The Federal Housing Adminstration last week announced new, nationwide restrictions against "flipping" --a commonplace element of "predatory lending" fraud in some large urban markets.

As of June 2, FHA financing will no longer be available on any house resold within 90 days of its acquisition. For resales occurring within 91 to 180 days, the agency may impose additional requirements on the lender, including an independent second appraisal or other documentation to establish the true market value of the property.

The new rule represents a compromise by the agency, which had originally proposed banning FHA insurance for any house resold within six months of acquisition. That proposal drew howls of complaint from small investors, Realtors and urban redevelopment groups who buy up and repair inner city properties and resell them as legitimate business enterprises.

"Flipping" typically invoves acquistion of a property by an investor at a low price, and its rapid resale for a profit. Sometimes the resale occurs within days of acquisition by the investor, sometimes months.

Predatory flipping--the target of the new federal restrictions--occurs when a recently acquired house in a lower-cost urban neighborhood is resold for a high profit with an artifically-inflated valuation. Typically there is collusion between the investor, an appraiser, and a loan officer or mortgage broker. In some cities, such as Baltimore and Los Angeles, flipping in recent years has become a serious financial problem for FHA.

For example, predatory investors would buy up inner city rowhouses in Baltimore at rock-bottom prices, perform cosmetic improvements, then re-sell the properties after a few weeks at artificially high prices supported by fraudulent appraisals. In some cases, investors or lenders faked the incomes and credit ratings of their home buyers, essentially defrauding the FHA insurance fund by putting ineligible borrowers into homes with grossly inflated price tags.

The FHA insurance fund was left holding the bag when the flipped houses turned into defaults and foreclosures. Under the final rule announced last week:

Published: May 5, 2003

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Kenneth R. Harney writes an award-winning, nationally-syndicated column on housing and real estate from Washington, D.C. He is also managing director of the National Real Estate Development Center, a professional education company. He is a past member of the Federal Reserve Board's Consumer Advisory Council, a committee that by federal statute reviews all Fed actions on home mortgage, consmer credit and banking industry regulation. He served as a member of the U.S. Department of Housing and Urban Development's Working Group on Computerized Loan Origination (CLO) systems, and is a member of the Editorial Board of the Fannie Mae Foundation's journal, Housing Policy Debate. He is the author of two books on mortgage finance and real estate.