not allow for the assignment of a tax refund. If it did, HFA’s could require assignment, ensuring the loan gets repaid promptly.
NAR is urging Congress to extend and expand the credit. It may also be possible to correct one or both of the issues above, and NAR is exploring that with Members of Congress. Congress could create an exception to the assignment provision. This would allow HFAs to require an assignment of a refund made up of the tax credit. Congress could also mandate that refunds from amended returns be eligible for direct deposit, but this is less likely. This is a more difficult issue because the IRS needs to build capacity to do this and, at present, can only handle direct deposits from regularly filed tax returns. So, while it can be done, it would likely take too much time to implement.
Finally, some take issue with making the anticipated credit proceeds available at the closing table, especially when it is being used to cover the 3.5% cash requirement on an FHA loan. They compare this to seller-funded down payment assistance associated with higher default rates and other negative consequences. It is different in very important ways:
1. While the bridge loan is available at closing, it is not being provided via an interested party such as the seller.
2. While the buyer is not using their own cash at closing, they are obligated to pay the bridge loan back with the credit, meaning it is, in essence, “their money” being put on the line for down payment. Minor adjustments to tax refund policy noted above could make this even clearer.
3. The involvement of the HFA means there is yet another layer of scrutiny on the buyer’s ability to afford the home they are purchasing. This is in sharp contrast to seller-funded down payment where third parties with an interest in closing the deal would receive funds from the seller, subtract a fee, and then provide the cash at the table.
4. The most perverse element of seller-funded downpayment is not present, the pressure to increase the sales price of the property in order to cover the seller contribution to down payment.
NAR is making a strong push to extend and expand the credit before it expires on November 30, 2009. In so doing, we hope to make the credit more effective as a down payment assistance tool as well.