For reasons which are hard to understand, real estate flipping is often equated with illegal real estate flipping. This confusion hides the very important fact that real estate flipping — the quick purchase and sale of property — is common, lawful and now encouraged by the FHA.
We know this because in the past year the FHA insured more than 21,000 mortgages for properties that were resold within 90 days.
Illegal flipping is a perverse process which typically involves a real estate broker, appraiser, lender and settlement provider. Herds of illegal flippers roam the marketplace looking for cheap properties that can be quickly re-sold, often engaging in dozens of transactions over a short period.
While quickie re-sales are typically fair and lawful transactions, with illegal flipping there are fraudulent appraisals to support faked higher values, bogus loan applications and phony settlements. The property is sold at an inflated price to an unqualified borrower who is then saddled with huge monthly mortgage payments. The inevitable result is a very large number of foreclosures and those foreclosures push down neighborhood home values.
To limit illegal flipping — and to avoid massive payment claims from lenders — HUD moved in 2003 to change FHA guidelines. From this point forward, said HUD, you can't get an FHA loan for any property that has been sold within the past 90 days.
Why 90 days? After 90 days with no deals it was thought that most illegal flippers would be slowed down or out of business.
The problem with the 2003 rule is that it not only impacted illegal flippers, it also hit lawful investors. By 2010 the rule had been loosened several times to create exceptions for such things as quickie sales for inherited properties and foreclosed homes sold by lenders. Increasingly, however, the rule itself was seen as a marketplace barrier at a time of slowing home values and falling property values.
In early 2010 HUD temporarily waived the anti-flipping rule, a waiver which has now been continued until December 31, 2011.
No less important, HUD has issued a friendly invitation for investors to enter the marketplace with the promise of FHA financing for qualified buyers.
“As a result of the high foreclosures that have been taking place across the nation," said HUD, the FHA “encourages investors that specialize in acquiring and renovating properties to renovate foreclosed and abandoned homes with the objective of increasing the availability of affordable homes for first-time and other purchasers and helping to stabilize real estate prices as well as neighborhoods and communities where foreclosure activity has been high. While the waiver is available for the purpose of stimulating rehabilitation of foreclosed and abandoned homes, the waiver is applicable to all single family properties being resold within the 90- day period after prior acquisition, and was not limited to foreclosed properties.”
FHA loans are only available for the purchase of owner-occupied properties with one to four units, thus you can't turn to the FHA to acquire a property to flip. Where the HUD waiver comes into play is at the end of the transaction –you can buy and fix up a property, sell it within 90 days, and now your buyer can get FHA financing with as little as 3.5 percent down. In effect, the pool of potential buyers for flipped properties is very much larger than in the past.
“Because of past restrictions,” says FHA Commissioner David H. Stevens, “FHA borrowers have often been shut out from buying affordable properties. This action enables our borrowers, especially first-time buyers, to take advantage of this opportunity and buy a home that has recently been rehabilitated. It will also help to move more foreclosed properties off the market and reduce the number of vacant homes in neighborhoods throughout this country.”
“Waiving HUD's anti-flipping rule is good news on several fronts,” says Jim Saccacio, Chairman and CEO at RealtyTrac. “First, affordable financing with little down is now available for a wider range of properties. Second, the HUD waiver will help reduce the inventory of foreclosed properties and that's a necessary step before home prices can rise. Third, the important role played by real estate investors is being recognized.
“HUD's positive experience waiving the anti-flipping rule should open the door to a wider discussion,” added Saccacio. “Imagine how many homes could be sold if FHA financing was available to investors, say with 10 percent down. That could be a huge boost for a housing marketplace which remains weak and wobbly in many areas.”
Investors and foreclosures are at the heart of the marketplace. Figures from the National Association of Realtors show that in December 24 percent of all purchases involved foreclosed properties, 12 percent were short sales and that investors represented 20 percent of all buyers. RealtyTrac shows that 25 percent of all residential sales in the third quarter were foreclosure sales — properties in some stage of foreclosure or bank-owned.
Foreclosures and short sales are attractive in large measure because they're available at discount. RealtyTrac reports that the typical foreclosure was priced 32 percent below comparable properties in the third quarter of 2010.
Protect Your Interests
Prejudices regarding real estate flipping remain widely in place, reason enough to take additional precautions when flipping.
First, make a photographic or video record of the property at the time of acquisition. You want such a record for insurance purposes.
Second, keep all invoices, payment checks and contractor bids. Such documents can be used when preparing taxes.
Third, once the property has been fixed-up, again make a photographic or video record of the property to show improvements. The before-and-after photos can plainly establish that a value increase is real and can be valued with a legitimate appraisal.
Fourth, lenders may “layer” FHA guidelines by sticking to excessive standards that HUD does not actually require, a practice which is now under review by the government. One example of such layering could be a continuation of the 90-day rule for FHA loans even though it's no longer required.
Fifth, check with lenders to see if the HUD waiver will continue into 2012. This can be important if you have a project which may not sell and settle until after the New Year.
Peter G. Miller is syndicated in more than 100 newspapers and operates the consumer real estate site, OurBroker.com.