Redlining by Another Name?
MinnPost photo by Corey Anderson

Redlining by Another Name?

Sellers are sometimes wary of buyers with government-backed mortgages. It could be making Minnesota's racial homeownership gap worse.

WASHINGTON — Sometimes the bias is blatant, included on listings of handsome homes that eager buyers with government-backed mortgages would love to own.

“Sellers have chosen not to accept FHA or (VA) financing offers,” said a recent listing for a home in Hennepin County.

Sometimes the discrimination is less evident, with sellers rejecting contracts from those with government-backed loans without giving a reason. Either way, there is a class of potential homebuyers who face special difficulties in trying to buy a home in Minnesota, and they are likely to be young, first-time homebuyers and often people of color.

Federal Housing Administration (FHA) and Veteran’s Administration-backed loans give first-time homeowners and those with less-than-stellar credit the opportunities to borrow money to purchase a home. Their benefits include relatively lenient income and credit scores qualifications as well as down payment requirements as low as 3.5% for an FHA-backed mortgage and zero down payment for veterans who qualify for a VA mortgage.

Since these loans are insured by the federal government, they are a dependable form of mortgage financing. And those with VA loans have the lowest default rate of any mortgage loan.

So why do sellers sometimes avoid offers financed by this type of loan, even if the offer matches, or even exceeds, the asking price?

“If a property has multiple offers and there is an FHA or VA buyer and there are conventional or cash offers, the FHA or VA buyer is not likely to get it,” said Tessa Mullen, a real estate agent with Twin Cities-based Zachary Realty.

One reason given is that the federal government requires a special appraisal of a property before it will approve a government-backed loan. That appraisal not only ensures the property is worth the seller’s price, but also that the property is free of any safety or other issues, such as peeling lead paint, loose handrails or rotting floorboards.

“I, too, wouldn’t want the inspection that FHA requires,” said independent real estate agent Amy Turner, who also said she works hard to persuade a seller to accept a contract from a potential buyer with an FHA loan.

James Essen, president of the Minnesota Mortgage Association, said there’s another, much more insidious reason for why potential buyers with FHA and VA mortgages get rejected.

“Sellers have a perception that they are going to attract the wrong kind of person and they don’t want that type of person moving into the neighborhood,” he said.

He said this type of discrimination may be fueling the huge gap in Minnesota between minority home ownership and white homeownership since FHA and VA loans are frequently used by Black and Latino homebuyers. According to Minnesota Housing, a state agency, three out of four white households own their homes, while only one out of three Black households own their homes. U.S. Census data confirms this huge homeownership gap, one of the largest in the nation.

Chart of Homeownership rates in Minnesota from 2010 through 2021
Homeownership rates in Minnesota
Source: U.S. Census Bureau, American Community Survey

The housing market in Minnesota has cooled down a bit from its “nuclear hot” pandemic era surge, said Emily Green, president of Minnesota Realtors. But she said it’s still a seller’s market because there are few homes available right now as potential sellers are shunning the high interest rates they’d have to pay for a new mortgage.

“If you are reasonably priced, this is a wonderful seller’s market,” she said.

So sellers often receive multiple offers for their home, and can easily reject contracts from those with FHA or VA financing, Green said.

“They might just reject those offers even if they come in higher,” she said.

‘Redlining that should be outlawed’

According to federal law, a seller can refuse to accept FHA or VA financing as long as a seller complies with equal opportunity housing laws and does not discriminate against a potential home buyer based on race, religion, gender identity, sexual orientation, familial status national origin or disability.

Nevertheless, Trent Bowman, vice president, Community Impact Manager at Bremer Bank, said the ability of home sellers to turn down those with FHA or VA loans is discriminatory and a type of “redlining” that should be outlawed.

In his job, he teaches prospective homebuyers about all the options there are in the mortgage market and tries to find the best one for each individual or family in search of a home. For many that may be an FHA or VA loan, he said.

Yet Bowman said there are a lot of misconceptions among real estate agents and home sellers about FHA and VA mortgages, including the requirement they would have to comply with costly work orders issued by an appraiser. Bowman said a seller should have their properties pre-inspected, so it passes an FHA-mandated appraisal or the home inspections usually sought by buyers with conventional mortgages and those planning to purchase a property with cash.

He also said there’s a misconception that an FHA or VA loan is harder to go through the underwriting required by mortgage lenders before approving a loan. “That’s just not true,” he said.

“What difference does it make for the sellers if it’s FHA, VA or conventional?” Bowman asked. “They are still going to get what they want for their properties.”

Most counties in Minnesota have an FHA loan limit of $472,030, but 13 counties in the state with higher property prices – including Hennepin, Ramsey and Dakota counties – have a $515,200 limit. Yet few are taking advantage of the program.

According to the U.S. Department of Housing and Urban Development, only 13,663, or 1.33% of the mortgages approved last year were FHA. Meanwhile, 9.35% of the mortgages approved in Texas, and 8.7 % of the mortgages approved in Florida as well as 7.2% of the mortgages approved in California were FHA.

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Bowman said lenders and real estate agents in Minnesota have known for years that FHA and VA loans have “gotten a bad rap.” He would like the National Association of Realtors to ban language on listings that say sellers would not accept government-backed financing.

Minnesota has recently ended the requirement that a buyer disclose the source of their down payment – something that often resulted in discrimination against buyers who had government assistance. Bowman would like the state to end the requirement a contract reveal the type of financing that would be used to purchase a home.

“If people are willing to fight the good fight, changes can be made,” he said.