September 14, 2015
Dear Friends – If you know of someone who may be getting into the housing market (or looking to refinance a land contract), and may be evaluating the FHA loan as a financing option, passing along these coming changes in FHA guidelines may be beneficial to them. FHA is issuing a whole new Handbook 4000.1, that is going to into effect today and will replace all the current HUD handbooks. Below are 5 of some of the more major changes we will see per the new HUD Handbook 4000.1. Most notably from a qualifying and documentation standpoint, may be student loans, and the documentation of Gift funds.
- Student Loans – no matter if they are deferred or in an income base repayment plan of $0/month, there will always have to have an amount included in the debt-to-income ratio. If the monthly payment cannot be documented, or is truly $0, the lender is to use 2% of the balance for qualifying (side note: this guideline is more in line now with RD’s position on student loans).
- Self Employment – Borrowers that are self employed and have a 20% or more decrease in earnings will require a manual underwrite (the approval cannot be based on AUS – “Automated Underwriting System” findings)
- Bankruptcy , Short Sale, Foreclosure waiting periods – will now be determined by the ordering of the FHA case number assignment date, rather than the application date (side note: this guideline change should actually speed up some loan applications).
- Land Contract Refinances – to be considered a refinance, the land contract must be recorded.
- Gift Funds – the donors bank statement will ALWAYS be required showing the gift funds coming out of the donors account. The donors statement must be fully legible with no white outs or cross outs of their account balances and/or numbers. The statements will be reviewed to ensure no funds from an interested party were deposite into the donors statement prior to the withdrawal of the gift funds. The following verbiage is directly out of the HUD 4000.1.
“Documenting the Transfer of Gifts.”
- If the gift funds have been verified in the Borrower’s account, obtain a donor’s bank statement showing the withdrawal and evidence of the deposit into the Borrower’s account.
- If the gift funds are not verified in the Borrower’s account, obtain the certified check or money order or cashier’s check or wire transfer or other official check, and a bank statement showing the withdrawal from the donor’s account.”
First of all, here is a list of what FHA cannot do:
- Lend to borrowers who have not displayed a responsible payment history on their obligations over the past years.
- Lend to borrower’s who cannot document their income.
- Lend to borrower’s who cannot document where they are getting their funds (cash) to close on the property.
1. FHA will Approve some borrower’s up to a 53.99% debt ratio. Conventional financing per the ATR (Ability to Repay act) requires that a conventional loan cannot be approved higher than a 44.99% debt ratio. Consequently, many FHA borrowers can be approved for much more house based on an allowable debt ratio of 53.99%. For example, a borrower with a $5,000 per month income may qualify for up to $450 more in a house payment (possibly up to $50,000 to $75,000 more home)! This is not to say that we are in favor of people getting over extended in a new house payment, but there are circumstances where a 53.99% debt ratio will be affordable for many borrowers. Such examples could be: (1) when the income of one spouse, or significant other, is not used in the loan application, (2) a borrower receives tips, or commission income, bonus income, or overtime that cannot be used because they have not been on that specific job for 2 years, (3) a borrower is self-employed and has a substantially higher cash flow than what their income taxes may show, (4) a large monthly debt will be eliminated in the near future, but for loan purposes still must be calculated in the debt ratio, or (5) when the borrower expects to get a substantial increase in income in the near future, but after their loan is scheduled to close.
2. FHA will Approve a borrower with little to no income if they have a valid co-signer. Unlike conventional loans, a close family member may co-sign for a borrower by utilizing FHA financing even if the occupant, borrower has little or no income to qualify. Such examples would be the same as where a borrower’s income reports less than it is in reality as described above. Another example is in the case of a mother or father, co-signing for their son or daughter who is purchasing a home to live in and occupy while attending school.
3. FHA will allow for lower credit scores, “thinner credit,” and a little more derogatory information on one’s credit report than conventional loans. Ultimately, whether the loan will be approved based on credit score and credit history usually comes down to the lender’s AUS findings for an “Approve/Eligible” (AUS is “Automated Underwriting System). Most AUS findings are more forgiving for credit score, thin credit, and past credit derogatory information for FHA loans than conventional AUS findings.
4. FHA has a shorter waiting time frame from bankruptcy and/or foreclosure*. Here are the waiting times for showing the difference between the 2 programs (FHA vs. conventional) for those borrowers with a bankruptcy or foreclosure:
A). Waiting time after chapter 7 bankruptcy: FHA is 2 years from date of discharge; conventional is 4 years from the date of discharge.
B). Waiting time after short sale: FHA is 3 years from closing on short sale; conventional is 4 years from date of short sale
C). Waiting time after foreclosures: FHA is 3 years from sheriff’s deed; conventional is 7 years (if mortgage debt was NOT included in bankruptcy)
D). Waiting time after bankruptcy with foreclosure/ shore sale included: FHA is 3 years from discharge; conventional is 4 years if foreclosure/ short sale was included in bankruptcy.
