Over the last few years I’ve lost or scared off several clients who “just wanted to buy a little condo in town” but didn’t realize the complications they would run into along the way. So I decided to write this little post to explain the process with a little more depth. I recently ran across a really informative article from the Chicago Tribune entitled “Condo deals die in shadows of financially distressed buildings“. While this article is Chicago-based, the ideas and issues overlap completely with the Nashville condo market. As you all probably know, I work a lot in the urban condo market. Well, I used to. There just aren’t as many buyers in the condo market right now. While there are many reasons for the drop off in activity, most people blame the flailing economy. Of course, that is probably the main culprit, but lack of suitable financing may be an even more common problem, yet under-reported. A secret problem if you will.
Most buyers don’t really think about financing when they begin to think about buying a condo. They know how much they can afford on a monthly basis. They know what they can afford to pay toward down-payment and closing costs. They just assume that if they have the credit score and cash-on-hand to qualify, that they will be able to get the loan they will need when the right condominium pops on the market. What most buyers don’t realize, it that it isn’t just the person that the bank must qualify – the building that must pass muster too.
When you buy a home or condo with a loan, you will likely choose one of two options. You will either choose a conventional loan which requires a traditional down-payment, or you will choose an government backed FHA loan which only requires a 3.5% down-payment.
Conventional loans have traditionally required a down-payment of 20%, however, you can still find options out there offering 10% down and sometimes even 5% down. When a lending institution qualifies you for one of these loans, they may ultimately sell your loan to Fannie Mae of Freddie Mac. Even if they don’t intend to sell your loan, the bank wants to retain the OPTION to be able to sell the loan down the road. That means that your conventional loan will need to conform to Fannie Mae and/or Freddie Mac guidelines today and this is on top of any lender-specific guidelines that might be in place. The rules are complicated and they are a perpetual moving target, but there are all sorts of things that can dis-qualify an existing building. A few are: too many investors/renters, pending litigation, inadequate reserve funds, high concentration of commercial space, and other “deal killers.” The rules are even more complicated when the building is new construction.
FHA has similar guidelines that can bump entire developments out of consideration. They include the aforementioned as well as the concentration of FHA loans. In other words, if a building has too many FHA loans, FHA doesn’t like it. Is it just me, or is that crazy?
To make things even more tricky, there is no centralized place to find the answers to these questions for each development. Typically a buyer has to get the president or manager of the Homeowners Association to fill out a Condo Questionnaire. The questions will vary by lending institution and many HOAs will charge a fee before they will fill one out. That’s right, Ghertner & CO., Nashville’s largest property manager, wants the buyer to pay them a fee BEFORE they will tell the buyer if the development qualifies for a loan.
With FHA, things aren’t quite as sticky. FHA used to check and grant spot approval to developments whenever the buyer applied for a loan. But these days, HUD has a website that you can log into between the hours of 8am and 5pm (huh ???) to find out if a development is approved or not. This is a relatively recent change and not all associations have taken the expensive and time-consuming plunge. I should mention that this FHA-approved status is only granted for a year before the HOA has to jump through the same hoops again.
When I first got into real estate condos were referred to as the red-headed stepchild of the market- bad investments that were a pain to buy and sell. But over the years, urban living has taken on new cache. Condos, especially those in urban centers, near water, or near colleges appreciated faster than most any other section of the real estate market, commanding a price-per-square-foot that would have been unthinkable ten years ago. Many of these FHA and Fannie Mae rules have always been in place, but the under-writers just didn’t care or think to check on them. We all now know that the days of easy mortgages are over, and every under-writer wants the answers now.
I’m not saying that you shouldn’t buy a condo. Far from it. Condominiums and lofts can be the perfect solution for first-time buyers, those who travel often, second home purchasers, and empty-nesters. I guess what I’m trying to say (in a round-about way) is that you should be prepared before entering to condos market. Choose an agent and a lender with experience. Don’t make ANYTHING concrete in your contract until you are satisfied that you have the answer to every question. Place the burden of proof on the sellers to provide the necessary documents by writing it as a contingency into your offer.
Steph’s Tips When Buying A Condo:
- Ask the seller to provide the following HOA documents: Bylaws, Rules & Regulations, Reserve Study, Recent Meeting Minutes, Balance Sheet within a certain timeframe. Make your offer contingent upon this.
- Ask the seller to fill out a Condo Questionnaire from your lender. If there is a charge, ask the seller to pay it as part of your offer.
- Find out if the Bylaws govern the investor percentages in the building. If not, you may end up buying a condo that qualifies for a mortgage today, but may not when you go to sell it later.
- Be prepared to make an initial contribution toward the HOA fund at closing. Many HOAs have a transfer fee and reqire a two month cushion be placed in reserve upon transfer. Your lender won’t know the rules specifically for each development initally so make sure you build a cushion for possible fees at closing.
- Get H06 insurance. Similar to renter’s insurance, this policy will cover damages to your contents and give you additional liability coverage. Many lenders are starting to require H06 insurance.
- Know what is covered by your monthly dues. Most HOAs will maintain your roof and siding, but many don’t cover HVAC, doors, windows, and plumbing.