Info and Insights

FHA INSPECTION GUIDELINES

HUD recently modified guidelines for inspections on FHA appraisals.  Given the exponential increase in FHA loans during the past year, many of my lending clients have asked for an overview of current inspection guidelines.  I hope you find this information to be helpful.  Please feel free to contact us if you have any questions.   

SUMMARY - Since its inception The Department of Housing and Urban Development (HUD) has established minimum property standards. While these standards have varied over time the recent changes have been some of the most dramatic in decades. By eliminating many of the "nuisance" repairs and mandatory inspections HUD hopes to make it easier to buy or sell a home with FHA financing.

The most recent changes are highlighted bold on this checklist.

POOR CONDITION -

A lack of maintenance that gives a "run down" look to a property is acceptable. Missing or damaged flooring or carpet, rotted or worn out countertops, poor workmanship, damaged plaster or drywall, bathroom tile, missing or damaged interior doors, debris, trash, or other cosmetic items that do not otherwise jeopardize the safety or structural integrity of the property are acceptable and will not require repair.

CONDOMINIUMS -

Projects must be at least 51% owner occupied and may not have a "right of first refusal" clause in the association documents.

STRUCTURAL DEFECTS -

Large settlement cracks, sagging floors or roofs, and significant deteriorated wood are conditions that require professional repair. Grading must be adequate to drain away from house.

TERMITES -

HUD will no longer automatically require a termite inspection. Minor (non-structural) termite damage will not require repair. Wood/soil contact that is not due to a structural problem will no longer require repair. Visible evidence of active or past infestation, or evidence of dryrot will require termite report with clearance of Section I items.

LEAD PAINT -

For homes built before 1978, any peeling, chipping, or chalking paint on the house, detached garage, shed, fence, or anywhere on the property must be scraped, primed, and painted. Use tarps to collect paint chips to avoid contaminating the soil. If the home is built after 1978 HUD will no longer require painting of defective paint surfaces, in most cases.

HEATING -

The property must have a permanent heat source. The heating and air conditioning system (if present) must be operating properly. Space heating systems are acceptable if installed in accordance with local building codes. Combustible (oil/gas) heat requires exhaust ventilation.

ROOFS -

Leaking and worn out roofs require repair or replacement. While a remaining life of at least two years is no longer specified a roof with a life of less then two years should be considered "worn out". HUD will no longer require automatic inspection of a flat roof system.

WINDOWS/DOORS -

HUD will no longer require broken glass to be repaired. Exterior doors that are in poor condition but are otherwise functional are acceptable. Windows that stick, are loose, or are otherwise in poor but serviceable condition should be acceptable with the following exception: Inadequate access/egress from bedrooms to the exterior of the home is unacceptable. At least one window in each bedroom must open and close freely in order to allow escape in case of fire. Burglar bars on bedroom windows must have a release mechanism (at least one per bedroom).

ELECTRIC/UTILITIES/MECHANICAL SYSTEMS -

Fuses are acceptable. 60amp electric service may be acceptable (a small house with oil or gas for heating, cooking, and hot water). Loose wiring, open splices, and other hazardous conditions will require repair. An exception is low voltage (telephone or cable TV) wiring that would not present a hazard. All utilities should be on in vacant homes in order to avoid re-inspection. All mechanical systems must be operating.

CRAWL SPACE & ATTIC -

Access to both the attic and the crawl space is required. Both must have adequate ventilation. Crawl spaces must have sufficient clearance for inspection and maintenance.

PLUMBING -

Minor plumbing leaks and defects are acceptable. Major plumbing problems will require inspection and repair. Water heaters must have a pressure relief valve.

SAFETY CONCERNS -

Smoke detectors are not required but if they are present they must work properly. HUD no longer requires repair of the safety device that automatically stops an obstructed electric garage door opener. Trip hazards such as uneven walkways or sidewalks will not require repair. Missing handrails on stairways are acceptable.

HUD DOES NOT REQUIRE

HUD does not require the following:

• Appliances
• Screens
• Driveways
• Lawn sprinkler systems
• Pool repairs (unless they present a safety concern)

What we do know is that our current economic situation was predictable.  According to a New York Times article published in 1999, as well as several “senior” appraisers that I have been fortunate enough to be associated with, it was.  Lowered credit thresholds combined with lower thresholds for appraiser training heavily contributed to the Perfect Storm that resulted in the mortgage meltdown of 2008.   

Below is an excerpt from an article written in 1999, a copy of which was obtained from the New York Times web site?  Please visit their site to read it in its entirety.  The foresight reflected in this article is fascinating.

September 30, 1999

Fannie Mae Eases Credit To Aid Mortgage Lending

By STEVEN A. HOLMES

In a move that could help increase home ownership rates among minorities and low-income consumers, the Fannie Mae Corporation is easing the credit requirements on loans that it will purchase from banks and other lenders.

