Good news for potentially thousands of condominium unit owners and homeowners association boards around the country: FHA has backed off a controversial policy that had threatened to force large numbers of condo projects out of compliance with the agency’s certification and recertification rules.

Loss of certification would mean that affected projects no longer would be eligible for low down payment FHA financing on any of their units. As a result, buyers who need FHA loans would be shut out, unit owners would find it more difficult to sell, and property values would suffer.

Problems with FHA’s certification rules have been bugging condo associations for more than two years, and have dramatically reduced the number of projects eligible for FHA unit financing — down by more than a third, from 40,000 to 26,652 as of June.

But last week, FHA signaled a willingness to work with the condo industry to resolve the latest controversy by providing a “workaround” covering the agency’s previous demand that thousands of condo boards amend their underlying CC&Rs (covenants, conditions and restrictions) to conform with long-ignored language in the National Housing Act regarding “transient,” short-term rental of units or face rejection of the applications for certification.

One condo expert said in California alone, 1 of every 3 condo communities with current FHA certifications risked loss of eligibility under the policy.

That policy targeted commonplace language found in hundreds of association CC&Rs allowing Fannie Mae, Freddie Mac or other mortgage investors to rent units they acquire through foreclosures under short-term contracts that provide hotel-like services to tenants.

The CC&R language reportedly was sought decades ago by mortgage investors to give them more options for handling REO in condo projects. Industry experts say investors rarely, if ever, made use of the hotel/transient provisions, and have no apparent interest in doing so.

FHA’s demand this past spring that the CC&R language be expunged would force condo boards to make a tough choice. Either spend thousands of dollars on legal fees and a vote of current unit owners to approve the change, or to simply tell FHA: “Kiss off. We don’t want to deal with your certification rigmarole any more,” even though the impact on owners seeking to sell their units could be painful.

As Don Villeneuve, board president of a condo project in Renton, Wash., put it to me in an email, “Two months ago I would have said the FHA certification was a necessary financing tool, but now I am not sure they’re worth the trouble.”

In a national phone conference with condo boards, mortgage lenders and consultants last Friday, FHA’s head of condo financing, Joanne Kuczma, sought to heal the most recent wounds with a compromise plan.

“Given the numbers of projects being declined (turned down for certification or recertification), we searched for an alternative,” Kuczma said.

From now on, Kuczma said, condo boards can either amend their CC&Rs to comply with HUD’s policy, or provide a statement that affirms that there are “no units in the project currently rented for less than 30 days and/or pursuant to the lessor providing any services normally associated with a hotel.”

Under the workaround, lenders providing FHA financing on individual units must also provide a statement that in the event of a default or foreclosure they “will not rent the … unit for less than 30 days and/or provide any services normally associated with a hotel,” such as room service or laundering of linens.

Unit purchasers will also have to provide similar written assurances.

That’s it? What took so long?

Behind the scenes for the past several months, condo industry lobbyists, management companies and consultants sought to persuade Kuczma to reverse the policy or at least come up with some sort of compromise.

Kuczma, however, was in a proverbial “rock and a hard place” situation. On the one hand, she knew there was no question about the law: The National Housing Act explicitly prohibits transient and hotel-like rentals in units covered by FHA mortgage insurance. As a HUD official, she is legally required to follow the law to the letter. Lawyers in HUD’s office of general counsel insisted she do so.

On the other hand, Kuczma also knew that FHA was turning down growing numbers of condo certifications and recertifications solely because of this highly technical misalignment between long-standing industry practice and the Housing Act.

Finally the agency came up with a documentation workaround that satisfied HUD’s lawyers and didn’t create huge additional expense or inconvenience for condo boards.

The Community Associations Institute (CAI), which represents 30,000 condo and homeowners associations and management firms, applauded the outcome. Tom Skiba, CAI’s chief executive, said the solution “was critical for many CAI members,” and that it “preserves the integrity of association governance while ensuring full compliance with federal law.”

Jon Eberhardt, president of Condo Approvals LLC, a national consulting firm that helps condo boards obtain FHA certifications, said the workaround should put an end to the approvals logjam. His own firm, he told me, had more than 60 project certifications blocked by FHA’s transient-use policy during the past couple of months.

But in Eberhardt’s view, the resolution of the transient-use issue won’t be enough to repair FHA’s deteriorating ties to the condo market. He says the long list of changes to the certification process recently have continued to drive away condo associations in droves, and they won’t likely be coming back.

“It is my belief,” Eberhardt said, “that the approval process is so far out of hand right now that fewer and fewer (associations) around the country” — as little as 10 percent or less of all condos — “will retain their FHA” connection.

That’s a sad commentary for a type of affordable housing that long has been a crucial entry point for first-time and moderate-income buyers — a segment of the market that FHA was created to serve.

Ken Harney writes an award-winning, nationally syndicated column, “The Nation’s Housing,” and is the author of two books on real estate and mortgage finance.

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