In its August 2013 Mortgagee Letter, the Federal Housing Administration (FHA) issued updated guidelines for giving an FHA-insured mortgage to borrowers who may otherwise be ineligible as a result of its post-bankruptcy, foreclosure or short sale waiting period.
For the majority of FHA-insured mortgages, the guidelines are fairly straightforward:
- The borrowers monthly debt should not exceed 45% of their household income, unless exceptional cause is shown,
- The borrowers must put down at least 3.5% of the purchase price or appraised value (whichever is less),
- The borrowers must have a credit score of at least 580 or higher, and
- The amount of the loan cannot exceed the local FHA loan limits.
However, under the prior guidelines, if a borrower filed for Chapter 7 Bankruptcy, or underwent a foreclosure or short sale, the mandatory waiting period for borrowers to obtain another FHA-insured mortgage were as follows:
- Foreclosure: Must wait for 3 years before eligible
- Short Sale in Default: Must wait 3 years before eligible
- Chapter 7 Bankruptcy: Must wait 2 years before eligible
Due changes in the housing market, these mandatory waiting periods have now essentially been waived. The FHA will, however, require that borrowers prove:
- That any major credit issues have been cleared from their credit history,
- Completion of housing counseling, and
- They meet all other HUD requirements.
This has the potential of introducing more buyers into the housing market, thereby driving demand for more housing inventory and increasing home values. However, it also begs the question……is this opening the door for another housing crisis in the years to come?
As we are again finding ourselves in a competitive market, with sellers in many cases receiving multiple offers, one issue that has re-surfaced is the concept of “waiving the appraisal contingency.” What does this mean to a buyer and seller? First, a little history.
History of the GCAAR Appraisal Contingency The concept of an appraisal contingency has been contained in the various versions of the GCAAR contracts, but the language has been revised – and moved around – over the years.
In the 1999 GCAAR contract, the appraisal contingency was automatically part of the contract as an element of the conventional financing paragraph (Paragraph 8) unless a purchaser specifically eliminated it. Back in the bidding war days of the early 2000’s, this was often done. Purchasers struck through the language contained in that paragraph. Hence the origin of the phrase, “waiving the appraisal contingency.”
In the 2006 revision of the GCAAR contract, the purchaser was required to select between two options listed under Paragraph 10, Conventional Financing Terms. Under Option 1, the contract was contingent on an appraisal not less than the sales price, and under Option 2, it was not contingent. Under Option 2, “Purchaser shall complete Settlement without regard to the value of the Property set forth in any Appraisal and acknowledges that this may reduce the amount of financing available from lender and may require Purchaser to tender additional funds at Settlement. If Purchaser fails to settle except due to any Default by Seller, then the provisions of paragraph #26 (Default) shall apply.” This language was continued in the 2009 version of the contract.
In the 2012 revisions to the GCAAR contract, two of the big changes were to move the financing contingency to a separate addendum of its own and to move the appraisal contingency to the Addendum of Clauses. Also, the language of the appraisal contingency was revised.
Appraisal contingency in addendum of clauses Rev. 2012 When sellers and their agents are reviewing offers today and evaluating what the offers say on the question of an appraisal contingency, they first look to see whether Paragraph 10 of the Addendum of Clauses is checked off, because this is where the appraisal contingency is now located.
If this paragraph is checked off, the contract is contingent on appraisal not less than the sales price. For example, if the offer is for a sales price of $1,000,000 with financing of $800,000, and the appraisal comes back at $900,000, the purchaser is not obligated to proceed with the contract and can instead negotiate with the seller to lower the sales price. That much is clear.
The bigger question is what if this paragraph is NOT checked off? A seller might think that because there is no specific appraisal contingency, he or she would be protected against the contract falling through based on a low appraisal. But that is not necessarily the case, if the contract includes a financing contingency.
If the contract contains a financing contingency, and if the lender denies the loan within the timeframe of the financing contingency based on the appraisal, the contract will become void if the buyer delivers a copy of the written rejection to the seller, and the buyer will not be in default, notwithstanding the fact that the buyer did not even check off Paragraph 10. The buyer is protected.
The Conventional Financing Addendum specifically states:
In the event Buyer’s financing described herein is declined based upon the Appraised Valuation of the Property, Buyer will not be in Default. This provision will apply even if the Contract contains a separate Appraisal Contingency and that Appraisal Contingency has expired or has been removed.
The appraisal contingency itself contains the following language:
“IF THIS CONTRACT IS CONTINGENT UPON FINANCING AND SUCH FINANCING IS
DECLINED BASED UPON THE APPRAISAL, THE BUYER WILL NOT BE IN DEFAULT, EVEN IF THIS APPRAISAL CONTINGENCY HAS BEEN REMOVED.”
This language would apply most directly in a situation where Paragraph 10 had been checked off, but the purchaser subsequently delivered to the seller a notice that the appraisal contingency had been removed (e.g., GCAAR form #1333). In this case, as well as in the case where the paragraph had never been checked off, the seller would not be protected in a situation where a low appraisal resulted in the buyer’s financing being denied.
