There’s some good news brewing at the U.S. Housing and Urban Development Department that could save thousands of home sales in the months ahead. The final details aren’t fully nailed down and a formal announcement is still more than a month away, but I can tell you about a broad outline taking shape that isn’t likely to change.
It’s all about seller concessions.
Last year the Federal Housing Administration announced that it intends to slash maximum seller contributions from 6 percent to 3 percent for purchasers using FHA-insured mortgages. Seller concessions or contributions are essential lubricants that make large numbers of FHA-financed home sales flow smoothly to closing. They make otherwise unaffordable deals doable.
Say you’re negotiating on a house and the seller absolutely insists on getting a price of $150,000. Perhaps the buyer has struggled to come up with down-payment money and won’t have the additional cash resources to pay for the settlement and loan origination expenses, which average about 4 to 5 percent in your area.
Under long-standing FHA rules, your seller is allowed to contribute money from the sale proceeds to help with your closing costs. A 6 percent contributions cap — the current rule — allows your seller to put as much as $9,000 into the pot, which would be more than enough to handle your closing costs and prepaids.
But a 3 percent ceiling — the one HUD proposed last year — would reduce that to $4,500, leaving you short and endangering the entire deal. A 3 percent cap would also make FHA’s standard the same as what’s typical in the conventional loan market, where both Fannie Mae and Freddie Mac permit nothing beyond that limit.
After hearing complaints from builders, Realtors and lenders, HUD is now planning to adopt a more nuanced approach. A formal notice is expected sometime in April, with the changes taking effect this summer.
The core of the policy revision: flexibility. Rather than an across-the-board 3 percent ceiling on all FHA mortgages, the new policy would permit higher seller contributions — probably between 4 and 5 percent — on smaller loan balances. Meanwhile, the 3 percent cap would be mandatory on all loan amounts above some yet-to-be-specified limit.
Alternatively, a dollar ceiling on all seller concessions might be available, such as a maximum of $6,000. On the smallest-balance mortgages, the dollar total permitted might even hit 6 percent. Loans on newly constructed houses, where abuses have been reported when builders use concessions to support artificially high sale prices, could have special restrictions.
Whatever the final version turns out to be, the net result should be much better for home sellers, buyers and real estate professionals than last year’s threatened 3 percent cap for everybody. This would especially be the case in hundreds of local real estate markets where FHA is the main support for first-time and moderate-income home purchasers.
For example, in the seven Southeast states where Memphis-based Crye-Leike Realtors is a major player, FHA loans are used by 50 percent of all purchasers, according to Steve A. Brown, executive vice president. The key attractions, he said, are FHA’s low down payments, relatively generous credit requirements and the 6 percent seller concessions limit.
"FHA is what’s keeping us alive," Brown told me in an interview. "If they do a 3 percent across-the-board limit, that would knock out a lot of our sales. But if they go with some graduated deal tied into lower-priced homes, then we should be alright."
The average home price in the Memphis area is about $115,000; the average starter home is $85,000, according to Brown. He figures that a 4.5 percent cap on seller concessions would cover closing costs in most transactions, but a 3 percent limit would be a disaster.
"This economy is pretty darn fragile," he said. "People haven’t had a raise in three years, prices keep going up on gas and food, plus you’ve got all those fixed fees" — attorney costs, title insurance, loan origination and underwriting, among others — "and none of them has gone down."
In the Minneapolis-St. Paul area, the situation is similar: FHA loans account for 35 percent to 45 percent of all transactions, according to John Anderson, broker at Twin Oaks Realty. The average home price is $163,000 — somewhat lower for FHA transactions — and settlement costs average about 4.5 percent.
"Ninety percent of our buyers are asking sellers to pay closing costs and prepaids," said Anderson. "This is a tight economy, and you can’t turn to parents and grandparents any more for gift money because they’re worried about their own" pension fund shortfalls and depleted savings accounts.
Many brokers agree with FHA that 6 percent contributions may be excessive in higher-end transactions; they top out above $43,000 in the most expensive housing markets. Brokers also concede that there have been abuses and games played in the past that have increased FHA’s insurance fund losses.
An example: Say a prospective buyer wants a house that’s listed for $100,000. The seller agrees to make a maximum $6,000 contribution to the closing costs but insists that the final selling price be adjusted up to $106,000.
But now the house has to appraise at $106,000, or FHA will be insuring a loan with an artificially inflated price with little or no borrower equity — making it a prime candidate for future default and insurance claims. FHA says it holds appraisers and lenders responsible for sniffing out such frauds, but officials acknowledge they can’t catch them all.
Will a tightened seller concessions policy put a better damper on such abuses? I have no doubt that a mandatory 3 percent cap for all higher-balance mortgages and loans on some new construction would limit the damage in dollar terms.
A graduated system for average-sized and low-balance loans might limit risks as well, while still allowing most home sales to get to closing. A set dollar limit for concessions — say it’s $6,000, hypothetically — might also provide a flexible way to lower risk while still allowing the lowest-balance loans to enjoy seller contributions up to 6 percent.
In the meantime, the good news is that the widely feared, draconian 3 percent limit appears to be off the table. Something more flexible is coming that might just balance FHA’s legitimate needs to safeguard its insurance fund while accommodating home sellers’ and buyers’ legitimate needs for affordable housing with agreeable financing terms.