In the wake of the condominium tower collapse in Surfside, Fla., that left 98 dead and 136 homes lost, Fannie Mae and Freddie Mac issued letters with temporary requirements of condo and co-op projects related to the maintenance of these buildings.
Orest Tomaselli, CondoTek president of project review, spoke with Dodd Frank Update on how mortgage lenders are handling the new guidelines and how they may affect affordability going forward.
“Since these new guidelines went into effect, Jan. 1 for Fannie Mae and Feb. 28 for Freddie Mac, there’s been this massive change in the industry,” Tomaselli said. “There is now intense focus on the structural components in the financial wherewithal of condominium developments and HOAs [homeowner associations].”
Tomaselli said this focus was a longtime coming, and there is likely going to be more scrutiny as time goes on. Even though the new guidelines are stated to be temporary, Tomaselli said agencies have been looking for ways to ensure that major special assessments do not occur, making sure good lending decisions are made, and homeowners are protected.
One of the main features of the Fannie Mae guidelines is a new addendum and additional questions added to the condo questionnaire required when a condo loan is originated. The addendum requires the building to have a 10 percent reserve line item, regardless of whether the building has been following a reserve study or if it has deferred maintenance items in the building. This is to ensure the property has enough reserves to maintain the building and special assessments assigned to condo or cooperative (co-op) owners were used to complete requisite repairs.
Should there not be a reserve for repairs, if there are structural issues that have been deferred, or the HOA is aware of major issues in need of repair, a condo building can become unwarrantable. Fannie Mae will not buy loans made for units in that building until these issues are resolved.
These guidelines are meant to address situations such as the Surfside condo collapse, where the HOA knew about the foundational issues, but continued to defer maintenance and “kick that financial can down the road” for almost 20 years. Tomaselli also spoke of a CondoTek client who had recently closed a loan on a condo building in December 2021 and was looking to verify the building was compliant with the new guidelines before shipping it to the investor in January 2022.
This, he said, is what CondoTek does: it is a technology company that leverages its expertise to streamline the condo lending process. The company’s new Condo Project Warrant platform reviews and analyzes the appropriate documents for condominium properties to warrant them for CondoTek’s lender clients.
Unfortunately for the lender in this case, the condo’s parking garage had severe structural issues the HOA knew about and never repaired, so Tomaselli had to tell the client he could not approve the property under the new guidelines. As a result, Tomaselli’s client was “stuck” with this loan, and would have to sell it “scratched and dented” onto the second market because no one will want to buy the loan to an unwarranted building.
“That is the risk that lenders are going to be taking, in closing loans within buildings that aren’t compliant or haven’t been reviewed,” Tomaselli said. “And that’s what lenders are most worried about.”
Tomaselli continued, saying from a financial perspective, if lenders do not do their due diligence, and act without getting guideline questions answered or figuring out if the building is compliant, they run a tremendous financial risk in closing loans they might not be able to sell. This, he said, could affect balance sheets, and even could be a “bank killer.”
The new guidelines also have affected the time it takes to close a loan, causing the closing costs to rise as well. Tomaselli said his company, who provides condo documents and reviews them to ensure compliance with the new guidelines, has seen an increased turnaround time to process condo loans.
One of the major time factors is because the guidelines are so new, the HOAs who are being asked to answer these questions are struggling to do so. Many HOA and co-op board members are owners in the building, not financial or real estate professionals, and the position is often unpaid. As a result, HOA members hesitate to answer appropriately because of the additional risk and liability they may take on by entering them correctly. This leads to them referring to the condo or co-op’s counsel, which also adds time to the process.
Tomaselli said when it came to Fannie Mae and Freddie Mac’s guidelines, Fannie Mae’s are less flexible, particularly when it comes to the use of a reserve study.
“Fannie Mae said, regardless of if you have a reserve study, we still want to see a 10 percent line for reserving your operating budget, where Freddie Mac differs, saying the lender can essentially make a decision on whether or not the appropriate reserve is being funded based upon review of a reserve study,” he said.
“Fannie Mae also has said that it’s not that they bar the utilization of the reserve study, but if you are a condominium association, the only way to get an acceptable reserve study review is for you to submit the condominium development to Fannie Mae for a global approval, and have them review the reserve study, when in the past, lenders were able to do that.”
Freddie Mac’s more flexible guidelines has been causing a lot of lenders and condo associations to seek out reserve studies to reduce their liability and make answering guideline questions easier. However, that is also forcing these compliant buildings into Freddie Mac Lending, instead of Fannie Mae.
Fannie Mae also has created a new “unavailable status” for condominiums related to these guidelines, requiring lenders to look up a building to see if a particular property is on their unavailable list. If the property is listed, mortgage financing through Fannie Mae is not available. As of Jan. 1, 2022, there over 950 projects on the list.
While the industry knows the basic reasons why a building would be listed, Fannie Mae does not share the reasons a specific site would be on the list, making it a bit of a mystery for lenders. The only way to be removed from the unavailable list is to submit the project to Fannie Mae for global approval of the development.
“The unintended consequence has been that those buildings, by virtue of being on that unavailable list, it’s almost impossible to get any type of lending, regardless of if it’s Fannie Mae or not,” Tomaselli said. “If you’re a condo building on that list, and Fannie Mae essentially won’t buy a loan out of that building, Freddie Mac won’t either. Neither will the FHA, neither will any balance sheet and/or non-warrantable lender. The red flag that gets raised on a building like that is tremendous.
“If you can’t get financing on a building and they’re on the unavailable list, it technically means that the only person that can buy a unit in that building is somebody who wants to buy the unit in cash. And if you’re a purchaser, why would you want to buy a unit in that building?”
Tomaselli also noted the unavailable list is not accessible to the public, meaning the only way to find out if a building is listed is to be a Fannie Mae seller-servicer and have access to their condo project manager system. This leaves about 40 percent of the lending marketplace who do not know their building has been added to that list.
Tomaselli said it would take probably about 18 months for the industry to acclimate to these new guidelines. Looking beyond that 18 months, he said it is likely not the end for guidelines similar to the ones currently in place.
“There’s going to be a reckoning here, and there’s going to be a lot of developments that really have to do this repair work,” he said. “And the ultimate cost is going to be borne by the unit purchaser and the unit owner, somebody who has bought their units in the last three to five years and who has held on to it and might not be able to sell it because it’s on the unavailable list.
“I think that’s where it might get a bit scary. One of the other unintended consequences is that a lot of those buildings are going to see massive foreclosures,” Tomaselli added. “Because just like in 2008, when mortgage financing wasn’t available because of the mortgage crisis – in these buildings when mortgage financing disappears, whoever holds the loans or whoever the mortgagees are in these buildings are really going to get hurt. I don’t see any other way for buildings that have massive structural issues.”
These guidelines, along with the extra turnaround time and the effects of the unavailability list, may also have an effect on the affordability of condos, and thus have an impact on the current affordability crisis as a whole.
“In addition to the fact inflation is rising out of control, repairs to a building that should have been done 10 years ago that would have cost $750,000 now will cost $2.5 million now,” Tomaselli said.
Despite these hurdles, Tomaselli also said the guidelines may ultimately do some good.
“At the end of the day, it’s about protecting human life, protecting the homeowners and marking sure banks are making good decisions about lending in these developments.”