Seasoning and FHA's Time Restrictions on Resales - a Legal Analysis

In the post-subprime mortgage world, it has become increasingly difficult for prospective purchasers to obtain a mortgage. Not only is credit worthiness a mandatory prerequisite but there are certain underwriting requirements that can render a property ineligible for financing. Once such underwriting hurdle is known as Seasoning and I am not talking about what you might shake onto your dinner to make it palatable. Seasoning is a real estate industry term and it basically refers to the length of time title to a specific property is held by an entity.  However, these seasoning underwriting requirements are often misunderstood and inappropriately applied, thereby causing viable transactions to be turned down or to not even make it to Contract.  I am going to provide a correct analysis as to what the guidelines are and how they are to be applied in the FHA arena (note many Conventional lenders have also instituted seasoning requirements but often look to FHA and mirror their guidelines).

HISTORY
To understand seasoning, it is essential to examine the events that caused FHA to create this underwriting requirement.

Real estate speculators would often locate distressed real estate, purchase the property at a substantial discount, make repairs and improvements and quickly resell the improved property at a substantial profit. There is nothing inherently wrong or illegal about this model of flipping real estate and often, it led to revitalization of run-down neighborhoods and increased neighboring property values. Some speculators would execute a Contract to purchase a distressed property and turn around and assign the right to purchase the Contract to another buyer for a price and at closing, would receive their profit without any investment at all. Again, nothing inherently wrong with the Assignment or Contract Vendee flip model either.

The problem was in a number of these transactions, the speculator would collaborate with the appraiser, the loan officer and sometimes the end buyer to artificially inflate the value of the home or to falsify the borrower's documentation so that they would qualify for a mortgage.  These types of fraud transactions had a high rate of mortgage defaults because it was either never the intent of the buyer to pay the mortgage or the buyer was tricked into taking out a loan he could not afford. The Lender would foreclose and find that the value of the real property was woefully inadequate.

Therefore, to curb the fraudulent activity that often went hand in hand with flip transactions, FHA instituted a title seasoning underwriting requirement for those seeking FHA financing.

ANALYSIS
FHA's title seasoning underwriting guidelines are codified in 24 CFR 203.37a and further clarified in its Mortgagee Letter 2006-14.

FHA begins it's discussion of the Property Flipping Prohibition by defining property flipping as "

practice whereby property is resold a short period of time after it is purchased by the Seller for a considerable profit with an artificially inflated value, often abetted by a lender's collusion with an appraiser". This practice is addressed by FHA with a two-prong rule: (1) only Owners of Record may sell the property and (2) prohibits resales of property 90 days or less from the last sale. (Note, there is a rule for resales that occur between 91 and 180 days as well as up to 12 months but I am not going to discuss that here).

OWNERS OF RECORD  This requirement speaks directly to the assignment/contract vendee flip transaction and therefore, the Seller on the original Contract of Sale must hold title to the property.  There can be no intervening deed or assignment of Contract etc. Further, FHA sets forth certain types of documentation that would be acceptable proof of Ownership but also specifically indicates that it is not an exhaustive list: (1) property sales history report; (2) copy of recorded deed from Seller or other such documentation like a property tax bill and (3) title commitment or binder demonstrating seller's ownership and the date it was acquired.  Any of these items are sufficient to establish that the Seller is the Owner of Record for this test.

PROPERTY RESALES OCCURRING 90 DAYS OR LESS FOLLOWING ACQUISITION The rule is: "If the owner sells a property within 90 days of the date of acquisition, that property is not eligible security for a mortgage insured by FHA unless it falls within one of the exceptions to the time restrictions on resales set forth in Section 203.37a(c) of the Regulations". Those exceptions are as follows:

1) Sales by HUD of Real Estate-Owned (REO) properties under 24 CFR part 291 and of single family assets in revitalization areas pursuant to section 204 of the National Housing Act (12 U.S.C. 1710);
(2) Sales by another agency of the United States Government of REO single family properties pursuant to programs operated by these agencies;
(3) Sales of properties by nonprofit organizations approved to purchase HUD REO single family properties at a discount with resale restrictions;
(4) Sales of properties that were acquired by the sellers by inheritance;
(5) Sales of properties purchased by an employer or relocation agency in connection with the relocation of an employee;
(6) Sales of properties by state- and federally-chartered financial institutions and government-sponsored enterprises (GSEs);
(7) Sales of properties by local and state government agencies; and
(8) Only upon announcement by HUD through issuance of a notice, sales of properties located in areas designated by the President as federal disaster areas. The notice will specify how long the exception will be in effect.

