Even in 2013, with the economy slowly recuperating and markets improving, the  words “housing crisis” still have the power to send shivers down the spines of homeowners who are  still feeling the effects of the collapse of the market in 2008. That collapse  was itself triggered for the most part by the writing of “bad” mortgages to homeowners who couldn’t afford to pay. While homeowners in the tri-state area escaped much better than  most of the rest of the country, the long-term repercussions can still be felt  here, especially among condo and co-op owners.  

 In response to what was happening at the time, the Federal Housing  Administration and U.S. Department of Housing and Urban Development severely  tightened their requirements for how much money buildings must carry in their  reserve funds before prospective buyers can secure loans to purchase units  within the building.  

 Bruce Weltin, associate vice president with home lender Shamrock Financial  Corporation, says that new lending guidelines from HUD mean that FHA loan  requirements will be significantly tightened for condominium sales and that may  have a profoundly negative effect on the ability to sell or buy a condominium  unit that requires FHA financing.  

 New Game, New Rules

 It was about 30-40 years ago that loans started to be securitized, which means  they package loans together and sell them through the security markets. Most of  those go through Fannie Mae.  

 “What happened when all these loans started going bad, Fannie Mae started having  issues and started looking at what they could have done to prevent this,” says Stephen Beer, CPA, of the certified public accounting, auditing and  management consulting firm of Czarnowski & Beer, which serves co-ops and condos from New York City to Florida. “So, they came out with new guidelines, where banks have to follow a selling  guide if they are going to be able to sell their loans to Fannie Mae. While  meeting criteria for Fannie Mae, the bank figures if they have rules, they  should have it on all their loans, so it ended up becoming the standard.”  

 The new requirements have caused worry and even panic among some boards who are  already doing what they can just to keep daily operating budgets solvent in the  face of ongoing arrears and defaults. Adding the need to beef up reserve funds  is just adding to the worry.  

 The new guidelines represent a significant departure from the mortgage industry’s “glory” days of 2005, when practically anyone who wanted to own a home could. At that  time, FHA loans had approximately a five percent market share, according to  industry sources.  

 Those days are long gone as the sub-prime mortgage market no longer exists, and  Fannie Mae and Freddie Mac underwriting guidelines have tightened dramatically.  According to Thomas Wilke, an appraiser with the U.S. Department of Housing and  Urban Development, HUD enacted these new lending requirements for certain types  of federally insured mortgage loan programs due to the declining housing  market, recent turmoil in the credit markets and residential mortgage industry.    

 The Big 10

 “One such rule change with far-reaching implications for condominium associations  and community management companies, is the new underwriting requirement making  it mandatory for all existing condominium associations to maintain minimum  percent funded levels in their reserve account in order to qualify for FHA  insured mortgages,” he says. “An existing association is defined by HUD as any condominium association which  is not under the control of the original declarant.”  

 For condominiums, that requirement involves having 10 percent of their monthly  collections set aside for reserves or deferred maintenance. That’s a huge increase, and one that many just weren't ready for. “It’s not just about having 10 percent in a bank account to get compliant,” Beer says. “It’s about regardless of how much money you have, to continue to put aside 10  percent of your common charges. If you're paying $1,000 a month on your condo,  $100 has to go into an account, whether you spend it or not. There’s no restriction on how much a building spends.”  

 But Wait...There's More!

 In addition to the reserve requirement, there are a number of other important  items in the FHA's 2013 landscape, affecting everything from delinquent common  charges to limits on commercial space.  

 Delinquencies:According to the new requirements, no more than 15 percent of units may be more  than 60 days delinquent in their common charges. This represents a relaxing of  the previous limit, which was only 30 days, and applies to all the units in a  community, including owner-occupied, investor, bank-owned, and vacant units  alike.  

 Fidelity Insurance Coverage: In a significant change from previous requirements, if a condo engages the  services of a management company, that company must carry its own FHA-approved  fidelity insurance—or be named as an insured on the HOA's policy. It's also permissible for the  HOA's policy to include an endorsement stating that management company  employees subject to the direction and control of the association are covered  by the association's policy. Prior to the requirement update, the only option  was for management companies to obtain their own fidelity coverage.  

