Condominium Mortgage Underwriting – The Lending Industry’s Response to the Champlain Towers Tragedy
As industry stakeholders seek to develop standards to help prevent re-occurrence of the Champlain Towers tragedy, Fannie Mae and Freddie Mac recently issued new “temporary” requirements for condominium and cooperative mortgage eligibility. These criteria (Fannie Mae’s “Lender Letter (LL-2021-14)” and Freddie Mac’s 2021-38 bulletin – see https://singlefamily.fanniemae.com/media/29411/display and https://my.sf.freddiemac.com/updates/guide/bulletin~2021-38) are aimed at mitigating lender risk associated with loans secured by units in buildings containing structural defects or dangerous conditions. As implementation takes the form of a revised and more intrusive lender questionnaire, condominium and cooperative projects containing five or more attached units must be able to establish the absence of any “significant deferred maintenance and unsafe conditions”.
For Fannie Mae, “significant deferred maintenance and unsafe conditions” include those which have received a directive from a regulatory authority or inspection agency to make repairs. For example, unresolved fire or building code (safety) violations, or the failure to pass a regulatory inspection (such as a required façade inspection) or to achieve a certificate of occupancy, automatically render a project ineligible. Also ineligible are those where:
- full or partial evacuation of the building to complete repairs is required for more than seven days or an unknown period of time;
- the project has deficiencies, defects, substantial damage or deferred maintenance that
– is severe enough to affect the safety, soundness, structural integrity, or habitability of the improvements; or
– the units need substantial repairs and rehabilitation; including many major components; or
– impedes the safe and sound functioning of one or more of the building’s major structural or mechanical elements, including but not limited to the foundation, roof, load bearing structures, electrical system, HVAC, or plumbing.
Expressly exempted are 1) routine maintenance and 2) isolated repairs which do not impact the overall safety, soundness, structural integrity, or habitability of the improvements. Similar in theme is Freddie Mac’s 2021-38 bulletin, which precludes projects requiring;
Critical Repairs: (safety, soundness, structural integrity or habitability of the project’s building(s) including
– All life safety hazards
– Code violations
– Material Deficiencies
– Significant Deferred Maintenance
While both publications utilize broad terms to describe the type of defects and repairs which they seek to address, of main concern are overall structural integrity and safety of the project rather than conditions impacting any particular unit.
However, Fannie Mae and Freddie Mac’s new requirements are not limited to scrutiny of the physical components or structural integrity of a project. Stricter eligibility standards also apply to special assessments and loans. Lenders will now review any current or planned special assessment (even if paid in full) to determine acceptability. Included in the inquiry are the reason for the special assessment, the total amount assessed, and documentation to support “no negative impact” to the financial stability, viability, condition, and marketability of the project. In addition, all projects must now allocate at least 10% of their annual budgets into reserves. For the duration of these temporary guidelines, a reserve study can no longer be submitted to form the basis of an exemption from the 10% minimum reserve contribution requirement.
Verification of eligibility will proceed through a revised questionnaire (Form 1076/476 – see https://sf.freddiemac.com/content/_assets/resources/pdf/forms/form-476a.pdf). Although mortgage questionnaires are nothing new, the revised form seeks information which condominium and cooperative boards were not previously required to provide. It is expected that individual lenders will likely create modified versions of Form 1076/476; it contains the following questions:
1) When was the last building inspection by a licensed architect, licensed engineer, or any other building inspector?
2) Did the last inspection have any findings related to the safety, soundness, structural integrity, or habitability of the project’s buildings?
3) Is the HOA/Cooperative Corporation aware of any deficiencies related to the safety, soundness, structural integrity, or habitability of the project’s building(s)?
4) Are there any outstanding violations of jurisdictional requirements (zoning ordinances, codes, etc.) related to the safety, soundness, structural integrity, or habitability of the project’s building(s)?
5) Is it anticipated the project will, in the future, have such violation(s)?
6) Does the project have a funding plan for its deferred maintenance components/items to be repaired or replaced?
7) Does the project have a schedule for the deferred maintenance components/items to be repaired or replaced?
8) Has the HOA/Cooperative Corporation had a reserve study completed on the project within the past 3 years?
9) What is the total of the current reserve account balance(s)?
10) Are there any current special assessments unit owners/cooperative shareholders are obligated to pay?
11) Are there any planned special assessments that unit owners/cooperative shareholders will be obligated to pay?
12) Has the HOA obtained any loans to finance improvements or deferred maintenance?
For well-run, professionally managed associations, answering these questions should not present a significant burden. Even if not originally intended to verify the absence of structural or safety issues, reserve studies often note the existence of any such defects and the need for additional inspections. Accordingly, associations which periodically work with engineers and inspectors to update their reserve studies should have little to fear; for them, a mortgage questionnaire is not likely to be the trigger for new concerns over safety or structural issues. For associations with outdated reserve or engineering studies, the time to have them renewed is now. Also important to remember is that the term “condominium” merely denotes a form of ownership – it is not an indication of the “product type” or construction. Although Fannie and Freddie’s new requirements expressly only apply to projects containing 5 or more attached units, design and construction are clearly important factors. Different considerations (and responses) thus apply to a concrete high-rise structure exposed to ocean salt water, than do to a wood-stud constructed three-story building located in the Philadelphia suburbs. A condominium consisting of detached villa homes appears to be exempt.
Although with some variation in form, mortgage lenders will submit and demand timely responses to their questionnaires. We thus recommend that condominium and cooperative boards work with, and rely on, their expert consultants (inspectors, engineers and architects – all as appropriate to the product type) to formulate consistent and up-to-date responses. To the extent code violations, significant deferred maintenance, unsafe conditions, or special assessments exist, these responses must include documentation detailing the timing and specifications to address them. Preparation is key; mortgage lenders, sellers, buyers and owners will have little tolerance for delay, incomplete information or non-compliance. Accordingly, the time for boards to review the questionnaire, gather information, consult experts and draft responses is now.
The practical impact of these new regulations on condominium lending is yet unknown. As mortgage lenders seek assurances that none of the conditions which render a condominium ineligible exist, inspectors and engineers may be hesitant to guarantee safety and structural integrity. Underwriting, document review and the request for follow up will likely cause delay and uncertainty. Much will be learned in the next few months, patience and diligence are required.
This article will appear in the March / April 2022 issue of Community Assets (magazine of CAI Keystone Chapter).
This article is not legal advice and is provided for informational purposes only. Actual legal advice can only be provided after consultation by an attorney licensed in your jurisdiction.