Housing advocates once touted homeownership as a powerful tool for neighborhood change and a way for families to gain wealth. Yet the percentage of households that own their home has fallen sharply since the Great Recession, from more than 69% to less than 64%.
Some affordable housing developers are creating opportunities for low-income households to buy homes through programs such as “lease–purchase” agreements, an old idea that has proven to be newly effective for developers like the Cleveland Housing Network (CHN).
However, “lease–purchase” programs aren’t large enough to meet the demand. As a result, millions of people, desperate to achieve the dream of homeownership but unable to qualify for a home mortgage under the new, tougher underwriting standards, have entered into “land contract” transactions, which housing advocates say can often turn predatory.
Imbalance of Power
At least 3.5 million people bought a home through a land contract in 2009, the most-recent year for which information is available, according to the U.S. Census Bureau. That’s a substantial share of the U.S. population. However, even this figure may understate the true number, since many contract buyers don’t understand the nature of their transactions enough to report them.
Land contract transactions take a variety of forms and are covered by a patchwork of state laws. Most hold the resident responsible for the costs of homeownership, such as property taxes and the expense of maintaining the home. The buyer makes payments directly to the seller, but the latter doesn’t have to convey legal title to the home until the full purchase price has been paid at the end of a payment schedule that can stretch as long as 30 years.
If the buyer defaults at any time, often the seller can cancel the contract through a process known as forfeiture, keep all payments, and evict the buyer, according to the National Consumer Law Center (NCLC).
“Generally, families don’t have the same protections as owners [in these cases]. For example, the owner can file immediately on a missed payment, and the buyer is on the hook for repairs,” says Doug Ryan, director of affordable homeownership for Prosperity Now, a Washington, D.C.–based nonprofit organization.
The NCLC recommends cleaning up the business by requiring independent inspections, third-party appraisals, disclosure of finance charges and annual percentage rates of interest, as well as the standardized forms, taxes, and liens that should be dealt with at the time of sale. The homeowner should also have the right to prepay or cure a default and obtain protection from early termination.
“There are a lot of bad, exploitive practices in this area,” says Chris Estes, president and CEO of the National Housing Conference. “Especially targeting Latino immigrants who don’t have access to traditional banking or credit scores.”
Lease–Purchase a Promising Model
Lease–purchase agreements provide a different, much more promising model for affordable homeownership. Under a lease–purchase agreements, tenants sign a lease that gives them all the protections a conventional renter would receive. The landlord is responsible for providing and maintaining a safe living environment, for example. The agreement also gives the resident the option of buying the home after a certain period, at a defined price.
Several states, including Kansas, Michigan, Ohio, Oklahoma, and Pennsylvania, combine lease–purchase agreements with other housing programs, such as reserving a portion of their competitive 9% low-income housing tax credits (LIHTCs) every year to finance lease-to-own developments.
Lease–purchase programs languished during the last housing boom, which peaked in 2005. Back then, mortgages were available on such easy terms that relatively few home buyers bothered to sign up for lease purchase.
“The economics weren’t right yet in the 2000s,” says Sarah Edelman, director of housing policy for the Center for American Progress. “There are some cautionary tales and [were] a couple of promising efforts, but I couldn’t find an example of someone who had gone to scale with it.
Today, the Cleveland Housing Network (CHN) is one organization that’s created a working model for lease–purchase arrangements. Over the years, the affordable housing developer has built more than 1,000 lease–purchase houses using LIHTCs and continues to do so, though at a slow rate averaging about 37 per year.
The time may now be right for more programs like CHN’s, says Rob Curry, the organization’s executive director. “It’s a question of access to mortgage capital. Loan standards have gone from being insanely loose to insanely tight,” he says. “Low- and moderate-income families are no longer able to access the mortgage market.”
After completing a (single-family) home under its program, CHN offers them for rent to low-income households under a lease–purchase agreement. For the first 15 years of the lease, the rental house operates very much like conventional affordable housing financed with LIHTCs.
Once the home has finished its LIHTC compliance period, the lease–purchase agreement gives the renter living at the home the opportunity to buy it. CHN charges a median sale price of just $19,750 for the lease–purchase houses it builds with LIHTCs. “LIHTCs bring the hard construction costs of these projects down to a very low level,” says Curry.
LIHTC lease–purchase developers often provide credit counseling and home buyer education to potential homeowners. CHN also offers residents financing from its own balance sheets. The loans are amortized with very short terms of just four years, but the loan amounts are so low that the payments work out to just a few hundred dollars a month, plus property taxes and the cost of maintaining the house.
CHN underwrites these relatively small loans by looking at how well the potential homeowners handled their monthly rent payments, which average about $500 a month. “Anyone renting one of our single-family houses who hasn’t been evicted has shown they can pay the rent,” says Curry. “That person can probably also make their mortgage payments.”
Long-Term Mutual Benefit
Lease–purchase deals can work in places where home prices are low. Residents can benefit if they lock in relatively low home prices while they improve their credit scores and save for homeownership, says Edelman. “Otherwise, they’d be better off simply saving and focusing on getting a conventional mortgage.”
Lease–purchase agreements can provide a long-term benefit to developers, too. Their renters are more likely to renew their leases and take care of their apartments, for one. “It can align incentives in a really nice way,” says Edelman. “People are going to stick around for longer, and they have an incentive to pay their rent on time.”
The lease–purchase model also answers the question of what to do with a home after its LIHTCs have expired. There’s no struggle to recapitalize these houses and keep their rents affordable, because ownership of the homes, and the responsibility of maintaining them, passes to the residents.