Obtaining a separate addendum So what’s a seller to do? The best way for a seller to be sure that they are protected in the case of a low appraisal, where there is a financing contingency, is to not only make sure that there is no appraisal contingency contained in the contract (i.e., make sure that Paragraph 10 in the Addendum of Clauses is not checked off) but also to include an addendum to the contract that specifically states that if the appraisal comes back low, the purchaser will complete settlement and make up the difference in cash. This would be very similar to the language contained in the 2009 version of the GCAAR contract.
The following is some suggested language for an addendum:
THIS CONTRACT IS NOT CONTINGENT ON AN APPRAISAL. Purchaser shall proceed with this Contract at the stated Sales Price without regard to the Appraised Valuation of the Property. In the event that the Appraisal reduces the amount of financing available from the Lender, Purchaser shall tender additional funds in cash at Settlement.
Of course, from the buyer’s perspective, the buyer needs to be certain that he or she has the necessary cash to cover such a shortfall before including a provision like this in an offer.
The searching is over. The bank has been contacted. The offer has been accepted, and now the dream of owning your new home is coming to fruition. So, what are the typical closings fees that you can expect to pay as part of your upcoming settlement?
Let’s take a look at what some of the typical closing costs are that you can expect to pay before the keys to your new home are placed in your hands:
Typical fees that you can expect to pay to your lender for originating your mortgage:
Loan origination fee. Fee charged by the lender to originate your mortgage, and is typically 1%-2% of the loan amount, depending on the lender you select and the loan program for which you qualify.
Application and underwriting fees. Fees charged by the lender to process your loan application and underwrite the loan. These fees are typically rolled into the total Loan origination fee.
Appraisal fee. Fee charged by the lender to have your pending new home appraised to ensure the value of the home is equal to or exceeds the purchase price of the property and the loan amount you are requesting.
Tax service fee. Fee charged by the lender to have an independent company ensure there are no delinquent taxes or outstanding tax liens against your property.
Flood certification fee. Fee charged by the lender to ensure your new home is not located in a flood zone, and therefore there is no requirement for flood insurance.
Credit report fee. Fee charged by the lender to ensure that you are credit worthy of being given a loan and that your financial liabilities do not exceed your financial assets.
Interim interest. Mortgage payments always pay for interest in arrears. Interim interest is therefore charged by the lender from the date of settlement until the end of the month. For example, if you close on August 15th, you will pay interim interest from August 15th through August 31st, and your first mortgage payment will be due on October 1st. Your October 1st mortgage payment will therefore pay for all the interest accrued in September.
Escrows. Whether your lender requires it or you choose to have an escrow account to pay your homeowner’s insurance and property taxes, you will be required to establish your account at the time of settlement. Depending on how close your settlement date is to the next due date for your property taxes, depends on the number of months that the lender will need to collect. However, the lender will need to collect at least 2 months for the buffer they keep in the account at all times.
Settlement/Title Company Fees
Fees that are typically paid to the title company to search the title of the property and issue an owner’s and lender’s title insurance policy:
Settlement fee. Fee charged by the title company to conduct your settlement. Under the new Real Estate Settlement Procedures Act (RESPA) guidelines, this fee now also includes the costs for any title search, courier fee, notary fees, etc.
Owner’s Title Insurance fee. Cost of owner’s title insurance to protect you, as an owner, against title claims that could arise against the property. You typically have the option of selecting either the standard policy or enhanced policy. Our title policy a comparison chart outlines the major differences between coverages. The cost is determined by the purchase price.
Lender’s Title Insurance fee. Cost of lender’s title insurance policy to protect the lender against title claims that could arise against the property. The cost is dependent upon the loan amount.
Fees that are paid to the state and local government of the jurisdiction in which the property is located to record your deed and mortgage and transfer the property:
Recording fees. Fees charged to record your deed and mortgage. Said fees vary depending on the jurisdiction in which the property is located. Recording fees are also charged to record any releases for any current/prior mortgages found against the property, to record any Powers of Attorney used by any party to the transaction at the time of settlement, etc.
Transfer/recordation taxes. Fees charged by the state/local government to transfer title to the property.
Fees that are paid to third parties for inspections, surveys, etc.:
Termite inspection. Fee paid to inspect the property for any termite or other bug damage.
Survey. Fee paid to have a location survey done of the property to ensure there are no boundary line issues.
Condo/HOA Dues. If the property is in a condominium association or homeowner’s association, dues are typically required to be paid for the upcoming month. For example, if you purchase the property in August, the dues for September will typically be required to be collected at the time of settlement.
Condo/HOA transfer fees. The condominium or homeowner’s association management company may charge a fee to transfer the property account from the seller to the new purchaser.
Charges that have been or will be paid by one party to the transaction that are reimbursed by the other party to the transaction.
Tax prorations. Property taxes are prorated between buyer and seller depending on when the last tax bill was paid and when the next bill is due. Tax prorations are dependent on the jurisdiction in which the property is located, as each jurisdiction has different tax due dates and tax periods.
