In keeping with its mandate to improve affordability for first-time home buyers, Fannie Mae has in the past year launched a series of pilot programs geared to help get millennials out of high-priced rental properties – or in some cases out of their parents’ basements – and into homeownership.
During a recent interview with MortgageOrb, Jonathan Lawless, vice president of customer solutions for Fannie Mae, provided an overview of these recent pilot programs, the bulk of which were developed internally by a group of housing finance experts tasked with finding creative but viable ways to address affordability issues.
“We built out this product development team starting at the end of last year and into early this year and it is an exciting group of people to work with,” Lawless tells Orb. “It is a random hodgepodge, in terms their backgrounds – some of them are lawyers, some of them are architects, some of them have policy backgrounds – and we’re very much into this ‘new design thinking approach,’ which is where you go out and talk to people [including lenders] and do some underground work before you design your solutions.”
The group’s goal, Lawless says, is to look for opportunities to make home ownership more within reach for millennials, who now represent the bulk of first-time home buyers. He says the group’s initial research revealed that millennials face three main challenges when it comes to affordability: High student loan debt, which hurts their debt-to-income (DTI) ratio; an inability to save for a downpayment, due mainly to high rents; and a “lack of awareness of what it takes to buy,” combined with a prevailing attitude that homeownership is extremely financially risky.
Although there wasn’t much the group could do about that last one, it did succeed in developing several interesting pilot programs and corresponding policy changes to address the DTI and down payment issues.
“The first challenge was that, from a DTI perspective, being able to qualify, and be under our 45% DTI requirement was not possible for many millennials with student loan debt,” Lawless says.
As the group did its initial research, it discovered that although the average amount of student loan debt per borrower has grown tremendously over the years, the average monthly student loan payment has not increased that much, due mainly to lower interest rates as well as payment alternatives such as income-based debt repayment plans.
“While the average amount of student debt has increased over time – and it is profoundly high, at about $40,000 – because interest rates have gone down and because of all the new ways to offset your student debt payment, like income-based debt repayment plans – as a percentage of graduate’s income, the increase has not been as staggering,” Lawless says. “So, you might see the [student loan] balance go up a huge amount, but the payment increase has actually been muted.”
To address the problem, Fannie Mae recently partnered with SoFi to enable the parents of millennials with high student loan debt to refinance that debt using their home. Introduced late last year, the Student Loan Payoff ReFi program gives homeowners the ability to refinance their mortgage and pay down the balance of an existing student loan at the same time. Thus, this cash-out refinance student loan payoff plan helps more millennials qualify for mortgages.
“Initially there was a recognition that one way to get rid of the DTI issue is to get rid of debt entirely,” Lawless says. “And the thought there was more about parents who had considerable amount of equity in their homes paying off their kids’ student loans.
“We saw that there were bunch of people in this country with considerable equity in their homes… [and that many of them] had children with student loans,” he adds. “So, the idea was to relieve them of that burden, so that they could become the next generation of homeowners.”
Lawless says although this “DTI program” originally started with SoFi as a pilot in November of last year, “it went national in April.”
More recently, Fannie Mae adjusted its requirements to allow certain qualifying buyers with high student loan debt to have that debt not included in underwriting provided that the borrower has an income-bashed repayment plan.
“That way, if somebody else was paying your student loans, we would not include your student loans in your DTI calculation,” he says.
In yet a bigger and bolder move, Fannie Mae recently adjusted its DTI threshold from 45% to 50% for certain borrowers with student loan debt, provided there are certain “compensating factors.”
“When we looked at our application data, we found the lot of people who were being turned down were between 45% DTI and 50% DTI – so, we recently moved the band out to 50%,” Lawless says.
However he adds: “We get nervous when someone is at 50% [DTI], so, you’ve got to show that you can sustain homeownership if you go out there.”
Lawless acknowledges, however, that when it comes to affordability, one major problem is that most millennials want to buy in high-priced areas.
“Home prices have gone up in areas where there are jobs and people want to buy,” he says. “So, the reason there is so much pressure around DTI is that, if you’re a tech worker in Seattle, and you’re just out of college and you want to buy a home that’s reasonably close to your job, the prices are really high and thus your DTI is really high. All that demand in these hot areas is what is causing the payments to be a real pressure.”
Another area of focus for Fannie Mae in the past year, Lawless says, “is down payment needs.”
“And what we found is that because of the supply constraints in rental housing, most millennials are having to rent studios for up to $3,000 in certain cities – and they’re spending such a high percentage of their income on housing costs that their ability to generate any savings is really low,” Lawless says, adding that recent data shows that “of the people who are spending 30% or more of their income on their housing costs, in these high-demand cities, more than half of them are unable to save at all.”
