FHA Apartment Loan Underwriting Changes FHA 223(f) and FHA 221(d)(4)
Summary of CREF Conference 2/5/2010
FHA PROPOSED UNDERWRITING CHANGES FOR MULTIFAMILY
February 5, 2010
Carol Galante, Deputy Assistant Secretary for Multifamily Housing, spoke to members at the CREF convention earlier this week, outlining changes HUD is proposing to strengthen the FHA multifamily programs. While she pointed out that the HUD staff (both in Headquarters and in the field) had thought a lot about these proposals, they were open to hearing concerns and alternative ways to reach the same objectives.
As background for why the changes are needed, she pointed out that market rate Section 221(d)(4) loans are showing the greatest signs of performance deterioration with monthly default rates escalating. She also noted that FHA has a concentration of market rate properties in the highest vacancy markets. She informed the group that claims rates for apartments have increased from .6% in FY2007 to 1.2% in FY2009. And they have talked to the Hub Directors who have reviewed their portfolios and expect claim/partial payment of claim rates in FY2010 of 2.4%.
The policy response to increasing defaults and claims will be in three areas: 1) Improved counterparty oversight (of both MAP lenders and borrowers); 2) Improved credit risk management; and 3) Improved processing. Before detailing the proposed changes, Ms. Galante pointed out that many things were considered but left unchanged, including:
o All programs will be continued; there will be no temporary suspension of any programs.
o There will be no LTV requirement for Section 221(d)(4) loans.
o The programs will continue as non-recourse.
o FHA will still provide the most generous underwriting criteria of any execution.
o No MIP increase in proposed.
Improved counterparty oversight
1 Net worth requirements will be increased for multifamily mortgagees. While final decisions have not been made, a final rule is expected to be published in March. That rule will have separate requirements for single family and multifamily mortgagees, will provide for a phase-in of the higher requirements, and will allow for waivers for existing lenders with good performance.
2 For MAP lenders, there will be a new specialty certification for those lenders (and underwriters) desiring to originate new construction or low income housing tax credit deals. The details have not yet been worked out, but the lenders/ underwriters will need to demonstrate experience/expertise in these areas.
3 Multifamily will be instituting a credit watch system similar to single family with more objective criteria for oversight of lenders. A point system is being considered with points imposed for number of application warning letters, defaults, claims, etc. Enforcement steps will be taken based upon a lender’s FY2010 book of business.
4 The new mortgage documents will require disclosure of trade profits similar to what is required of mortgage brokers on single family loans under RESPA.
5 Borrower reviews will be tightened with 1) a full analysis of the sponsor’s and key principle’s REO schedule; 2) contingent liability for a key principle who must sign and take responsibility for “bad boy” acts of the mortgagor entity; and 3) additional HUD review for any key principle portfolio concentration of over $250 million.
Improved Credit Risk Management
1 Debt Service Coverage
o 221(d)(4) with 95% rental assistance—remain at 1.11
o 221(d)(4) with LIHTC – increase from 1.11 to 1.15
o 221(d)(4) Market – increase from 1.11 to 1.20
o 221(d)(3) -- increase from 1.05 to 1.11
o 223(f) Market – increase from 1.176 to 1.20
o 223(f) with LIHTC or rental assistance – unchanged at 1.1765
2 Additional Requirements
o 221(d)(4)s
Maximum LTC remains 90% for projects with rental assistance, but is reduced to 87% for projects with LIHTCs and to 83.5% for market rate properties
Minimum IOD of 4 months’ debt service (principal, interest and MIP)
Construction contingency increased from 5-10% to 10-15%(SR only)
Working Capital Escrow increased from 2% at 4% to cover new construction cost overruns and change orders
No release of cash out proceeds until construction complete and sustaining occupancy achieved
Must be able to demonstrate ability to stabilize within 18 months of completion, unless waived for larger projects
Maximum underwriting occupancy is 93% (decreased from 95%) unless waived
o 223(f) Refinances
Sustaining occupancy will be defined as 90% physical occupancy and 85% economic occupancy for 6 months prior to application; maximum underwriting occupancy is 93%
Audited financials for previous year must be provided for properties of 50+ units, but can be waived for acquisition financings only
§ Clear all accounts payable, project liability and deferred management fees at closing
§ Maximum 75% LTV if cash out; release of cash out deferred until repairs are completed
§ Failed condos where some condos were sold may not be eligible for HUD financing
Processing Improvements
1 Expedited processing for applications that help FHA meet its housing goals (more clarity will be provided on this once HUD’s strategic plan is published) and those applications which are easier to process (no definition of this yet)
2 Greater scrutiny of new applications in submarkets where there is existing concentration of insured portfolio or with recently completed 221(d)(4)s in stabilization
3 For areas with high vacancy rates and high concentrations of HUD insured mortgages, field office has to review how other HUD insured transactions in area are performing as part of pre-app review process
4 All applications eligible to be submitted under MAP must be submitted under MAP, not TAP
5 Mortgagees will be encouraged to sit down early with the field offices to prescreen applications before they are submitted
6 Underwriting narrative will be standardized (similar to LEAN)
7 Mortgagee and borrower certifications will be combined (similar to LEAN)
8 Applications and third party reports must be submitted in hard copy as well as via disc or flash drive
9 Section 223(a)(7)s may be allowed to be processed under MAP, and OAHP may have a role in the processing where preservation is involved
10 Under TAP, the borrower will be given the option of paying for third-party reports to expedite the processing
Implementation
1 Current thinking is that program criteria in effect at time application is submitted will dictate.
2 Not clear yet what “application submitted” means for 221(d)(4)s; could be pre-app submitted, HUD invitation issued, or firm commitment application package submitted. No decision has been made yet but HUD is willing to listen to recommendations.
3 Will be implemented through Mortgagee Letter which will probably take at least 90 days to issue (May 2nd +/-).
Ms. Galante stressed that they were open to feedback on all of these changes but she also noted that they had thoroughly discussed this proposal and this is the direction they want to go. When asked about tightening market-by-market rather than nationwide, she responded that they preferred to go in the direction of tightening everywhere and then providing waivers in strong markets. She also stressed that these changes do not have to last forever, but when the market strengthens, they can change many of these underwriting criteria again.
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