In the wake of the tragic Champlain Towers collapse in Surfside, FL, Fannie Mae and Freddie Mac announced new lender requirements for condominium and co-op mortgages. The requirements, laid out in a multi-page questionnaire, ask for detailed information on buildings’ structural integrity and deferred maintenance, as well as special assessments and reserves.
In a nutshell, lenders must provide proof of a building’s safety if they want Fannie Mae or Freddie Mac to guarantee or purchase their mortgages. It’s one attempt to address a growing concern about the number of residential condo and co-op buildings across the country with aging infrastructure.
There’s no doubt that, to some degree, this kind of action is needed. But even though the move is well-intentioned, the execution is problematic. With confusing language and ambiguous questions, the new requirements could delay, if not prevent, a lot of loans.
To better understand the potential impacts, we turned to Attorney Damon Kress of McGovern Legal Services, a firm that specializes in representing community associations, condos and co-ops, for a helpful perspective.
But first, a quick primer on the new requirements.
Overview of the new requirements
In October 2021, Fannie Mae issued Lender Letter LL-2021-14 regarding “Temporary Requirements for Condo and Co-Op Projects.” Two months later, Freddie Mac issued Bulletin 2021-38 with similar language. Both then released the joint updated Condominium Project Questionnaire with an addendum (Form 476A) to gather the information needed under the new requirements.
Meant to be filled out by community associations or property managers, the new questionnaire delves into issues of deferred maintenance or unsafe conditions and requires lenders to consider the purpose and impact of any special assessments within a given project. It also provides a minimum reserve budget for community associations.
While the new requirements are labeled “temporary,” no end date has been announced. They apply to all condominiums and cooperatives with five or more attached units. The requirements went into effect for loans purchased on or after January 1, 2022, for Fannie Mae and on or after February 28 for Freddie Mac.
What happens if an association refuses to fill out the form, or if the answers aren’t satisfactory? According to guidelines from the Community Associations Institute, Fannie Mae and Freddie Mac won’t back loans for condos or co-ops if the lender is unable to confirm the safety and habitability of the building. In addition, the building will be added to a private database for lenders, called Condo Project Manager, which tracks buildings that are ineligible for mortgage backing by the mortgage giants.
So, if you can’t provide adequate proof of safety or your community association is uncooperative, your building could potentially be blacklisted for loans. At the same time, inaccurate answers — intentional or unintentional — could open an association to liability.
Cue the lawyers.
What could possibly go wrong?
Here’s where we leaned on Damon for his perspective on possible impacts in the lending market. Keep in mind that, at this point, we’re all just speculating. As Damon notes, it may take a couple of years to understand the full impact of this change. But one thing is certain: this issue is going to heat up over the next few months.
Here’s a look at the potential challenges and pitfalls.
It’s all in the interpretation
One problem with the questionnaire is that it uses certain industry-specific terms in an incorrect or confusing way. Which means the results depend on how an individual interprets the questions.
For instance, question #6 asks “Does the project have a funding plan for its deferred maintenance components/items to be repaired or replaced?” In the community association world, “deferred maintenance” refers to maintenance that gets performed about every 2-5 years. This could include power washing the exterior or staining the decks, activities that have no impact on the safety of the building.
However, in the questionnaire guidelines, the term “deferred maintenance” is defined as the postponement of normal maintenance, which cannot be resolved by normal operations and may cause physical or financial harm to a property. In other words, it’s something you should be doing that you’re not — which is a completely different definition of the term.
So, a property manager or board member might read this question and answer “yes,” because they have a plan to stain the decks every five years. But that’s not the “deferred maintenance” the questionnaire is referring to. So the answer to that question might actually be “no”…even though you have a deferred maintenance budget and schedule.
Depending on how Fannie Mae or Freddie Mac interpret the response, your building could end up in that nebulous lender database (i.e., getting blacklisted) — even when your association is doing deferred maintenance in a proper and timely manner.
Standards are still coming
Damon estimates that this change is about five years too early. Because right now, post-Surfside, states all over the country are creating new inspection and due diligence requirements, establishing the standards we don’t have yet.
