Building affordable housing is only half the picture. If low-income buyers do not have access to mortgage financing, a community’s efforts to build affordable housing will fail. Fortunately, today’s lending environment includes a variety of mortgage products that cater to lower-income borrowers with little to no down payment.
There are some steps lenders must take to be able to originate loans on resale restricted properties. Both Fannie Mae and Freddie Mac have checklists a lender must complete before originating loans on resale restricted properties, and it is important that program staff understand any lender restrictions that may be in place in order for their buyers to successfully secure a mortgage. Since lending criteria continually change, staff need to maintain a relationship with their lenders to ensure borrowers have access to a variety of lenders and a variety of loan products.
It is also important for programs to have clear criteria about what types of loans are or are not approved for their buyers to use to purchase a resale restricted home. One of the stewardship principles that have made CLT borrowers more successful than other low-income borrowers in terms of default and foreclosure is that those programs often limit borrowers to fixed-rate mortgage products. Some programs even have internal guidelines on housing cost-to-income ratios to ensure housing is truly affordable.
Model Mortgage Loan Policies
Model mortgage loan policies include:
1 – Loan types allowed and not allowed (i.e. variable-rate mortgages)
2 – Maximum interest rate, often tied to some published rate
3 – Maximum loan costs and fees
4 – Maximum housing cost-to-income ratio and/or debt-to-income ratio
5 – Credit requirements
6 – Cash out and refinance limitations
Cash Out and Refinancing
In addition to limiting the type of loans that buyers may use to purchase their resale restricted home initially, programs place additional restrictions on refinancing. Because these homes are resale restricted, it may appear as if there is more equity available to the homeowner than there actually is, so it is important that programs have some control over the refinance process. Typically, rate and term refinances are automatically approved, but any cash out involves calculating the resale formula to ensure that there is adequate equity for the cash out request.
It can also be useful to put in place additional legal safeguards to protect against unapproved refinancing and refinancing for amounts in excess of the resale limitations.
Although there is already a recorded deed restriction or ground lease in the public record, predatory lenders do not always review these documents well enough for them to be an effective deterrent. Including explicit language about approving any refinance in the recorded legal instrument will reduce the chance of unapproved loans and cash out.
Some programs record a subordinate deed of trust or mortgage so that they will be notified in the refinance process to subordinate or release their lien in order for the new lender to be in a priority position.
Both mortgage lenders and cities have an interest in ensuring that a relevant city department receives notice when owners of inclusionary homes default on their mortgages. With adequate notice, the program can often help a homeowner to refinance or find a buyer rather than proceeding through foreclosure. However, it is difficult for mortgage servicers to reliably provide this notice even when it is required of them.
While there is no single widespread best practice to remedy this situation, some common responses include:
- Record a second lien in order to improve the chance of receiving notice of default. In California and several other states, state law ensures that junior lien holders are notified when a homeowner defaults on a first mortgage. A growing number of California jurisdictions have taken to recording “Performance Deeds of Trust” or “Excess Proceeds Deeds of Trust” in addition to deed restrictions/covenants specifically because they are more likely to receive notice of default if there is a recorded deed of trust.
- Require mortgage holders to enter into separate agreements which require notice or have refused to fully subordinate their covenants to the first mortgage. In states where junior lien holders are not reliably notified of defaults, some programs have pursued this option. For example, a program agrees to release a unit from resale restrictions only if it has received prior notification of a default and been given an opportunity to cure. Fannie Mae guidelines explicitly allow this kind of requirement as long as the lender certifies that they have the capacity to provide notice when required. Currently FHA prohibits this approach and requires that FHA-insured homes be released from restrictions in foreclosure without any conditions. This approach has become far less practical in recent years as it has become much harder to find lenders willing to underwrite price-restricted homeowners.
- Monitor title reports or newspaper notices of foreclosure proceedings for evidence of foreclosures. Some communities, recognizing the limitations on their ability to require notice, choose this option instead. This approach requires more staff time than the other alternatives and may involve other costs. It also generally identifies problems at the last moment before a foreclosure.
It may also be a good idea to contract with an outside agency (e.g., housing counseling agency, realtor, or local Community Land Trust) to provide a set of administrative and outreach services related to preventing foreclosures. These may include:
- Contacting owners of all MPDU homes (IHO and Large Scale Developments), notifying them of approved waivers, and encouraging them to reach out for assistance if they experience difficulty selling their affordable unit.
- Monitoring (through the MLS or otherwise) the sales of any MPDU homes and offering assistance to listing realtors.
- When necessary and appropriate, making recommendations to the department when waivers are approved to enable subletting or unrestricted sales of a MPDU.
- Evaluating the feasibility of financing purchase of unsold MPDU homes by a nonprofit organization for temporary or permanent use as affordable rental housing.
- Tracking any foreclosures that do occur and providing brief reports every six months that identify the cause or causes of each foreclosure that has occurred, along with recommendations for changes to policies or procedures which could help prevent further foreclosures in the MPDU stock.
Grounded Solutions Network conducted a survey to find out which banks were lending to their member organizations. View Survey.
As we saw before the foreclosure crisis, lending and underwriting requirements can become lax with time. Just because a lender approves a loan amount does not mean that the homebuyer can afford the associated payment. To protect against inconsistent or loose borrowing criteria, many programs maintain internal underwriting policies that often dictate more conservative underwriting for things like housing cost and/or debt-to-income ratios.
Grounded Solutions Network has published a two-page handout for lenders outlining the benefits of loaning to CLT homebuyers. View Handout