One essential definition often glossed over is the Date of Acquisition.  Most realtors, loan officers and underwriters are under the mistaken impression that the seasoning clock is reset upon every title transfer.  However, FHA specifically defines the Date of Acquisition as "the date of settlement on the seller's purchase of that property" (emphasis added).  Therefore, not every title transfer is to be considered in determining the Date of Acquisition for the purpose of the seasoning test.

WHAT ABOUT A TRANSFER OF REAL PROPERTY FROM A HOME OWNER TO A TRUST?

Does a transfer of title from a Homeowner to a Trustee of an inter-vivos, revocable trust wherein the Homeowner retains 100% of the Beneficial Ownership of that Trust constitute a Resale of Property within the meaning of 24 CFR 203.37a and HUD Mortgagee Letter 2006-14?

 

The transfer of title from a homeowner to a Trustee of an inter-vivos, revocable trust wherein the Homeowner retains 100% of the beneficial ownership of said trust does not constitute a Resale of Property, within the meaning of 24 CFR 203.37a and HUD Mortgagee Letter 2006-14, and therefore, as long as homeowner's initial acquisition meets the test set forth in the Regulation and Mortgagee Letter, the subsequent sale of the real property is eligible for FHA financing, even if the transfer to the trust is 90 days or less from the sale contract date.

 

FHA will not provide financing when the Seller's Date of Acquisition is 90 days or less from the Purchaser's sale contract date.  FHA defines the Date of Acquisition as "the date of settlement on the seller's purchase of that property" (pg 2 Mortgagee Letter). The transfer of title from the Homeowner to a Trustee is not a purchase but a mere change of identity.  The trust and the homeowner share a commonality of ownership and control over the real property. Such transaction is without consideration and exempt from the payment of state and local transfer taxes based upon the "mere change of identity" exception.  Therefore, the Date of Acquisition is the date the Seller originally purchased the real property for consideration.

 

It is unnecessary and improper to look to the codified exceptions to the 90 days or less rule, outlined in 24 CFR 203.37a(c), if the date of the title transfer to the trustee is 90 days or less than the purchaser's sale contract date because such date is not the Date of Acquisition under the Rule and Mortgagee Letter.  If the contemplated transaction has a Date of Acquisition that is 90 days or less than the sale contract date, the Rule provides certain exceptions to the time restrictions on resales.  However, as the date of title transfer to the trust does not constitute the Date of Acquisition, it is unnecessary to look to the exceptions provided in 24 CFR 203.37a(c), except if the date  the Homeowner purchased the property, for consideration, is 90 days or less from the sale contract date.

CONCLUSION

The real estate flip is not illegal in and of itself.  The often accompanying loan and appraisal fraud is what makes this perfectly legitimate transaction fraudulent and the basis for FHA and other lenders to institute title seasoning underwriting requirements.  If done correctly, the flip often revitalizes neighborhoods and increases home values in the surrounding areas.

I hope that this clarifies exactly what is meant by Title Seasoning and how this underwriting requirement should be correctly applied to a contemplated real property transaction.  Remember, not every title transfer triggers that seasoning clock but be mindful of those that do!

 

           

Comments

[Nicholas Bentivoglio]

Hi Kathleen,

Another excellent post from a truly BRILLIANT real estate attorney!! I read this post in conjunction with all the links that you put in there and I undoubtedly have a much better grasp of seasoning and how it relates to the Land Trust. May I forward it to everyone I know??

When are you going to do another webinar????? or lecture???? I want to be there!!!!

I learn more from you every time I deal with you then from any investing mentor!!!!! :)

[Katrina]

What about a transfer from an individual to a LTD? Does that reset the clock?

