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FHA Moves Against Short Sale Sellers

by Peter G. Miller
December 21st, 2009

In a move to limit down-side profit-taking, new FHA guidelines have been announced to prevent short-seller sellers from buying replacement properties with an FHA mortgage.

In basic terms, what the new FHA guidelines are getting at is this: Smith buys a home and finances with a $300,000 loan. The value of the property falls to $200,000. Smith sells the property with a short sale, meaning that the property sells for less than the $300,000 loan balance. The lender takes a loss while Smith buys a $200,000 home across the street and cuts his monthly costs by a third.

New FHA loan requirements apply in cases where “a previously owned property was sold for less than what was owed (short sale)” or “there is principal write down of indebtedness that cannot be refinanced into a new mortgage (short pay off).”

“Borrowers,” says HUD, “are not eligible for a new FHA mortgage if they pursued a short sale agreement on his or her principal residence simply to take advantage of declining market conditions, and purchase, at a reduced price, a similar or superior property within a reasonable commuting distance.”

Can you get any FHA financing is you have had a short sale? Yes.

According to HUD “borrowers are considered eligible for a new FHA-insured mortgage if they were current on their mortgage and other installment debts at the time of the short sale of their previously owned property, and the proceeds from the short sale serve as payment in full.”

Conflict

Here’s the problem: The real standard from HUD does not concern short sales — you can get an FHA loan if you’ve had a short sale. Instead, the real test is the borrower’s intent.

In other words, if you look at the two standards above you can see that they may not conflict.

For example:

Smith has a $300,000 loan, is making all of his payments, sells his home with a short sale and moves 20 miles away. Is he banned from a new FHA mortgage?

A lot of people commute more than 20 miles — think of California. Or, think of New York City and Washington, DC where workers sometimes commute from Pennsylvania.

HUD also says that “borrowers who sold their property under FHA’s pre-foreclosure sale program are not eligible for a new FHA-insured mortgage from the date that FHA paid the claim associated with the pre-foreclosure sale.”

How long does the FHA loan ban last for short-sellers? That would be three years.

Exceptions

HUD says that “borrowers in default on their mortgage at the time of the short sale (or pre-foreclosure sale) are not eligible for a new FHA-insured mortgage for three years from the date of the pre-foreclosure sale. Lenders may make exceptions to this rule under certain circumstances.”

Given that lenders are in the business of making loans — and given that lenders make no money when they do not make loans — look for a lot of “exceptions to this rule under certain circumstances.”

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