Buying a condo with an FHA-backed loan
Most home sales go through without a hitch but there is always a chance that one will hit a snag somewhere along the line. Many of these are minor irritants, some are downright disappointments.
Few of the latter compare to falling head-over-heels for a condo only to learn that the community isn’t HUD-approved so you can’t use your FHA-backed loan for the purchase.
In reality, if you’re working with the right real estate agent, this shouldn’t happen; he or she should be checking the condo complex’s approval status before even showing you the home.
When it does happen, however, it typically leaves the buyer dazed and confused. Let’s take a look at what FHA requires of condo buyers that differs from its single-family home requirements.
The basic FHA requirements
Lenders have a tough job, especially when it comes to buyers using an FHA-backed loan to purchase a condo. Not only must it determine if the borrower is a decent credit risk, but it must also take into account the risk of loaning money for a home that is governed by a homeowner association. And, regardless of your credit worthiness, if the HOA has problems, the lender and/or FHA will deny the loan.
Some HOA problems that FHA frowns upon include:
- A high number of rentals in the community. FHA rules demand that, at minimum, 50 percent of units must be occupied by the homeowner. In 2016, HUD changed the minimum to 35 percent, under certain circumstances. Learn more about those circumstances at HousingWire.
- The homeowner association fee delinquency rate must be lower than 15 percent of the budget.
- No investor/entity may own more than 50 percent of the units in the community, but only if half of the units in the community are owner occupied. So, if Warren Buffet or some random Saudi Prince decides to snatch up 52 percent of the homes in a condo community, the complex will be denied HUD approval.
- FHA will not guarantee loan repayment on a condo community that is in litigation. Once the litigation is settled (which can take years), the community can be considered for certification. Litigation examples run the gamut from the HOA suing the developer for construction defects to the famous cases of homeowners suing the HOA for the right to fly an American flag and the proper disposal of pet waste.
- The HOA’s cash reserves must be equal to or in excess of one-years’ worth of the association fees. FHA wants to see that the HOA has sufficient reserves to cover expensive repairs or replacements.
This is by no means the entire list of requirements, but represents some of those we most frequently come across. They are quite demanding – so much so that in 2013, about 60 percent of U.S. condo complexes seeking certification were denied, according to John McDermott of National Mortgage News.
Sure, it’s tedious, but the FHA process has advantages
Any home purchase requires a certain amount of due diligence. The buyer’s legal duty is to thoroughly inspect the property and the paperwork that goes with it, before going through with the purchase. Typically, the onus for this due diligence is on the buyer, but in the case of an FHA-backed loan for a condo, HUD does a lot of it for you.
Yes, you still need to read and understand every word on every document included in the HOA documents provided to you before you close on the home. While you’re trying to wrap your brain around covenants, conditions and restrictions, however, FHA will be poring over the financial solvency of the HOA. While they may just find something distasteful in these documents, knowing that they’re scrutinizing the HOA’s budget and other financials should bring you peace of mind.
Becoming HUD-certified isn’t a one-off task, either. The association must reapply every two years.
Finally, owning a home in a HUD-certified community makes it easier to sell down the line.
If you’re toying with the idea of buying a condo with that FHA-backed loan, do yourself a favor and check out HUD’s list of certified communities. Then, avoid looking at those that aren’t on the list. You’ll find the online database, here.
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