“The average home price is $300,000 – and in these urban areas it’s a lot more,” he says. “At three percent down payment, closing costs at around $6,000, moving expenses, and the fact that when you buy you want some money leftover in the bank, you need about $20,000 of cash savings to buy a home at $300,000. So, if you’re not able to save any money, due to high rent and student loans, a down payment becomes a huge constraint.”
Just as millennials millennials “have a unique set of financial challenges,” Lawless says, “they also have a unique set of solutions they can turn to.” In what many might consider a highly unusual pilot program, Fannie Mae also recently partnered with crowdfunding technology provider CMG Financial, which in October launched HomeFundMe, an online platform that allows borrowers to crowdfund the down payment on a home purchase without fees.
Lawless says after CMG came up with the idea, Fannie Mae looked at the possibility using the platform as a way to validate the cash “gifts” so that they could be applied toward a down payment.
“The question for us was, how do we make our policy aligned so that [our lender clients] can go and test and explore this,” he says. “Personally, I love this idea, I mean, millennials buy jeans on KickStarter… It’s such an interesting way to raise money to do something. And if you have the technology to get all your Facebook friends to give you $5 … you could really source a downpayment.”
Lawless says one thing that makes the CMG platform attractive is that it “provides a fund matching program, so it provides some funds toward a down payment.”
Fannie Mae, however, had to look at this program carefully before considering changing its policies so that the funds as qualify toward a down payment.
“There are always risks involved when borrowers bring less than the downpayment themselves,” he says. “But when the downpayment source is a family member or friends, it tends to have a beneficial effect. Somebody who is capable of kickstarting their down payment and has a network of people who are willing to help them financially – I tend to think that those loans will perform. We will see what kind of traction this gets – and what the performance looks like – but this is one of the quirkier downpayment solutions that we’ve had.”
Technically, Fannie Mae’s policy states that “there is a limited group of people who are allowed to give gifts… namely family members,” he says.
“And if you are sourcing your downpayment from a gift, you have to get a gift letter,” he adds. “In other words, what we really want to make sure of is that the money [the borrower] getting is not, in fact, a loan. So, in a standard gift process it has to come from certain people and it must be documented.
“But it doesn’t have to always be,” Lawless continues. “For example, sometimes when people get married, they ask for cash gifts from friends and family to use for a downpayment. But what a lender has to do, when the money comes from all those different sources, is document it and show that it makes sense. ‘Did you really get married? Show us the website where you raised this money.’ So, there is a lot of scrutiny and documentation that has to happen, which makes it sort of uncomfortable for lenders to do today.”
CMG’s patented technology, however, “makes it so the funds can come from any source,” he says. It allows for an audit trail proving who gave the money and that it was a gift not a loan. This allows the funds to come from people other than family members.
“This is a unique pilot – but it is really a CMG-specific idea,” Lawless adds. “In essence, they have a patented platform that we have built policy around, to see if it works… but we will have to see where this goes. We will find out in a few months or a year’s time whether this is a viable source of down payments.”
Fannie Mae also recently announced a unique pilot program in Seattle with Loftium and mortgage lender Umpqua that enables millennials to rent out rooms in their new homes via Airbnb and have the rent apply toward a down payment.
“If you’re buying a home that has an extra bedroom and you agree to rent that room out on Airbnb, Loftium will manage the rental for you and basically front you the earnings (up to $50,000) so that you can use it as a downpayment to buy the house,” Lawless explains.
At first, Fannie Mae thought this pilot would be “just a novelty,” but “in the first week it was announced, Umpqua got something like 200 requests for pre-approvals in Seattle and Loftium got something like 2,000 inquiries into the program,” Lawless says. “So, it really captured peoples’ imaginations.
“The reason this one is kind of exciting – is because it has kind of a quirky structure,” he adds. “Again, like crowdsourcing, things like Airbnb, and home-sharing, and having a roommate, these are, again, part of the ‘shared economy’ and it is an interesting concept.”
This is not, however, the same thing as renting out a room on Airbnb and counting that as income.
“What Loftium does is it takes the future income and gives it to you up front,” he says. “So, we no longer worry if the income is coming or not – that’s now Loftium’s problem.”
“The challenge now is, we have another weird source of funding for a down payment – is it a loan, technically, or is it a second lien?” Lawless adds. “What is the policy? What if, after six months, the homeowner decides they no longer want someone renting in their house? Is there a default issue? We went through all that with Loftium and that is basically what we are testing.”