 Commercial Space Limitations:The FHA will consider condo projects with commercial space of between 25 and 35  percent; however, on a case-by-case basis (and with steep documentation  requirements) exceptions may be considered for mixed-use condos with commercial  space making up to 50 percent of their total.  

 Getting Help, Knowing Options

 Orest Tomaselli, CEO, National Condo Advisors LLC in White Plains, whose company  specializes in helping co-ops and condos get compliant with the new  regulations, says it’s an issue that affects everyone. “We’re responsible for 80 percent of approvals in the New York City area and 20 to  25 percent of those across the country,” Tomaselli says. “As far as getting buildings non-compliant to a complaint place, there are  solutions. It’s not impossible. We help get them to the point to get FHA approval.”  

 On a regular basis, he hears who express doubt about the requirements  applicability to their building, or who just don't seem to take them seriously.  

 “People think there’s a way around it. The guidelines within the FHA have been changing yearly or  regularly since 2008 and it’s not getting easier for a bank to lend money, specifically in co-ops and  condos,” he says. “Fannie Mae has tightened up its policy for limited reviews and the FHA question  out there has caused a situation where a lot of these people have issues. There  are solutions to this issue.”  

 To help, Tomaselli’s company will often go into a board meeting and review the FHA guidelines with  the board so everyone understands what needs to be done from a compliance  standpoint.  

 “What we typically do is go into a board meeting, and give education to board  members and then do a review of their documentation and financials and bylaws  and see what is compliant,” he says. “Sometimes there are circumstances where developments are reserving but not per  guidelines, partially reserving or calling it something else. Sometimes they  are already reserving three percent and don’t even know it so it’s not always as difficult as it might seem to be compliant.”  

 The Cost of Noncompliance

 When word first came out that the new requirements were going to happen, some of  the boards chose to turn a blind eye to the changes, and some property managers  didn’t represent their properties properly.  

 “We were out there telling our clients how to deal with it and tried to phase it  in over a couple of years,” Beer says. “Some are moving along but the ones who put their head in the sand and felt this  wasn’t a big issue are feeling it the most now. They are getting calls from their  unit owners that their deal is falling through because the buyer can’t get financing. That’s what happens if the guidelines are not followed.”  

 Tomaselli believes that the 10 percent line item is arbitrary – and that arbitrariness causes some difficulty, since some communities need more  than 10 percent and some need far less than that. “It all depends on if they maintained the property accurately and if they  replaced their systems in a timely fashion,” he says. “Let’s say you have a building built three years ago and in order to be compliant  with FHA financing, you need to have a 10 percent line item in reserve. That  building has systems that might last for 35 years before they need to be  replaced, so the 10 percent is overkill. Why put this undue duress when they  might only need three percent or five percent? That’s what we’re seeing more regularly in condominiums.”  

 If you’re trying to sell a condo in a building that’s non compliant, Beer says you should be prepared for some disappointment. “Their loan would be hard to go through,” he says. “The building is ineligible and probably won’t be able to do the loan. Some buildings and banks have exceptions but my  understanding is they are harder and harder to get.”  

 According to Tomaselli, for the first time ever, there’s hard data to prove there’s a relation between being compliant and the value of development. “If you ask a homeowner trying to sell a unit in a condo that doesn’t have FHA compliance, they will tell you how hard it is,” he says. “Lending is paramount right now. If you don’t have financing, the values of the units will go down and people will have a  hard time financing. It becomes detrimental.”  

 For buildings that aren’t compliant, he continues, there’s always a bank willing to lend, but the buyer pool isn’t nearly as deep. “For example, a building in Manhattan in the price point of $4.5 to $5 million,  you’ll have purchasers who have $5 million in a bank account and the lender is going  to make a loan for them regardless of compliance,” he says. “The problem with that is that buyers with that type of qualifications are few  and far between.”  

 Beer adds that someone who pays in all cash could be making a big mistake  because if they ever want to take out a mortgage for some great investment  opportunity, you’re not going to be able to capitalize on that equity.  

 Once a particular association is approved for FHA lending guarantees there is no  requirement that they re-qualify at a future date. However, that does not mean  once you are approved by HUD you can forget about your reserve funding program.  Even after an association has received HUD approval for FHA loans, all  subsequent loan applications must include an updated reserve study as part of  the document package submitted to underwriters.

 Keith Loria is a freelance writer and a frequent contributor to The Cooperator.