Some potential homebuyers who have been waiting to get into the market are now taking action, thanks to the new federal housing tax credit.
Passed in February as part of the American Recovery and Reinvestment Act of 2009, also known as “the stimulus package,” the credit gives a tax allowance of up to $8,000 to first-time homebuyers who purchase a home before Dec. 1. The credit itself is already well-known, but here’s a lesser-known fact: Buyers now don’t have to wait until tax time to use it.
On May 29, the Department of Housing and Urban Development announced that it will allow buyers who qualify for the tax credit to “monetize” it by using it as a down payment or toward closing costs on a home. HUD Secretary Shaun Donovan said this new feature is intended to not only ease the costs of homeownership but also boost home sales in areas where properties have been sitting on the markets for months or years.
“What we’re doing today will not only help these families to purchase their first home, but will present an enormous benefit for communities struggling to deal with an oversupply of housing,” Donovan says.
Figuring out how to use the credit upfront, however, isn’t as easy as signing a form and collecting your cash. Check out our step-by-step guide for buying your home without emptying your bank account.
First things first: Are you qualified?
Not everyone is eligible to use the federal housing tax credit. You must be a first-time homebuyer — meaning that you have not owned a home that is your principal residence for at least three years leading up to your home purchase. Both spouses of a married couple must pass this test to qualify. For example, if you have not owned a home within three years, but your spouse has, neither of you would be considered a first-time homebuyer.
Income limits also apply. To claim the full amount of the credit, your modified adjusted gross income can be no more than $75,000 if you’re single, and $150,000 if you’re married. If you earn more than that, you can still take advantage of the credit, but at a lesser amount. The credit phases out entirely at $95,000 for unmarried homebuyers and $170,000 for married couples. If you stop using the home as your principal residence before three years are up, you’ll have to repay the credit.
If you want to use the tax credit to pay for upfront home-buying costs, you must have a mortgage insured by the Federal Housing Administration. You can find a list of such mortgage programs at www.hud.gov.
Still, Realtors worry that first-time buyers will wait too long to complete the closing process by the Nov. 30 deadline.
2 ways to monetize
If you’ve met all of the requirements, familiarize yourself with the two options available for monetizing your tax credit.
First, the most common way is accomplished through secondary financing, in which certain government or nonprofit organizations like state housing finance agencies can give you a short-term bridge loan and place a second lien on your home. Then, you would pay it off with the refund you receive after filing for the credit on your 2009 income tax return. If it’s not paid off by the deadline, interest begins to accrue. Erik Nore, director of homeownership at the New Mexico Mortgage Finance Authority, says his agency’s 2009 monetization program issues loans with a repayment date of June 30, 2010.
“If they don’t pay it back by then, it converts to a 30-year fixed-rate mortgage, with an average of 6 percent interest,” Nore says.
The other option for monetization is the purchase of the tax credit. In this scenario, the homebuyer assigns the credit to a lender. This option can be used by for-profit, FHA-approved lenders, as well as some government or nonprofit organizations.
“You sign a form that the lender provides for you that forfeits your right to the credit, and they will file the credit on your behalf for them,” says Edward Collins, a wealth adviser at Artisan Wealth Management in Lebanon, N.J. “You won’t do anything with the credit after that.”
If you choose to sell your tax credit, additional restrictions apply. Homebuyers who take this option can’t use the money from the sale of the credit toward the minimum 3.5 percent down payment that is required for FHA loans. However, they can use it to increase their down payment above 3.5 percent.
“So if you want to come up with more down and reduce your monthly payment a little, this would be one way to do it,” Collins says.
Also, buyers with other financial obligations — such as owing back taxes or student loans or having wages garnished — may not be eligible to sell their credit, since it could be offset by those debts.
HUD spokesman Lemar Wooley says having such financial obligations does not automatically preclude buyers from selling the tax credit, but HUD does advise lenders to “be sure and note the debt in considering the borrower’s ability to repay the loan.”
Lastly, a tax credit purchase may be subject to nominal administrative fees of no more than 2.5 percent of the amount of the credit.
No matter which monetization option you choose, you cannot receive any money back from it when you close on your home. “It’s not designed to be a cash-back event,” Collins says.
Where to monetize your credit
Once you know how the monetization of the federal housing tax credit works, it’s time to find an organization that participates in such a program. One or more of these groups may be available to you.
State housing agencies: These state-chartered groups are dedicated to affordable housing, and a growing number of them are beginning to offer monetization programs. As of mid-July 2009, 13 state housing agencies offered tax-credit loan programs: Colorado, Delaware, Florida (began Aug. 1), Idaho, Kentucky, Massachusetts, Missouri, Nebraska, New Jersey, Ohio, Texas, Tennessee and Virginia. Be aware that each state agency has its own requirements, and you may not be able to get the full amount of your credit upfront. For example, the Missouri Housing Development Commission only issues bridge loans up to $6,750, and New Mexico’s program has maximum income requirements that are lower than the federal cutoff.
Local housing agencies: Under HUD’s requirements, housing finance agencies that serve certain cities or communities may issue tax-credit loans or purchase tax credits from homebuyers, but finding one that offers such a program may be difficult.
“Most local housing finance authorities probably don’t have the cash lying around to go and do this,” says Jim Shaw, executive director of the Capital Area Housing Finance Corp., which serves central Texas. John Murphy, executive director of the National Association of Local Housing Finance Agencies, says he doesn’t know of any local housing organizations that are currently monetizing the tax credit.
Private lenders. If you can’t find a housing agency that is offering down payment assistance in conjunction with the tax credit, some private FHA-approved lenders may be able to monetize your credit by purchasing it. A searchable database of such lenders is available.
Know your situation
Using your federal housing tax credit well before tax time may seem like a great idea, but it’s not the right solution for everyone. For example, buyers interested in selling their credit and using it to make a larger down payment should be wary of doing so if they live in an area where property values are likely to decrease.
“Say your $100,000 home loses value by 10 percent,” Collins says. “Your $8,000 credit has been wiped out completely because the value of your home has gone down to $90,000.” People who anticipate large income tax bills at the end of the year may also want to wait and use the tax credit when they file their return, he adds.
Though the current credit expires Nov. 30, bills to extend the credit’s expiration date and open it up to all homebuyers have been introduced in Congress.