IRS Ruling Imperils 'Gift Fund' Charities For Home Buyers

Kevin Queen and his wife, Beverly, seated center, with daughters Donna, left, and Angela, used the $2,500 they received in down-payment assistance to move from an apartment in Anacostia to a home in Fort Washington. (By Lois Raimondo -- The Washington Post)

A ruling by the Internal Revenue Service threatens to extinguish a fast-growing -- but controversial -- charitable industry that has funneled hundreds of millions of dollars in cash to first-time home buyers for their down payments.

The unexpected IRS edict throws into question a practice that has helped boost national home ownership rates to a near-record 69 percent in the past six years.

Almost 200 charities, such as AmeriDream, based in Gaithersburg, and Nehemiah Corp. in California, have acted as cash conduits between home sellers and buyers.

Under the system, sellers provide cash to the charities, which then give it to home buyers for their down payments. The sellers, who pay the charities a service fee, often recoup their money by charging a higher price for the homes -- usually 2 or 3 percent more, or an amount equal to the down payment, says a Government Accountability Office study.

Federal authorities have raised concerns, because the mortgages are insured by the Federal Housing Administration. When a home buyer defaults, the FHA loan fund suffers. Home buyers receiving assistance from the charities were more than twice as likely to default or become delinquent in their payments as those who used FHA loans without the charities' assistance, according to a GAO study last year.

Although the system has helped hundreds of thousands of low-income households buy their first homes, it is riddled with abuse, according to the IRS and a variety of government studies. The IRS called the programs "scams" in its ruling last month and said that by providing down payments, the charities actually inflated home prices, making it more likely that homeowners would default on their loans.

Sen. Charles E. Grassley (R-Iowa), chairman of the Senate Finance Committee, who is pushing for charitable reform measures, blasted the down payment assistance charities and praised the IRS ruling.

"Unfortunately, this sector of charities is riddled with individuals who believe their role is to help themselves, not to lend a helping hand," he said. "Some so-called charities need a wake-up call that their business is charitable work."

The IRS's "revenue ruling," issued May 4, states that charities that dole out cash to home buyers that comes from sellers do not qualify as tax-exempt organizations because they benefit private interests, such as builders and other home sellers. The IRS expects to begin revoking some charities' tax-exempt status as it finishes audits, said Marvin Friedlander, chief of the IRS's exempt-organizations technical branch. The IRS also could assess the organizations millions of dollars in income taxes if it decides they are for-profit organizations, not charities.

Executives at the charities say they have helped renters who would not otherwise have been able to buy homes because they were unable to afford the down payment. They dispute the GAO study and disagree with the IRS findings.

Last week, a coalition of the charities asked the Treasury Department to suspend the IRS ruling and solicit public comment before issuing a final decision.

"This could have a sweeping impact on the whole housing industry," said Ann Ashburn, chief executive of AmeriDream, the nation's second-largest down payment assistance charity, and the coalition chair.