Chris Thomas

Effective January 1, 2010, mortgage brokers and mortgage bankers will no longer be allowed to order appraisals directly from an appraiser for FHA loans. FHA is not adopting the Home Valuation Code of Conduct (HVCC), but they are adopting many of the guidelines spelled out in the HVCC.

At the moment, only conventional loans need to be ordered through an appraisal management company. Although HUD makes it clear that they are not requiring the use of appraisal management companies, that is the best way to ensure that the lenders are in compliance with the new FHA rules, so most lenders will probably insist on using appraisal management companies.

This new rule will have the same effect as the HVCC - longer appraisal turn times, uncertainty regarding values, and higher costs for the buyers. However, the lending industry seems incapable of policing itself, so this is what we get. There will be the usual outcry from the National Association of Realtors, the National Association of Homebuilders, and the various lending trade associations, but change is here to stay. Until the average American family can afford to buy a house with a full doc, 30-year fixed rate mortgage (and we are not even close to that point yet), the government has made it abundantly clear that underwriting guidelines are going to continue to get tougher.

This is something that will have incredibly far-reaching effects in the real estate industry.

Fannie Mae just announced that they are LOWERING the maximum debt-to-income ratio for all loans underwritten by their automated underwriting system to 45%, and to 50% for loan files that have strong compensating factors (very high credit scores, large cash reserves, etc.). Currently, there is no limit to the maximum debt-to-income ratio when the automated underwriting system is used. We routinely see loans get approved with ratios in the 60% range.

Fannie Mae is also adopting a new standard for credit scores for loans run through the automated underwriting system. Anything less than 620 will now be denied. The old minimum was 580 if the borrower had compensating factors (big down payment, low debt-to-income ratio, etc.). For loans that are not run through the automated system, the minimum credit score is 660.

There is a good argument for these new guidelines because many of the loans that are being approved recently are going into foreclosure (just because a house is cheap does not mean the buyer can afford it).

It is more important than ever to make sure your mortgage broker is using the automated underwriting system, that they know how to help someone raise their credit score (paying off old collection accounts and closing active accounts will lower a score, by the way), and that they know how to structure a loan correctly. Conventional loans that were approved in the past will not get approved going forward, and you need to make sure your deal has the best possible chance of getting approved.

We get a lot of questions about loan fraud - how does anyone know if something's fraudulent, who checks to see if there's fraud, etc. Loan fraud is detected by reviewing the loan application (and all supporting documentation), sales contract, title commitment, closing docs, and anything else related to the transaction. The people who are responsible for detecting loan fraud are the underwriter, mortgage broker, loan processor, quality control staff - basically anyone involved with the loan.

Following is a list of red flags from Fannie Mae's "Common Red Flags" document.

Fannie Mae makes it clear that the presence of one or more of the following red flags does not necessarily indicate that the transaction is fraudulent, but the more red flags that exist, the higher the chance that there is fraudulent activity.

High-level Red Flags

• Social Security number discrepancies within the loan file
• Address discrepancies within the loan file
• Verifications addressed to a specific party's attention
• Verifications completed on the same day they were ordered
• Verifications completed on weekend or holiday
• Documentation includes deletions, correction fluid, or other alteration
• Numbers on the documentation appear to be "squeezed" due to alteration
• Different handwriting or type styles within a document
• Excessive number of AUS submissions

Mortgage Application

• Significant or contradictory changes from handwritten to typed application
• Unsigned or undated application
• Employer's address shown only as a post office box
• Loan purpose is cash-out refinance on a recently acquired property
• Buyer currently resides in subject property
• Same telephone number for applicant and employer
• Extreme payment shock may signal straw buyer and/or inflated income
• Purchaser of investment property doesn't own residence

Sales Contract

• Non arms-length transaction: seller is real estate broker, relative, employer, etc.
• Seller is not currently reflected on title
• Purchaser is not the applicant
• Purchaser(s) deleted from/added to sales contract
• No real estate agent is involved
• Power of Attorney is used
• Second mortgage is indicated, but not disclosed on the application
• Earnest money deposit equals the entire down payment, or is an odd amount
• Multiple deposit checks have inconsistent dates, i.e., #303 dated 10/1, #299 dated 11/1
• Name and/or address on earnest money deposit check differ from buyer
• Real estate commission is excessive
• Contract dated after credit documents
• Contract is "boiler plate" with limited fill-in-the-blank terms, not reflective of a true negotiation

