VA/FHA – Scarlet letters

vaThere was a time not so long ago when Southern California real estate agents could be seen doing the happy dance. Somewhere around the year 2000, as prices started shooting north, VA and FHA loans were starting to look like a thing of the past. That is because the lower government loan limits were no match for our San Diego housing prices. Agents everywhere rejoiced.

Fast forward to today and higher limits for both VA and FHA loans have brought these little devils back into the equation in a big way. The appeal, of course, is the lower down-payment requirement – significantly lower in our current lending environment than those of conventional loans.

First, understand that it is not that real estate agents are inherently un-American. It is just that VA and FHA financing involves a higher degree of difficulty. Historically, processing times were longer, the contract was more complicated, and these loans were a tougher sell to the seller of the home.

In an environment of conservative lenders and more stringent underwriting guidelines, an environment where low- or no-down loans have gone the way of the air popper, these loans provide opportunity for cash-strapped buyers. Qualifying veterans can purchase through VA with no money down, and FHA-qualified properties are available with a 3.5% down payment.  And with the no-down VA limits in San Diego County now at $593,750 and FHA limits at $697,500 for a one-family property, many more opportunities exist to take advantage of these financing options.

That’s the good news. The bad news is that sellers still avoid these types of loans like my children avoid meatloaf night at Chez Berg.

Some of sellers’ lingering distaste for VA/FHA financing is understandable. In each case, there are certain transactional costs which the seller is required to pay which he ordinarily wouldn’t be with conventional financing. For instance, if a buyer is obtaining a VA loan, the seller must pay both his and the buyer’s escrow fee. The inclination, then, would be to bump the price offered on the home to make the seller “whole,” but not so fast. The house must still appraise at the sale price, and government appraisers are notoriously more conservative with their opinions of value.

Then there is the appraisal itself. The typical appraiser will visit the property, take notes and pictures, measure spaces, and then set about clinically assessing value based on recent like-kind sales. The VA/FHA appraiser, however, is like a mini-property inspector. They still provide an opinion of value, but they also are charged with identifying “health and safety” issues, and these become mandatory fix-its (to be paid for by the seller) as a condition of loan approval rather than items negotiated through the normal course of the buyer due-diligence phase. Everything from a faulty GFCI outlet to lifted concrete at the back patio which could be a trip hazard are fair game. If the property is a distress sale, as so many are today, this means that the inoperable furnace will need to be replaced; an as-is sale is not an option.

What this all means is that VA/FHA loans, while an attractive financing alternative for the buyer, are still considered second-class citizens by the seller. Most banks as sellers of foreclosed properties will not even entertain these loans at all, and many lenders in the position of approving a short sale will not. And with so many of the traditional offerings at the lower price points now enjoying multiple offers, having these scarlet letters written into the contract under financing terms will put a buyer at a competitive disadvantage.

Unfortunately, the freak-out is not always justified. Recently, we have seen sellers reject higher VA offers in multiple offer situations due to the fear factor alone, fears which are unfounded. I have heard several agents saying things like, “The seller accepted the lower offer because they had a larger down payment and they stand a better chance of (appraising, closing).” This is nonsense, of course. Appraisers aren’t looking at the down payment; they are looking at property value. And the size of a buyer’s down payment has zip, nada, nothing to do with his ability to close. But, so many agents, either through ignorance or, well, ignorance are advising their clients to run when they see the dreaded capital letters.

As time goes on and the agent community moves through the denial stage and toward acceptance, recognizing that VA and FHA loans are back with a vengeance, I suspect resistance will wane. In the meantime, however, be aware that getting your VA/FHA loan accepted presents some challenges and may limit your opportunities. Un-American? Yes, but it is the reality.

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