Sunday, April 20, 2008

Thinking of Buying a Condo? Think again

There was an excellent piece in the Baltimore Sun today that discusses some new mortgage regulations that are going to result in a drastic tightening of lending standards in the condo market.

Condominiums tend to get hit the hardest when a housing bubble bursts. They tend to lose more value and start falling in price earlier then houses. IMO because they get hit first, you can use the condo market as a great early indicator as to what will eventually happen in housing as a whole later in the cycle.

I wanted to share a few pieces from the Sun on how the standards are changing:

"If you own or plan to buy a condominium, an ominous new phase of the mortgage credit squeeze could be looming on your horizon.

Fannie Mae, a dominant financing source for condominium projects, has rolled out new procedures that some lenders and mortgage brokers say could tighten up the availability of loans to condo purchasers in the coming months. Freddie Mac has issued similar new guidelines.

Under Fannie Mae's changes, most of the due-diligence research on condominium projects' key characteristics -- their legal documentation, the adequacy of condo association operating budgets, percentage of unit owners who are late on association-fee payments, percentage of space allocated to commercial use, and percentage of units owned by investors -- must now be performed up front by loan officers.

Not only is this time-consuming and costly, but under the new procedures, Fannie Mae expects the lender to warrant the accuracy of its research. Some condo-project legal documents run into hundreds of pages, yet lenders are supposed to take legal and financial responsibility for their accuracy.

"It's ridiculous," said Phil Sutcliffe, principal of Project Support Services of Lansdale, Pa., who helps put together condominium project financing for developers. Not only does this shift huge paperwork and time burdens onto lenders and brokers, but it also forces them to make "absolute judgments on things that are not absolute."

For instance, said Sutcliffe, the new Fannie guidance requires loan officers to make certain that at least 10 percent of a condominium project's operating budget is reserved for "capital expenditures and deferred maintenance."

Sutcliffe, who has analyzed condo project budgets for two decades, says there are no wiggle-room provisions in the guidance for "compensating factors," such as when part of the line-item reserves are for important but nonphysical expenditures like insurance."

My Take:

The lenders are going to run away from condo lending as fast as they can. First of all, who wants to do a loan where you have to do hours of research and also forces you to make absolute judgements on things that are not absolute?

Very few lenders are going to want to stick their neck out and lend when they are forced to make calls on the financial viability of a condo project when prices are in an absolute free fall.

If they do lend the money expect its going to be at ridiculous interest rates and require large amounts of money down.

Here are the reactions of two mortgage presidents to the news from the Sun:

"Jeff Lipes, president of Connecticut-based Family Choice Mortgage Corp., said the Fannie Mae changes, combined with other retrenchments battering the condo market, mean that when potential applicants inquire about getting a loan on a condo unit, "we really can't give them a definite answer" because it takes research to determine whether their building qualifies.

"Even if you had an 800 FICO score and 50 percent equity," said Lipes, "you still might not be able to get a condo loan." It depends on whether the underlying project can pass the underwriting tests, is in a declining market, and has a lender "concentration" limit on it. Some lenders refuse to finance more than a set percentage of units in a single condo project to limit their risk.

Bruce A. Calabrese, president of Equitable Mortgage Corp. in Columbus, Ohio, said "Everybody is really backing off condos" because of all the restrictions and changes. He said he owns two condo units -- one in Florida, another in Myrtle Beach, S.C. -- and even though he is in the mortgage industry, "I don't think I could refinance either of them right now if I tried."

Bottom line:

This is going to put the condo market into a free fall IMO. You might not even be able to get a condo loan going forward. If you have a condo for sale thats not moving I would advise you to be realistic with your pricing and get out now before all of this starts to get implemented. Lending availability for condominiums is going to virtually disappear due to these changes.

Expect the reaction to this news to be even more violent if you live in a bubble area because these loans going forward are going to be an even riskier bet for the lender.

Stay away from condos!!!


Minton Mckarkquey said...

"The lenders are going to run away from condo lending as fast as they can."

Excellent post - I think the quote above says it all. This is one of the many changes happening so quickly that Joe Public hasn't noticed yet, and things are going to get *very* ugly.

Even though I've had a bearish outlook for at least six months, the speed and severity of this downtown has exceeded even my expectations.

Just as an aside, I find it interesting that retailers such as Ann Taylor and Zales are closing stores everywhere on 0.5% like-for-like sales declines. This would imply their growth has been built on debt-accumulation not so different from the second/third-home mortgage problem we've seen. When sales slide 10%, the fan's going to get so hard, it'll stop spinning.

This is by far one of my favorite blogs, btw.

Jeff said...


Thanks a lot for the feedback. I am glad you are liking the blog.

I am also shocked at the speed of this downturn. Wasn't aware of the Anne Taylor info. Good stuff. Thats not a good sign at all.

It seems like companies are buckling from the pressures of the debt bubble.

This is like watching a slow trainwreck isn't it?

Avl said...

Jeff, I shared the latest "silent" bombshell from Fannie/Freddie with 20 folks. As a former condo owner and chair of the association's finance committee, I had warned newbie buyers to invest more due diligence on the health of the association's finances, etc, so I actually think these are prudent reserves & downpmt benchmarks by Fannie.
HOWEVER, the 30% investor quota is gonna kill folks in '08 & beyond...flipping condos into rentals is the last lifesaver for recently opened condo properties in declining markets that haven’t sold/ can't closed....and also for all the non-luxury condo towers coming on market in dense urban areas in 08 & 09.
My conjecture is that the Feds concluded last week to give the "Bear Stearns treatment" to the national condo market; sacrificing many current condo owners, along with all the "moral hazard-prone" developers and commercial lenders behind the massive numbers of condo product still (shamelessly?) under-construction. Were condos the sacrificial lambs in reducing supply to better match tepid housing demand? Fannie’s move is the regulatory equivalent of bulldozing the condo stock off the market (for now). I guess this condo treatment is to be a “message” to the rest of us.

Jeff said...


Very well said. Its already hitting according to brokers. I have started to read some warnings to owners in condo newsletters.

I have heard that some people are already started getting turned down based on the new lending standards.

If you have too many renters in a condo property look out. The HOA better be strong.

And yet the financials were up again on Friday.