Credit Report

• No credit history or "thin" credit files
• Invalid Social Security number or variance from that on other documents
• Duplicate Social Security number or additional user of Social Security number
• Recently issued Social Security number
• Liabilities shown on credit report that are not on mortgage application
• Length of established credit is not consistent with applicant's age
• Credit patterns are inconsistent with income & lifestyle
• All tradelines opened at the same time
• Authorized user accounts have superior payment histories
• Significant differences between original and new or supplemental credit reports
• Also Known As (AKA) or Doing Business As (DBA) indicated
• Numerous recent inquiries
• Missing pages and/or supplements
• Employment discrepancies
• Social Security alerts

Employment and Income Documentation

• Applicant's job title is generic, e.g., "manager," "Vice President"
• Employer's address is a post office box, the property address, or applicant's current residence
• Applicant's residence is (will be) in location remote from employer
• Employer name is similar to a party to the transaction, e.g., utilizes applicant's initials
• Employer unable to be contacted
• Year-to-date or past-year earnings are even dollar amounts
• Withholding not calculated correctly (check FICA tables)
• Withholding totals don't foot from pay advice to pay advice
• Pay period dates overlap and/or don't correspond with other documentation
• Abnormalities in paycheck numbering
• Handwritten VOE, pay stubs, or W-2 forms
• W-2 form presented is not the employee's copy
• Employer's identification number has a format other than 12-3456789
• Income appears to be out of line with type of employment
• Self-employed applicant does not make estimated tax payments
• Real estate taxes or mortgage interest claimed, but no ownership of real property disclosed
• Tax returns not signed or dated
• High income applicant without paid preparer
• Paid preparer signs taxpayer's copy of tax returns
• Interest and dividend income don't substantiate assets
• Applicant reports substantial income but has no cash in bank
• Large increase in housing expense
• Reasonableness test: income appears to be out of line with type of employment, applicant age, education and/or lifestyle

Asset Documentation

• Down payment source is other than deposits (gift, sale of personal property)
• Applicant's salary doesn't support savings on deposit
• Applicant doesn't utilize traditional banking institutions
• Pattern of loyalty to financial institutions other than the subject lender
• Balances are greater than the FDIC, SIPC insured limits
• High asset applicant's investments are not diversified
• Excessive balance maintained in checking account
• Dates of bank statements are unusual or out of sequence
• Recently deposited funds without a plausible paper-trail or explanation
• Bank account ownership includes unknown parties
• Balances verified as even dollar amounts
• Two-month average balance is equal to present balance
• Source of earnest money is not apparent
• Earnest money isn't reflected in account withdrawals
• Earnest money is from a bank or account with no relationship to the applicant
• Bank statements do not reflect deposits consistent with income
• Reasonableness Test: Assets appear to be out of line with type of employment, applicant age, education and/or lifestyle

Appraisal

• Appraisal ordered by a party to the transaction
• Occupant shown to be tenant or unknown
• Owner is someone other than seller shown on sales contract
• Appraisal indicates transaction is a refinance, but other documentation relects a purchase
• Purchase price is substantially higher than predominant market value
• Purchase price is substantially lower than predominant market value
• Subject property obsolescence is minimized
• Large positive adjustments made to comparable properties
• Comparables' sales prices don't bracket the subject's value
• Comparable sales are not similar in style, size and amenity
• Dated sales used as comparable sales
• New construction / Condo conversion: All comparable sales located in subject development
• Comparable properties are a significant distance from the subject, or located across neighborhood boundaries (main arteries, waterways, etc.)
• Map scale distorts distance of comparable properties
• "For Rent" sign appears in photographs
• Photos appear to be taken from an awkward or unusual standpoint
• Address reflected in photos does not match property address
• Weather conditions in photos inconsistent with average marketing time, date of appraisal
• Appraisal dated before sales contract
• Significant appreciation in short period of time
• Prior sales are listed for subject and/or comparables without adequate explanation

