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No Way Around FHA's 'Flipper' Rule

Ginny, can you please explain why the Federal Housing Administration (FHA) will not allow a buyer to purchase a home that was sold within the previous 90 days? We have asked this question numerous times and everyone just goes around it and says FHA will not allow this type of loan.

We have seen several properties that we really want, but we keep being rejected because we have to go FHA (we have only a 3.5 percent downpayment). Why is this a rule? Are there any ways to work around it?  Joy B., Beaumont, Tx

Joy, the only thing you can do to work around this issue is to restrict your house hunt to homes near or past the 90-day time frame. You must close your purchase or escrow at least 90 days following the closing of the previous purchase — and honestly, many sellers will simply prioritize offers from wannabe buyers using conventional (i.e., non-FHA) financing.

Let’s get clear on what this rule is and why it exists. FHA doesn’t actually offer loans; it simply insures loans made by mortgage lenders against the risk of default. That just means that if you default, FHA agrees to cover the lender’s losses, so long as the lender ensures that you, your loan and your transaction meet a set of guidelines.

FHA’s aim is to ensure that mortgage loans stay available to borrowers who otherwise wouldn’t be able to qualify for a home loan.

Right now, the lowest “conventional loan” downpayment requirement is around 10 percent. By insuring loans with downpayments as low as 3.5 percent, FHA allows you and people in your situation to buy when they would be blocked from participating in the market otherwise.

But here’s the deal: FHA’s position is that a large number of homes that were walked away from and/or foreclosed on during this recent housing crisis were homes that had been flipped, or bought and resold very quickly at a dramatically higher price for profit.

From the FHA’s perspective, the flipping phenomenon was partially to blame for the runaway appreciation in home prices and, when values dropped, the owners who had paid these inflated values were simply much more likely to abandon their homes or otherwise lose them through foreclosure.

My dad taught me as a child the following adage: “She who has the cash makes the rules.” And so it is with FHA loans. FHA wants to discourage flipping, especially flips in which little or no work has been done to improve the condition of the property, so it refuses to insure loans that fund flip resales.

For this reason, in 2008 the FHA enacted the following anti-flipping rule, which is the very rule you seem to be running up against:

Resales occurring within 90 days of the acquisition will not be eligible for a mortgage to be insured by FHA. FHA’s analysis disclosed that among the most egregious examples of predatory lending was on “flips” that occurred within a very brief time span, often within days. Thus, the “quick flips” will be eliminated.

Now, if you should find and get into contract to purchase a property that is past the 90-day threshold, you might be able to obtain an FHA-insured loan, but you will have to get a second appraisal — at your expense — and ideally the seller will be able to document that the seller made significant investments and improvements to the property since purchasing the property.

More from the FHA rule: Resales occurring between 91 and 180 days will be eligible provided that the lender obtains an additional appraisal from an independent appraiser based on a resale percentage threshold established by FHA.

This threshold would be relatively high so as to not adversely affect legitimate rehabilitation efforts but still deter unscrupulous sellers, lenders, and appraisers from attempting to flip properties and defraud homebuyers. Lenders may also prove that the increased value is the result of rehabilitation of the property.

But this is Home Sale Hindsight — what went wrong in your house hunt? It was your advisers’ failure to explain the rationale and details of this rule. Had they done so, you might have focused your efforts not on questioning the rule and looking for workarounds, but on finding that needle-in-the-haystack property that meets both your needs and FHA guidelines.