You’ve found the perfect house, your offer has been accepted, and now you are in the process of juggling phone calls, emails and meetings with your realtor, mortgage broker, appraiser, home inspector and lender. You’ve looked at dozens, possibly hundreds of pages of legal documents. You are excited, frazzled and overwhelmed all at once. Nothing could be more complicated than this!
If you are buying or selling a condominium or townhouse, you can add homeowners’ association to your list of people. The homeowners’ association, or HOA, must fill out a condo questionnaire that your lender requires in order to process your loan.
Why? Lenders see condo and townhouse sales as riskier because ownership and decision making are shared between property owners and the homeowners’ association. A condo questionnaire provides evidence that the condominium development, not just your unit, is in compliance with lender’s underwriting requirements.
What is a Homeowners’ Association?
Most condominiums, townhouses and other planned unit developments are governed by a homeowners’ association. The homeowners’ association is comprised of and run by residents. Residents are automatically members of the group and are required to pay dues, called HOA fees. They also must follow the association rules. The HOA fees pay for the upkeep of the external parts of buildings along with common areas including open green space, streets, lighting and landscaping. Unit owners elect the HOA board, but it in turn hires a property management company to maintain the property.
The condo association makes sure the property has a uniform appearance by ruling on everything from what owners can leave on lawns and porches to allowable external improvement to properties, including window replacements and solar panels. Fees and special assessments cover the cost of community-wide repairs.
There are over 70 million people living in planned developments and over 350,000 homeowners’ associations nationwide. Some of those people would tell you, only partly tongue in cheek, that the reason for an HOA is to make community member’s lives difficult. Or you might deduce that for yourself when you need the HOA to submit a condominium questionnaire to your lender in order for the loan to be processed, and the HOA does not respond or takes a long time.
The Questionnaire is Worth Every Question
The condo questionnaire may be another piece of paper, and it can come with a condo questionnaire fee, but it’s worth the hassle and the money.
Consider the story of Alfred Belanger and Michael Drennan. Belanger and Drennan owned adjoining homes in Lakeside Village, a condominium development in Texas. In 2005, an engineering study found that a nearby retaining wall needed to be replaced. The work was not done until 2013, and in the intervening years, the shared foundation of the condos got damaged to the point of being unlivable due to water damage and black mold. The two men sued the Lakeside Village Homeowners’ Association and the property owners. They won, but an appeal delayed the final judgment until 2017, when they won again.
During the time their case was stuck in litigation, a buyer would be justifiably wary to buy a condominium in that development. For this reason, one of the questions on the condo questionnaire, also called a condo certification, asks whether there is any pending litigation. If there is, buyers should beware.
Lenders are by nature risk averse, and condominiums are by nature risky. Unlike a single-family home, or even a second home, where all the risks relate to the home and its owner, a condo is affected by both an individual owner and the homeowners’ association governing the development. The lender must therefore assess both the borrower and the development.
Meet Fannie, Freddie and Ginnie
There are thousands of banks offering loans to home buyers, but eventually, like a family tree that narrows to a few ancestors, 95 percent of all loans are issued or guaranteed by Fannie Mae (FNMA), Freddie Mac or Ginnie Mae, a government sponsored enterprise. Because of this, conventional lenders adhere to the government’s rules. One of them is a condo questionnaire. The five-page Fannie Mae condo questionnaire assesses the risk of a given condominium property. If too many risks emerge, it can be difficult to get a loan.
Ticking the Boxes
There is not a uniform questionnaire used in the industry, but regardless of the exact order or format of the questions, the intention of all lenders is to verify that the condo meets its eligibility requirements.
The questionnaire cannot be completed by the buyer. It must be completed by a representative of the condo association. Because of this, the list of potential complications is both long and stress inducing, including:
- The rules of Fannie Mae and Freddie Mac are not met and the loan is refused.
- The HOA or management company does not fill the form out in a timely manner. In these cases, the borrower must influence the responsible party to complete the form in a timely manner.
- Long delays can endanger or even kill a deal.
- If the sale falls through and the condo goes back on the market, this can make it harder to sell the condo as days on market is one way realtors judge a property’s worth.
Reasons for Automatic Rejection
- The condo questionnaire includes dozens of questions, but the following factors make a condo or townhouse ineligible with lenders that adhere to Fannie Mae and Freddie Mac underwriting guidelines:
- The site contains one of the following: houseboat or floating home, segmented ownership, manufactured home, or timeshare units.
- The buyer only has rights to occupy the condo and doesn’t own it. This is also known as common interest apartments.
- The property is being used as both a condo and a hotel, or has hotel amenities, such as the ability for the association to do short-term rentals for units in the project. This is also known as a condotel.
- The property is a cooperative, meaning a corporation holds the title.
- The property is an investment security, which acts as a liquid asset, and has documents on file with the Securities and Exchange Commission (SEC).
- Project facilities are owned by the developer and are subject to be leased by the homeowners’ association (HOA) to another party.
- The project is not 100% complete, including common areas, units and phases.
- The builder is in control of the HOA.
- The number of units sold and closed is less than 90% of the total units.
- The Fidelity Bond insurance is less than 3 months’ worth of HOA dues.
The Red Flag is Flying
The following factors do not make a project ineligible for financing, but create significant uncertainty when seeking financing from lenders that adhere to Fannie Mae and Freddie Mac underwriting guidelines. They include:
- The buyer owns multiple condos with a single deed.
- The HOA owns or operates businesses, such as a daycare or spa.
- More than 20% of the project development is considered commercial/nonresidential (e.g. businesses such as stores or coffee shops).
- Mechanicals, such as plumbing fixtures and furnaces, along with utilities, are shared between units.
- The condo is currently facing litigation.
- A total of 15% or more of the units are delinquent in their HOA dues for at least 30 days.
- A single entity, such as a corporation or an individual investor, owns more than 10% of the units in the development.
- The development restricts the unit owner’s ability to sell by including a right of first refusal (ROFR), which gives a designated person the right to purchase the condo before the offer is made available to others.
- The number of units owned by investors exceeds 49% of the total units.
- Less than 10% of the budget is allocated toward replacement reserves.
Closing the Deal
If red flags do come up, buyers need to regroup. Buyers should have a backup plan in place, for instance with a credit union or local bank, in case the initial lender rejects the loan. Sellers can approach the homeowners’ association board to see if the guidelines were followed correctly and if there is a way to address issues that arise. Sellers can also suggest lenders they know who have worked with condo purchases before, or with other owners in the development.
Buyers should turn to the federal government for support. The Federal Housing Administration (FHA) has a searchable database of FHA approved developments that are less likely to have issues come up with the condo questionnaire. Buyers paying in cash should also check this database, as when it is there time to sell, they will have more potential buyers. Starting in October, a new rule, among other things, provides FHA approval to condos in non-approved developments to offer affordable homeownership to more people.
Own Up is dedicated to helping people navigate the homeownership journey, and a big part of that process is education. At Own Up, our interests are aligned with yours, so we can be objective about assessing the landscape and your options. We will be your co-pilot in your home buying journey.
Are you thinking about buying or selling a condo or townhouse? Give us a call! We can help.