E). NOTE: A foreclosure is defined by lenders as when the property has officially been transferred as per the “sheriff’s sale.” For those rarer cases where a mortgage was included in a bankruptcy, but the transfer of the property per the date of the sheriff sale is after the date of the bankruptcy, the waiting time begins after the sheriff sale transfer date; even though, the mortgage was included in the bankruptcy.
5. FHA will lend on Manufactured Homes. FHA (and VA) will loan on manufactured homes that pass a structural engineer’s report and that are permanently affixed to a foundation. Traditional conventional loans backed by Fannie Mae and Freddie Mac will not lend on manufactured homes.
6. FHA will lend on Owner Occupied Multi-family Homes, 2-4 family. FHA will allow minimum 3.50% down payment financing onowner occupant 2-4 multi-family homes. Most conventional financing will require at least 20% down for approval of owner occupied, multi-family properties.
7. FHA has lower interest rates. FHA rates are almost always better than conventional mortgage rates. Typically, one will see a FHA rate 0.250% to 0.500% lower than conventional rates for 30 year fixed rate financing when comparing the same Lender charges, for the same rate. Additionally, FHA interest rates are not as significantly impacted due to lower credit scores as are conventional rates. In other words, a borrower with a credit score that falls under the 740 & 680 thresholds, will not be penalized as severely on the rate quote as a conventional borrower would be.
8. FHA has lower Closing Fees (& better “Lender Credits”). As rates and lender costs (or lender credits) run together, a FHA borrower will almost always get a lower lender charge (or higher lender credit) when comparing the same rate on a conventional loan. Helping to keep closing costs lower, in addition to a lower down payment, can often make it easier for more FHA buyers to make offers without the need for seller paid closing costs. The advantage here is that the FHA buyer may be able to make a more competitive offer than a buyer with a 5% down conventional offer, who does need to ask the seller for closing costs.
9. FHA has lower monthly mortgage insurance for credit scores under 680. Lower mortgage insurance and the ability to have it eliminated after a borrower can show 20% equity in their property is the biggest reason, and sometimes, the sole reason one would want to go conventional over FHA. This is an important aspect, advantage and benefit of the conventional loan. However, it is worth noting that the annual mortgage insurance known as borrower paid PMI on a 5% down, conventional loan which is calculated as part of the monthly payment, is actually higher than the annual (or monthly) mortgage insurance for a FHA loan, for credit scores less than 680. When you combine the lower interest rate with a FHA loan, and the lower annual (or monthly) mortgage insurance for credit scores under 680, the FHA borrower will easily end up with a lower payment than the 5% down conventional buyer; even though, the FHA borrower is putting less down
10. FHA allows for more participation from the Seller than 5% down conventional loans. FHA will allow up to 6% of the sales price to be paid by the Seller for the Buyer’s closing cost and pre-payment of escrow account. Conventional loans will as well for down payments of 10% or more, but for conventional loans under 10%, the amount allowed to be paid by a Seller is capped at 3% of the sales price. Normally, 3% of the sales price is more than enough needed to cover all the buyer’s closing costs and prepayment of escrow account, but not in all cases – especially in some lower price ranges. For example, if a 5% down conventional buyer were to purchase a $110,000 home, the seller could only pay up to $3,300 in: Lender charges, Appraisal fee, title fees, admin fees, and prepayment of escrow for taxes and insurance. The $3,300 cap for a 5% down conventional loan in this case may not cover all of these expenses, particularly if the buyer has a credit score under 700 potentially making his/her lender charge more costly.
Some additional tidbits on FHA Loans:
A). There are no income limits for the FHA Loan
B). The FHA loan is not limited to 1st time home buyers.
C). When necessary, many FHA loans can be closed within 3 weeks, or less.
D). A homeowner who has a FHA mortgage, has an assumable mortgage, and that may give them a big advantage as a Seller in the market place in a coming year.
E). FHA loans are easier to refinance than conventional loans. Many people who had financed originally with FHA were able to take advantage of falling interest rates when some conventional borrower’s could not. This is because of the long standing FHA refinance program known as the “FHA Streamline Refinance” where homeowners do not have to re-qualify with debt-to-income ratios in order to lower their interest rate, and lower their payment in the process.
As a loan officer with 28 years FHA lending experience, I am very thankful for the FHA program. It has been a consistent source of financing for 1st time buyers, and many times, 2nd time buyers, who are solid, low risk applicants; but, may have had trouble at times getting financing with conventional means. FHA was there in 2007, 2008 & 2009, and carried us through the housing bubble… a bubble that was not caused by FHA lending, but a bubble that was caused in large part by the sub-prime lenders. Thanks to FHA, we have been fortunate enough to have met and served many clients over the years. We are thankful to our clients, as so many who have in time have come back to us as 2nd, 3rd, 4th, and even 5th time clients via refinancing and upward home purchases. There have been many rewards in lending – and lending creatively and boldly with the FHA loan over the years had formed many friendships and long standing clients. The FHA loan is not the best loan for everyone, but it is an exceptional loan for many. The advantages of the FHA loan also translate into benefits for seller’s as it expands the market of potential buyers. Indeed, FHA has long been an important resource for the U.S. housing market, and will continue to be so in the future.