News & Media

Could New Alternative Loans Lead to Another Crisis?

In a new mortgage plan, a company buys homes for people with low credit and allows them to start earning equity through rent payments. But if home prices unexpectedly fall, renters may walk away, new owners might face foreclosure and companies could collapse.

NEW YORK – A growing number of alternative mortgage products help consumers with shoddy credit become homeowners without a sizable down payment or through lease-to-own contracts. However, mortgage applicants must still have steady incomes.

Divvy Homes, for example, is a startup offering to purchase property on behalf of clients, rent the home back to the clients, and let them build up equity toward purchasing the property in the future. Some companies will make an all-cash offer on behalf of a client in hot markets. This gives consumers a way to purchase the house they want, even if they don’t have the funds yet.

However, some housing analysts worry that the growth of alternative mortgages could create a scenario that’s similar to the one that led to the 2008 housing crisis, when a high number of homeowners could not afford their properties and defaulted on their loans.

According to some alternative mortgage companies, though, new technology will help prevent such scenarios. The Wall Street Journal reports that these companies use technology to calculate the best price to purchase the homes on behalf of their clients. Their algorithms show what the property will likely be worth over time, and the systems also weigh the creditworthiness of potential buyers.

Critics worry about the algorithms’ long-term accuracy and wonder what would happen if an unforeseen external force pushes the market price of a rent-to-own home lower, even if only for a short time. If successful, these companies could eventually have a significant number of U.S. properties in their portfolio.

Divvy currently operates in limited markets: Cleveland, Memphis and Atlanta. The company will purchase a home with cash on the client’s behalf. The buyers put 1% to 2% down and must undergo credit and financial checks to qualify for the program. If approved, they’re able to move in with a three-year lease.

Divvy charges monthly rent, but the payment is higher than it likely would be for a standard, similar rental property. That extra amount goes toward equity to purchase a home. After three years, the consumer will own about 10% of the home and can usually qualify for a mortgage. Divvy targets homes in the $100,000 to $400,000 range.

“We looked nationwide and saw homeownership rates declining year over year,” Nicholas Clark, Divvy’s co-founder and chief technology officer, told the Journal. “This works for married couples with a family looking to buy their first home who don’t have enough saved up to qualify for a mortgage or who have a credit hiccup to repair.”

Source: “Startups That Offer New Paths to Homeownership,” The Wall Street Journal (Sept. 22, 2019) [Log-in required.]

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