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As-Is Condition Not Good Enough for Some Loan Programs

Written by M. Anthony Carr on Thursday, 15 August 2002 7:00 pm
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At times a seller is not so interested in getting the maximum amount on the sale of a property as much as just getting out of a property. Investors who have depreciated a rental unit to the max, homeowners who face an emergency move, or distress property owners may be motivated by time, rather than a bottom line.

These scenarios bring into play the sale of a property in "as-is" condition. Buyers can pick up good deals on these type of houses. An "as-is" house could be a handyman special in need of paint, afflicted by termite infestation, dry rot on the deck and a leaking roof that needs replacement.

The problem with these houses is that many loan programs cannot be used to purchase them. For both conforming and non-conforming loans, lenders want a house to meet a certain standard before putting their money on the line to help a buyer purchase it. If a house is a complete disaster, a lender may be more interested in helping a buyer acquire the land, but not the house on the land.

Mortgages insured by the Federal Housing Administration (which operates under the U.S. Department of Housing and Urban Development ), require that houses come under a minimal condition standard. In the absence of local or state codes, the guidelines come from HUD’s Section 8 department, which generally regulate the rental programs. These guidelines are known as the Housing Quality Standard (HQS).

Houses being bought by HUD loans must be inspected by a HUD representative (this could be an appraiser or representative from the lender). HUD rules stipulate required repairs "necessary to preserve the continued marketability of the property and to protect the health and safety of the occupants. The three S’s:

  1. Salability - preserve the continued marketability of the property
  2. Safety - protect the health and safety of the occupants
  3. Security - protect the security of the property (security for the FHA insured mortgage.)

The general requirements include the following 13 points:

  • Sanitary facilities
  • Food preparation and refuse disposal
  • Space and security
  • Thermal environment
  • Illumination and electricity
  • Structure and materials
  • Interior air quality
  • Water supply
  • Lead-based paint
  • Access
  • Site and neighborhood
  • Sanitary condition
  • Smoke detectors

Here’s where the confusion begins. There are no published standards on how these points are to be met or enforced. In fact, HUD advises those in the field who have to determine the fitness of the property that, pretty much, it’s a subjective process:

"Public Housing Authorities should strive to ensure consistency among staff in areas requiring judgment. Not all areas of HQS are exactly defined while acceptability criteria specifically state the minimum standards necessary to meet HQS. Inspector judgment or tenant preference may also need to be considered in determining whether the unit meets minimum standards or are desirable."

In other words, what is acceptable in one locality may fail miserably in another. In fact, they’re not even leaving it up to the professionals, since "tenant preference" can also be considered in the equation of whether the property meets the standard. Lord help those with an anal retentive tenant.

Nevertheless, just because you have found a fixer-upper, be sure the loan program you’re looking to use for the purchase of such a diamond-in-the-rough, will actually cover all the problems you may find.

If a property is in such disrepair that the lender won’t approve the loan to purchase it in its as-is condition, you may consider a rehabilitation loan along with the acquisition loan. Rehabilitation loans are offered to buyers who are looking to buy a dilapidated property in order to fix it up. Talk this over with your lender to see if it would work for your particular situation.

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