More info on FHA's new condo approval guidelines

First Tuesday created a great summary on the pro's and cons of FHA's loosening of their condo approval guidelines.

http://journal.firsttuesday.us/fhas-new-condominium-approval-guidelines-expand-eligibility-and-potential-hoa-mismanagement/49294/

The Federal Housing Administration (FHA) recently announced new temporary approval provisions for issuing FHA-insured financing to buyers of units within a condominium project. FHA-insured financing allows buyers to make smaller down payments and obtain mortgages with loan-to-value (LTV) ratios greater than 80%, which shifts the increased risk of loss on a default to the FHA in exchange for a premium.

Previous FHA approvals required condominium projects and their homeowners’ associations (HOAs) to meet eligibility criteria. If not approved, buyers cannot use FHA-insured financing to purchase a unit in the project from a seller who is an owner or member.

The FHA has previously required at least 50% of the units in a condominium project to be owner-occupied for a buyer to use FHA-insured mortgage financing to fund their purchase of a unit in the project. The FHA also required that no more than 10% of units in a project may be owned by a single investor.

Investor-owned units are units which are:

• occupied by tenants;
• vacant and listed for rent or sale; or
• under contract for sale to an investor.

The new temporary provisions significantly relax these eligibility requirements. Thus, units in more HOAs are now able to be sold to FHA-insured buyers. As a result, the FHA has become a more active participant in the condo mortgage financing market. In doing so, the FHA increases their risk of defaults due to poor management of HOAs that were previously disqualified for FHA-insured financing.

The temporary approval provisions include:

• expansion of the owner-occupancy quota to include units that are not investor-owned, such as second homes;
• simplified guidelines for the recertification of condominium projects for FHA-insured financing approval; and
• the expansion of allowable master insurance required to be held by the HOA to include:
• co-insurance coverage;
• pooled policies; and
• state-run coverage plans. [See Department of Housing and Urban Development Mortgagee Letter 2015-27]

These new provisions are intended to increase eligibility of units in more HOAs for their sale to buyers using FHA-insured financing. These temporary HOA qualification provisions are in effect until November 13, 2016.

New approval provisions, same old problems

The FHA last relaxed provisions for condominium projects to stimulate the real estate market in 2012. Looser restrictions for buyers purchasing condos with lower down payments helped somewhat to improve condo sales in an ill but recovering market.

The FHA’s new guidelines are a step further in that direction. However, they are not enough to significantly increase the number of HOA projects which are presently considered mismanaged or at risk of mismanagement, and thus permit members of those HOAs to sell their units to first-time buyers and others on a tight budget – those using FHA-insured mortgages to fund their purchase.

Although the inclusion of non-investor-owned units in the owner-occupancy quota will help better managed condominium projects meet FHA requirements more quickly, the rate of non-investors purchasing condos isn’t likely to rise significantly, if at all, under current sales volume conditions. Condos as second homes in urban areas are usually purchased by commuters who need a place to stay near their workplace during the week – those whose income and savings are better placed in an urban condo than spent to commute from their primary residence.

Additionally, those buyers for whom condominium units are the perfect segue into homeownership – due to lower prices and thus lower down payments – still have to compete with investors with deep pockets.

Many investor-owned units started as owner-occupied units which the owners later turned into rentals. When a condominium unit owner buys another home as a primary residence, they often transmute the old unit into an income-producing rental property. This activity further diminishes the number of available units a willing buyer may be able to purchase with FHA-insured financing, since the previously owner-occupied unit no longer counts toward the FHA’s minimum owner-occupancy quota for project approval.

Thus, buyers still have to squeeze between investors and non-investor owners, who can easily add another residence to their assets, before they can acquire a condominium unit with FHA-insured, purchase-assist financing.

Mortgage insurance for FHA-insured financing

Unlike conventional financing, FHA-insured mortgages require the payment ofmortgage insurance premiums (MIP), which last for:

• 30 years or the life of the mortgage, whichever occurs first, if the original LTV is greater than 90%; or
• 11 years, if the original LTV is less than or equal to 90%.

Alternatively, private mortgage insurance (PMI) may be used in lieu of insurance provided by the FHA for mortgages with down payments of less than 20%. Critically,PMI may be removed when the LTV reaches 80%.

Despite the FHA’s recent reduction of MIP rates in January 2015, PMI rates remain lower than MIPs for 30-year fixed rate mortgages (FRM). Buyers can obtain mortgages with lower PMI rates – and an even lower down payment than the 3.5% FHA minimum– and be better off without the long-term burden of FHA-insured financing.

Thus, these new provisions alone are ineffectual in drawing more buyers to condominium units. However, the lack of sufficient demand for condominium units means an excess of sellers may be desperate for buyers – a problem these provisions might actually assist by making units more readily available to less qualified buyers.

As the trend of historically low down payments continues, real estate agents need to inform their prospective buyers with low savings of the window of opportunity these provisions now give them, before it closes.