The first question on the new form is, “When was the last building inspection by a licensed architect, licensed engineer, or any other building inspector?” Realistically, these buildings are only inspected when the community is first sold from the builder to the individuals (a process called “transition”).
Fannie Mae and Freddie Mac want you to attach a copy of the report, with board meeting minutes to document the findings and an action plan. But, depending on how old the project is, those documents could have disappeared into the annals of history.
So, if your response to that question is “unknown” or “unavailable,” will your community automatically get blacklisted? It’s possible. Moreover, what exactly is the inspection you’re supposed to have, when there’s currently no standard? At the moment, it’s not clear what kinds of building inspections will satisfy the mortgage giants.
FOL: fear of lawyers liability
When it comes to filling out a form like this, condo and co-op owners are essentially at the mercy of their community association. And, historically, most associations would cooperate with lender forms. But Damon says this particular addendum may cause some associations to push back, likely because they’re not comfortable attesting to the new requirements. After all, with so many lawyers in the world, it’s hard to vouch for something knowing you could be sued down the road.
Damon also noted that the new requirements are imposed on mortgage lenders, not directly on community associations. Which means associations generally have no obligation to confirm to lenders that they have no significant deferred maintenance, no unsafe conditions, and no planned special assessments. Given the risk of liability, it may be easier to just refuse. But, according to the guidelines, if an association refuses to fill out the addendum due to potential exposure, the building will land on the blacklist.
Still, associations have to weigh the risk of liability against potential backlash from sellers whose buyers can’t secure funding because the association declined to fill out the form. Which brings us to our last issue…
Shake-ups in the market
If an association doesn’t want to fill out the questionnaire, and because of that, the lender is not able to satisfactorily determine the safety of the building, then the buyer can’t get a loan through a Fannie Mae or Freddie Mac backed mortgage — which represents nearly 70% of the mortgage market.
One of two things may happen: the buyer goes into the secondary mortgage market and potentially pays a higher interest rate, or they lose access to affordable loans and forgo the purchase. So, it’s likely the condo/co-op market will see some combination of loan delays, increased loan costs, and lost transactions.
Damon pointed out another possible ramification: theoretically, homeowners who can’t sell their homes will complain to the board, who will either oust uncooperative board members or fire management until they find someone who’s willing to sign the form. So it’s not just the lending market that will be impacted; we may see shake-ups within community associations, too.
Short vs. long term outlooks
Short term, says Damon, you’re going to see some disruption to the availability of mortgages for community associations until both sides (lenders and Fannie Mae/Freddie Mac) get a better handle on how to respond. There will be confusion. Possibly some chaos.
But, he’s also an optimist, maintaining that the new requirements will cause more delays than actual losses of loans. Ultimately, Damon says, for natural business reasons, these transactions will end up working out. After all, if banks aren’t writing loans, people aren’t making money. So we can expect pushback from lenders if these restrictions are enforced too strictly.
Long term, the new requirements are probably going to drive more responsible community associations that actually perform a lot of the maintenance they’re not currently doing. On the flipside, this may cause some downward pressure on property values as assessments are increased to address maintenance needs that have been neglected for too long. But, to us, personal safety over property values seems like a fair trade.
What can you do now?
If you’re a buyer, now would be a good time to talk to your realtor and/or attorney to make sure the answers are what you’d want to hear. And if you’re soon to be a seller, it’s a good time to chat with your management company or board to learn how they plan to respond. A key element will be evaluating the association’s attention to maintenance and reserve needs. Alternatively, if you’re an attorney representing condominium associations, this may be a good opportunity to talk about preparing for the new process.
Conducting a cash sale of a condo or co-op? Even if that’s the case, if the purchaser intends to resell the unit, they should ensure it meets the guidelines so any potential future buyer doesn’t run the risk of getting turned down for a loan.
A final thought from Damon: This change is probably going to cause more chaos until it gets us to an answer, which isn’t always a bad thing. Instead of waiting for the perfect answer, sometimes you have to take a leap and figure things out afterwards, which seems like what the government is doing here. To prevent further tragedies, they’re bringing this issue to the top of people’s minds. And, eventually, we’ll figure out how to make the solution work as intended.
If you’d like to discuss this new development further, we’re happy to provide input. Contact us today.
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