[Kathleen Scanlon]

Under the above analysis, the date of a no-consideration transfer from a homeowner to an entity, be it a trust, corp, llc etc, where the homeowner owns the entity itself and maintains control and possession of the subject property is not a Date of Acquisition for the purposes of this Seasoning test.

[jimi]

Very informative, thanks!

jimi

[David Safeer]

Kathleen-

Thank you for this post. I just started following you. I run a mortgage company, property management company, and hold single family homes. I also sponsor a real estate investment club.

Question: Have you used land trusts to help investors control properties and then sell them to an FHA buyer in under 90 days using the process you describe?

I found this so compelling that I referenced it in my blog and linked to you.

Thanks again.
www.cleardaycap.blogspot.com

[Bill McKee]

The problem I've run into lately, in ORegon, is that the title company won't insure seller's title until it is taken out of the land trust (unless the trust is a statutory "Business Trust" .. and that is a whole nuther issue...). So even though seasoning may not be an issue, the title companies in Oregon are of the opinion that they will not take the "risk" of insuring property that was transferred to a trustee under a land trust (especially if that transfer was done just months or less before the subject sale). I"ve talked with the legal dept of many of the major title companies and they all give me the same answers. Bill Gatten talked with them, too. No luck. They all drink the same kool-aid!

Anyway, if you ever come across a title company willing to insure title for a transaction in Oregon as you describe above, let me know!

[Kevin]

I need a defintion of what is a, "sellers date of acquisition" when the property is bought at foreclosure auction. Is the, "sellers date of acquisition" the day the property is bought at auction? Or is, "sellers date of acquisition" when the deed is recorded by the county?
Thanks

[Kathleen Scanlon]

Kevin, in response to your question, since recording the document in the County Clerk's office merely provides record notice of the transfer and a Deed is viable the moment it is executed and delivered to purchaser, the "Date of Acquisition" is the date of the actual purchase - the date on the Deed and/or HUD-1 Settlement Statement.

Hope that helps!

Kathleen A. Scanlon, Esq.

[Kevin]

Kathleen,
Thanks!!! That's what I thought, but my real estate agent said the ninety days starts when the deed is recorded. I have a general contractors licence and try to do my best work. I not only improve the house and have it move in ready (which some people are looking for) but influence neighbors to do work in and around there places. I just don't think the ninety day seasoning is fair or good for the economy. There are bad apples in every service type of industry. We shouldn't all be punished for what a few unethical people do.
Thanks again for your help,
Kevin

[Kathleen Scanlon]

Kevin,

Your real estate agent is DEAD WRONG! Look at the language of the HUD Mortgagee Letter.

This is the misinformation passed on by real estate industry members who try to play lawyer. Don't believe the hype!

[Latosha Hunt]

Kathleen,
Just needed a t little clarity. If an investor purchases an REO and renovates it, put purchases it in the name of a land trust, does he still have to wait 90days for the FHA rule?

[Robert P. Sabourin II]

Kathleen

I am a real estate attorney in Michigan specializing in short sale and foreclosure work. It is nice to run into a kindred spirit. We are currently running into the same issues with underwriters here as Bill in Oregon. The title underwriters simply won't take the risk. This all came down late last week so information is crucial right now. I have held the same line of thinking as you based on the regs. for several years. My question now is, what source do I cite when I tell these folks that a transfer to a trust does not constitute a re-sale under 24 CFR 203.37a. They want more than just the word of an attorney, it seems, and I have been through the CFR from front to back and every bulletin I can find only to come up empty handed thus far. Thanks in advance for any help you can give.

[Jason Ochs]

What about seasoning when the property goes from an LLC back to an individual? The borrower has owned the home since 01/03/2007. He then transferred the home into an LLC, of which he is the sole member (100% ownership). On 01/27/2009 we placed the home (filed deed) back into his name for $0 consideration.

I am working with the Philadelphia HOC now, and they are telling me I must wait 12 months for a cash out refinance.

The loan scenario is 85% cash out, debt consolidation, state of Ohio.

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