Federal regulators have not adequately explained their decision to reverse a policy allowing seller-funded down-payment assistance on FHA-backed loans — or provided sufficient responses to suggestions on ways to mend, rather than end, the practice — a federal judge has ruled.
The ruling means the U.S. Department of Housing and Urban Development will have to reopen an administrative proceeding that culminated in a rule change last October banning seller-funded down-payment assistance on loans guaranteed by the Federal Housing Administration (see Inman News story).
Claiming seller-funded down-payment assistance artificially inflates home prices and more than doubles the odds that a loan will end up in default, HUD put forward the proposed rule change last spring. A final rule banning the practice was published in the Federal Register on Oct. 1, after HUD received more than 15,000 comments on the proposal.
Three nonprofits that provide seller-funded down-payment assistance filed separate lawsuits to block implementation of the rule, saying it would have a disproportionate impact on minorities, low-income and single-parent families who rely on the down-payment-assistance programs they provide.
In a Feb. 29 order setting aside the rule change, U.S. District Court Judge Lawrence Karlton said that although HUD provided a "reasoned basis" for the rule change, it "was not honest with itself or the public that it was reversing course from its prior policy."
In putting forward the proposed rule change, Karlton said, HUD presented evidence that seller-funded down-payment assistance harms consumers by inflating home prices, and that the increased default rates on such loans leads to greater losses. HUD also noted abortive attempts at ending seller-funded down-payment assistance during the Clinton administration.
But more recently, Karlton said, HUD had "warmed" to seller-funded down-payment assistance — a fact omitted in its arguments for a change in course.
In a 2005 letter, HUD Assistant Secretary for Housing Brian Montgomery defended seller-funded down-payment assistance against calls for a ban by the U.S. Government Accountability Office. Although Montgomery recognized problems with the practice, he said those who relied on seller-funded down-payment assistance "are representative of the population that FHA was established to serve."
At the time, Montgomery said that instead of banning the practice, FHA would rather charge higher premiums on loans that relied on seller-funded down-payment assistance.
Karlton said that "while HUD may have set forth good reasons for the rule’s adoption, it did not adequately explain why it was changing its mind."
By failing to acknowledge its previous position, HUD violated the Administrative Procedures Act, which governs the process for implementing such changes, the judge said in his order.
Karlton said HUD also failed to provide an adequate response to some arguments put forward by proponents of seller-funded down payment assistance for overhauling, instead of abolishing, the practice.
Those suggestions included the same proposal put forward by Montgomery in 2005 — that HUD implement risk-based pricing for loans involving seller-funded down-payment insurance — and require lenders to inform appraisers of the source of down-payment assistance.
HUD maintains that it is implementing risk-based pricing, and that FHA modernization legislation now being considered by Congress will lower or eliminate down-payment requirements for some borrowers.
But Karlton said such an argument is "a non-sequitur" because HUD’s intent is to introduce risk-based pricing in conjunction with a ban on seller-funded down-payment assistance, rather than in lieu of a ban, as proposed in 2005.
In ordering the Housing Department to reopen the rulemaking process, Karlton barred HUD Secretary Alphonso Jackson from participating in the proceedings because of remarks attributed to him during the public comment period.
In a June 5, 2007, article by Bloomberg News, Jackson was quoted as saying he was "very much against" seller-funded down-payment assistance. "I think it’s wrong. I don’t want to continue to be a partner in a program where so many people can’t afford to keep up their payments."
The article also paraphrased Jackson as saying HUD intended to approve the new rule even if the agency received critical comments.
"Allowing the public to submit comments to an agency that has already made its decision is no different from prohibiting comments altogether," Karlton said.
But Karlton also said courts have found that just because officials take positions or express strong views doesn’t mean they are no longer capable of being objective and fair.
Because Jackson was not involved in the original rule-making proceeding — he had delegated that authority to Montgomery — it might be "imprudent" to reopen the process simply to exclude him, Karlton said.
But since he had already decided to reopen the process for other reasons — because HUD failed to provide a reasoned analysis for its departure from prior policy, and did not adequately respond to comments — disqualifying Jackson "will likely impose little or no burden on the agency," Karlton ruled.
The ruling was made in a case brought by Nehemiah Corp. of America in the U.S. District Court for the Eastern District of California. Two similar lawsuits were filed by AmeriDream Inc. and the Penobscot Indian Nation in the U.S. District Court for Washington, D.C.
Scott Syphax, the president and chief executive officer of Nehemiah, issued a statement this week saying the company was "thrilled with the Court’s decision to support low- to moderate-income families across the country" and looked forward to working with HUD in the future.
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