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Cover story: Lenders look differently at condos, houses

- - Thursday, April 5, 2012

As a prospective homebuyer meeting with a lender, don't be surprised if the lender asks whether you are considering buying a condominium. While condo financing is not always necessarily more difficult to obtain than a mortgage for a town home or a single-family home, there are some differences.

"The main difference when you are applying for a mortgage for a condominium is that it's not just you that's being evaluated, it's you and the condo building," said Dominic Turano, sales manager of First Home Mortgage in the District.

While the credit qualifications are similar for condo owners and other buyers, one difference, said Rob Clark, a senior loan officer with PHH Home Loans in Alexandria, is that the condominium fee must be included in the buyer's debt-to-income ratio.

"Some buyers say they think they can only afford a condo, but if the condo fee is $500 per month on a $200,000 condo, they may be able to afford a $275,000 or $295,000 home that doesn't have a homeowners association fee because the monthly payment would be about the same," Mr. Clark said. "It's fine if they want to buy a condo for other reasons, but I think people need to be aware of the difference a condo fee can make in the housing payment."

If your credit qualifications are excellent and your debt-to-income ratio is low, you may be surprised to find your loan still could be declined because of the risk associated with the condominium association where you want to live.

Condominiums essentially involve group ownership of property, so the management of the association must be reviewed to make sure the investment is not too risky. The qualification rules are different depending on whether FHA or conventional financing is chosen.

"As a starting point, condo buyers and their lenders can check the list that [the Department of Housing and Urban Development] has of condos approved for FHA loans," said Kevin Quaid, branch manager with the Fitzgerald Financial Group, a division of Monarch Bank in Alexandria.

"While being on the FHA approval list helps, it doesn't mean that lenders can automatically approve a loan," he said. "Condo developments evolve daily, so lenders will need to send a questionnaire to the condo management to make sure it still meets FHA requirements."

The major requirements for an FHA condo loan approval include:

• The number of rental units must be below 50 percent of the total number of units.

• The number of homeowners delinquent on their condo fees must be less than 15 percent.

• No one owner may own more than 10 percent of the units in the condo.

• At least 10 percent of the condo fees must be held for cash reserves.

• There must not be outstanding lawsuits against the condo association.

"Condominium approvals for an FHA loan are up for renewal every two years, but even in between the renewal dates, lenders are required to check on the health of the condo association," Mr. Clark said.

Mr. Turano said condos that are not on the FHA-approved list are not necessarily risky investments. In some cases, the approval simply has expired, and in others, no one has requested an FHA loan approval.

"In the past, condo buyers could request an FHA loan approval on an individual basis even if the building was not on the approved list, but that option is not available at all anymore," Mr. Turano said. "A lender can gather the information from the condo management company to submit it to HUD to request that the building be added to the FHA-approved list, but it takes a long time.

"It could take 15 days or so to get the necessary materials, and then HUD has 45 to 60 days to review it. You can't order an appraisal until HUD has added the condo to the FHA-approved list."

If a condo is not approved for FHA financing, buyers may be able to use conventional financing. The exact guidelines vary by lender but are similar to FHA standards. If the condo is purchased with less than a 20 percent down payment, the standards of mortgage insurance companies also must be met.

"Fannie Mae and Freddie Mac don't have a list of approved condos, but they have guidelines as to whether the lenders must do a full review of the condo association or a limited review," Mr. Quaid said.

The type of review required depends on the amount of the buyer's down payment.

"If the buyer is making a down payment of 10 percent or more, a limited review is allowed of the condo," Mr. Quaid said. "Buyers making a down payment of less than 10 percent will need a full review of the condo, including looking at the budget, the master insurance policy and, most important, the owner-investor ratio and number of homeowners delinquent on their condo fees."

Borrowers using conventional financing and making a down payment of less than 20 percent will be required to pay private mortgage insurance and therefore must meet the underwriting guidelines of the mortgage insurance company as well as the lender and Fannie Mae or Freddie Mac.

"Mortgage insurance companies are often more restrictive than mortgage companies on condo lending, but it varies from one company to another," Mr. Clark said. "However, many of them limit the number of investors to 30 percent of all owners."

Under some circumstances, mortgage lenders may be willing to overlook a small issue with the condo, such as a condo-fee delinquency rate of 17 percent of the owners instead of 15 percent.

"Occasionally, on a case-by-case basis, an exception will be made and a conventional loan can be approved even in a condo that doesn't meet every single requirement," Mr. Turano said. "There's less of a concern for an owner-occupant purchase as opposed to an investor, especially if it is a really strong borrower with a 20 percent down payment, a high credit score and a low debt-to-income ratio."

One other condo-financing issue is that lenders prefer not to have too many mortgage loans within the same condo association, which means you may need to shop around for a lender. Mr. Quaid said a new FHA policy, which has yet to be implemented, will limit the number of FHA loans within a condo association to 30 percent of all mortgages. No enforcement date has been announced for this policy.

In addition, Fannie Mae and Freddie Mac require condo borrowers whose down payment is less than 25 percent to pay a fee of three-quarters of a point or an interest rate that is an eighth- to a quarter-percent higher.

If conventional financing and FHA financing are not available because of condo association issues, buyers have the option of paying all cash for their purchase or working with a smaller portfolio lender willing to provide a mortgage for a "nonwarrantable condo."

"Nonwarrantable condos are considered to be a higher-risk investment, so lenders are likely to require a higher interest rate or higher fees on the loan, depending on the individual circumstances," Mr. Turano said. "Some condos are almost impossible to finance because there are too many rental units or there are lawsuits against the association."

Mr. Quaid said condo loans are approved every day, so buyers should not feel as if they cannot finance a condo purchase. He said borrowers should be informed about the importance of good condo management.

"Condo buyers should call a lender to get prequalified for a loan and to discuss the options for condo financing," Mr. Clark said. "Work with a lender who has experience with condo financing and try to get as much information as you can about the condo before you make an offer."

While the intricacies of condo lending may sound daunting, the reality is that careful vetting of the condo association should be a priority for buyers and their lenders.