The answer to this, like so many things in life, depends. Down Payment Assistance is far more prevalent in down markets. Essentially, if someone is looking to unload their house at a below market value as they may be facing foreclosure, or simply feel the market is going to go lower, they are far more likely to work with a down payment assistance program. The below example describes non-FHA down payment assistance scenario.

How Does it Work?

Down payment assistance works like this:

A Seller's House is valued at $200,000. The buyer and seller agree to a purchase price of $180,000, $20,000 below market value. The buyer attempts to get financing, but realizes the banks are requiring 10% down, as they will not risk financing 100% of the collateral. The buyer works with a Down Payment Assistance program that will give them the $20,000, and the seller agrees to pay the down payment assistance company back $22,000 - netting the down payment assistance company $2,000 for a loan that may only last a day.

The Catch - The seller raises the price back to market value, and since they are giving the Down Payment Assistance company back $22,000 out of the proceeds of the sale, they are still essentially selling the house for a bit less than the agreed upon $180,000.

It Sounds Illegal - Essentially the house is being sold for $178,000, and the down payment is merely a rouse to appease the bank. However, there are legal ways to structure this; at least enough to make the black and white look gray.

One clever method - is for the Down Payment Assistance Company (hereafter know as a DPA) to sell a service or product. Let's say, for the sake of argument, that they sell "Real Estate Consulting Services". The Borrower (the person receiving the Down Payment Assistance funds) is the “Sales Rep” for the DPA Company. The Borrower/Sales Agent sells these "real estate consulting services" to the Seller/Customer and in return they receive a commission from the DPA/Real Estate Consulting Services Company which they use as a Down Payment.

Tough to wrap your head around, I know, so here's a quick recap:

A house is sold for $200K.

The Buyer sells the Seller “Real Estate Consulting Services” for $22,000.

This money is paid to the DPA Company at close of escrow.

The Buyer receives a $20,000 commission for the sale from the DPA Company, which they receives just prior to close of escrow and can use as a down payment.

The buyer is taxed on this $20,000 as income.

Bankapedia's Take

The bottom line is to make sure that everything is disclosed to the bank, as they are ultimately the ones that will lay the hammer down either if the loan goes into default or if you were not upfront as to where the money came from and who is getting paid out of escrow. Many banks don't care, as ultimately they want to make sure the value of their collateral is intact, and by recording the sale at $200,000, this is accomplished.