The action, which will begin as a pilot program involving 24 banks in 15 markets -- including the New York metropolitan region -- will encourage those banks to extend home mortgages to individuals whose credit is generally not good enough to qualify for conventional loans. Fannie Mae officials say they hope to make it a nationwide program by next spring.

Fannie Mae, the nation's biggest underwriter of home mortgages, has been under increasing pressure from the Clinton Administration to expand mortgage loans among low and moderate income people and felt pressure from stock holders to maintain its phenomenal growth in profits.  

In addition, banks, thrift institutions and mortgage companies have been pressing Fannie Mae to help them make more loans to so-called subprime borrowers. These borrowers whose incomes, credit ratings and savings are not good enough to qualify for conventional loans, can only get loans from finance companies that charge much higher interest rates -- anywhere from three to four percentage points higher than conventional loans.

''Fannie Mae has expanded home ownership for millions of families in the 1990's by reducing down payment requirements,'' said Franklin D. Raines, Fannie Mae's chairman and chief executive officer. ''Yet there remain too many borrowers whose credit is just a notch below what our underwriting has required who have been relegated to paying significantly higher mortgage rates in the so-called subprime market.''

In moving, even tentatively, into this new area of lending, Fannie Mae is taking on significantly more risk, which may not pose any difficulties during flush economic times. But the government-subsidized corporation may run into trouble in an economic downturn, prompting a government rescue similar to that of the savings and loan industry in the 1980's.

“From the perspective of many people, including me, this is another thrift industry growing up around us,'' said Peter Wallison a resident fellow at the American Enterprise Institute. ''If they fail, the government will have to step up and bail them out the way it stepped up and bailed out the thrift industry.''

Again, the foresight reflected in the NYT article is fascinating.  Equally as fascinating is that many of my mentors also saw the “writing on the wall” with the “Real Estate Appraisal Reform Act of 1987”. 

Prior to state licensing and certification, appraisers became qualified by meeting the standards of private appraisal organizations that required a significantly greater level of formal education, appraisal education, and appraisal experience.  The process typically took several years to complete.  

The Appraisal Reform Act of 1987 was well intentioned.  However, the threshold for qualifications was so low that it flooded the market with appraisers many of whom were not qualified.  To compound the issue, many unqualified licensed appraisers were now the mentors for appraiser trainees.  And, the ethical oversight lacked “teeth”. 

I began my career in the appraisal industry in1986 and vividly recall many of the appraisers that I was associated with that had achieved a designation from one of the private appraisal organizations accurately predicting a dumbing down of the industry.  Their foresight has come to fruition.  Poorly trained appraisers providing poor valuations can accept a share of the blame for this mortgage debacle.   As can many appraisers who were simply unethical and succumbed to lender pressure for higher valuations.

Where do we go from here?  Fortunately, many positive changes are already in place.  In Kansas, thresholds for education and training, including a formal education component, were increased earlier this year.  Requirements for supervising appraisers were also increased.  Our state appraisal board placed increased emphasis on disciplinary actions for those appraisers who produced poor appraisals due to either a lack of training or ethics.  A Home Valuation Code of Conduct is being considered for implementation next year aimed at improving appraiser independence.  More needs to be done, but these changes are a good start. 

The current economic crisis, resulting in large part from a mortgage meltdown, was predictable and avoidable.  As in any life experience, we as a nation need to learn from our experiences, take the necessary steps to ensure that we do not repeat our mistakes, and move forward. 

Wednesday, July 30, 2008

Real Estate and Stocks Have A Lot In Common

A good friend of mine, following a tip from a buddy of his, has been looking into buying a condominium in warm beach front community with the idea of using it as an investment property until he retires.  Not a bad plan.

What concerned me is that Mike stated that "condo's in this area were selling at 50% of value".  To which I replied, condo's are more likely selling at 100% of market value, it just happens that the current market value is half of what it was previously. 

Real estate, like stocks, are greatly impacted by supply and demand influences.  This is an intangible influence that has nothing to do with the physical aspects of the property.  Based on Mike's statement with regard to the declining values of condo's in the market area that he was researching, it may be that the supply of condominiums dramatically exceeds demand which has a downward pressure on values.  This has been a common occurrence in many markets.

A level of inventory that exceeds a 6 months supply is generally considered to be an over supply, a.k.a. a buyers market.  How can you make this determination?  A simple method is to obtain the number of sales in a defined market area that "sold" (contract date) during period of time, say one year.  In this instance, the number of sales is divided by 12 to determine the average number of sales per month, otherwise referred to as the absorption rate.  Then, the number of active listings in the same market area is divided by the average monthly sales, the conclusion of which is the level of inventory in terms of months.   For example, there have been 120 sales in a neighborhood during the past twelve months, an average of 10 sales per month.  There are currently 75 active listings in the neighborhood.  This calculates to a 7.5 month supply of inventory at this absorption rate, which is an over supply.    

Like buying stocks, the objective with real estate is to buy low and sell high.  With regard to the condominiums by the beach, it just might be a good time to buy, particularly if it is a long term investment and the condo has a great view!