Condo/HOA dues. Any condominium or homeowner’s association dues are prorated between buyer and seller based on the last month paid. For example, if you are settling on August 15th, and the seller has already paid the August dues, the buyer would reimburse the seller for the dues already paid from August 15th through the 31st for the time the buyer will own the property.
All of these fees can be overwhelming; however, all of these closing costs will be disclosed to you by your lender in your Good Faith Estimate (GFE).
In addition, if you want to get ahead of the game before you even submit your first offer, you can always calculate your own total closing costs by using Federal Title's brand new mobile app CloseIt!
The app allows you to input different loan products, property locations, purchase prices and much more to produce a detailed picture of cash to close and what your proposed monthly mortgage payments would be. And best of all, the app is free!
Part 2 of 2
In Part 1, we looked at a scenario where a purchaser (Offer B) was attempting to switch from an “all cash” purchase to using lender financing under the GCAAR Regional Sales Contract, after the contract had been ratified. We concluded that such an act by a purchaser would be a breach of the contract.
Here we will look at how courts might view the matter and what remedies a seller faced with such a situation might have.
The key question is whether such a breach would be considered “material.” This is because if a purchaser’s breach is material, this will excuse further performance by the seller, which means that the seller can get out of the contract. 3511 13th St. Tenants’ Ass’n v. 3511 13th St., N.W. Residences, LLC, 922 A.2d 439, 435 (D.C. App. 2007) (citing cases).
The question of whether a particular breach is material has been called a “classic issue of fact” and involves an inquiry into issues such as whether the breach worked to defeat the bargained-for objective of the parties. Id. These issues are of the type that courts normally rely on juries to decide. Id.
There are no published cases in the District of Columbia (or Maryland) that deal with a switch from all cash to financing situation.
The case cited above, 3511 13th Street Tenants’ Association, involved the failure of the purchaser to tender an earnest money payment. In that case, the court refused to express an opinion on materiality of the breach, because that issue was one for the jury.
In our hypothetical, the fact that the offer was all cash was one of the key factors in causing the seller to accept the offer. While the purchaser might still be able to get to closing with lender financing, there is a good argument that the bargained-for objective of the parties has been defeated: namely, the seller’s objective of not having a transaction with the potential delay and uncertainty that comes with financing. In fact, the seller was willing to leave $5,000 on the table for that peace of mind. These factors weigh in favor of a finding that the breach was material.
This means that a seller who is on the receiving end of a bait and switch move by a purchaser should consider notifying the purchaser that such an act would be a material breach of the contract, and that if the purchaser proceeds with the financing, the seller will declare the contract to be rescinded. The seller could demand that the purchaser immediately provide a written assurance that the purchase would not be financed. If the purchaser did not comply with this demand, the seller could sell the property to someone else – possibly Offer A, if they are still around. A purchaser who wanted to stop such a sale would need to file an action in D.C. Superior Court for an injunction and specific performance. In the court case, the key issue would be the materiality of the breach.
Normally, in cases of rescission, the parties are returned to where they were before entering into the contract. See, e.g., Wright-Dean v. Garland, 779 A.2d 911, 915 (D.C. App. 2001) (case involving action for rescission). Accordingly, the purchaser may have a good argument that they should get their deposit back.
The seller’s alternative to rescission would be to go to closing and then sue the purchaser for breach of the contract. Id. Here, one could argue that the damages from the breach are $5,000, as that was the difference between Offer A and Offer B, and if it hadn’t been for the “all cash” term contained in Offer B, the seller would have accepted Offer A instead of Offer B. In the District of Columbia, claims for $5,000 or less may be brought in the Small Claims and Conciliation Branch of the Civil Division, where the process is more informal and, many times, the parties are not represented by counsel.
If you are a purchaser thinking about making an “all cash” offer and then trying to obtain financing after your offer is accepted, you should consider the possible risks before taking this course of action.
A homeowner who wants to refinance his or her first mortgage when there are two mortgages on the property is typically required to obtain a subordination agreement for the existing second mortgage.
This is because without such an agreement, when the existing first mortgage is paid off, the existing second mortgage would move up to "first lien" position, which would mean that the refinance first mortgage would end up in "second lien" position, which would not be okay with the refinance lender.
A subordination agreement is an agreement from the existing second mortgage-holder that they will be in second place, behind the refinance first mortgage.
There is a new law in Maryland that will go into effect on October 1, 2013 that will eliminate the need to obtain a subordination agreement for a second mortgage for certain residential refinances. If the requirements of the law are satisfied, upon recordation, a refinance first mortgage will automatically have the same priority as the existing first mortgage that it replaces.
The requirements are:
- The interest rate for the refinance first mortgage must be lower than the interest rate for the existing first mortgage;
- The principal amount secured by the refinance first mortgage must be no more than the unpaid outstanding principal balance of the existing first mortgage plus an amount to pay closing costs of up to $5,000;
- The principal amount secured by the existing second mortgage must be no more than $150,000; and
- The refinance first mortgage must contain in bold or capital letters specific language that is set forth in the law.
Virginia already has a similar law.