Title

• Prepared for and/or mailed to a party other than the lender
• Evidence of financial strain may indicate a compromised sale transaction (flip, foreclosure rescue, straw buyer refinance, etc.), or might suggest undisclosed credit problems in the case of a refinance
• Income tax, judgments or similar liens recorded
• Delinquent property taxes
• Notice of default or modification agreement recorded
• Seller not on title
• Seller owned property for short time
• Buyer has pre-existing financial interest in the property
• Date and amount of existing encumbrances don't make sense
• Chain of title includes an interested party such as Realtor or appraiser

• Buyer and seller have similar names (property flips often utilize family members as straw buyers)

Owner Occupancy

Purchase Transactions:

• Real estate listed on application, yet applicant is a renter
• Applicant intends to lease current residence
• Significant or unrealistic commute distance
• Applicant is downgrading from a larger or more expensive house
• Sales contract is subject to an existing lease
• Occupancy affidavits reflect applicant does not intend to occupy
• New homeowner's insurance is a rental policy (declarations page)

Refinance Transactions:

• Rental property listed on application is more expensive than subject property
• Different mailing address on applicant's bank statements, pay advices, etc.
• Different address reported on credit report
• Significant or unrealistic commute distance
• Appraisal reflects vacant or tenant occupancy
• Occupancy affidavits reflect applicant does not intend to occupy
• Homeowner's insurance is a rental policy (declarations page)
• Reverse directory does not disclose subject property address

Foreclosure Rescue Red Flags

• The borrower was advised by a foreclosure assistance consultant that they should avoid contact with their servicer
• The borrower has paid someone to negotiate with the servicer on their behalf
• The borrower states that they are sending their mortgage payments to a third party
• Borrower receives a purchase offer that is greater than the asking price
• Borrower states that they will be renting back from new owner
• Cash-back at closing to the delinquent borrower, or disbursements that have not been expressly approved by the servicer
• The borrower has quit claimed title to a third party at the advice of a foreclosure assistance consultant

Short Sale Fraud Red Flags

• Sudden default, no workout discussions, and immediate offer at short sale price
• Ambiguous or conflicting reasons for default
• Short sale offer is from a related party

We're often asked what the process is for getting the HUD-1 Settlement Statement prepared. Here you go:

• The underwriter issues the final approval for the loan, often referred to as the "clear-to-close".
• The mortgage broker lists the lender fees on the doc prep order form and sends it to the doc prep company (if he is acting as a mortgage banker) or the doc prep department at the lender (if he is acting as a mortgage broker).
• The doc prep company prepares the figures and sends the order to the title company.
• The title company adds their fees, prepares the settlement statement, and sends it to doc prep and the mortgage broker for review.
• Any necessary changes are made (the most common error is incorrect payees for the line item fees) and doc prep and the mortgage broker send the change requests to title.
• Any mistakes are corrected and the updated settlement statement is sent to doc prep and the mortgage broker for final approval.
• After receiving the final approval from doc prep and the broker, title prepares the final settlement statement and sends it to everyone.

This can all usually be accomplished very comfortably within two days. Although the actual length of time that any one person is working on the settlement statement is relatively short, it's important to remember that the broker, the doc prep company, and title all have other deals in their pipelines. A good mortgage broker will make sure that any final settlement statements move to the top of his priority list, but for doc prep and title, one settlement statement is the same as any other. Rushes are possible, but typically they are totally unnecessary. The real important part of this process is to make sure that the borrower has plenty of time to review the settlement statement with the mortgage broker, so that when everyone gets to the closing, there are no financing questions.

If a couple wants to buy a new primary residence and keep their current house as a rental, but are worried about qualifying based on the payments for both houses, here's a way to do things that sometimes makes it easier.

If only one spouse owns the couple's current house, and the other spouse can qualify on their own for the new house, then FHA will allow it, as long as the new house is more expensive or larger than their current primary residence. Here's an example: A husband and wife live in a house that only the husband owns (only the husband is on the title and the note). The couple wants to buy a new primary residence. If the wife can qualify for the new loan by herself, then the husband's debt does not have to be counted. Neither the husband's housing payments nor his other debt needs to be considered.

This won't work for everyone because only one person can own the current house, and only that person can be on the note for the current house. Remember that quit claiming someone off a deed does not release them from the responsibility of paying the note. The only way to get off a note is to sell or refinance.

Despite that limitation, though, there are plenty of couples who fall within the parameters of this type of deal. We have closed four of these loans in the past few months.