How Underwriters View Owner Occupied Vs. Non-Owner Occupied Transactions

There are many times when a homebuyer truly intends to occupy a home as a primary residence only to be told by a mortgage underwriter and subsequently their loan officer that their claim of having the intention to occupy a property as a primary residence was not adequately credible. This often happens when a property purchase is being made while another property is being retained. The consequence of a decision on the part of the underwriter to not agree with a homebuyer’s intent to occupy a property as a primary residence can lead to larger down payment requirements and inferior interest rates due to non-owner occupied lending guidelines and rates.

To know whether or not an underwriter might do this on a loan, one must look through the eyes of the underwriters at the variables that they’ll be considering when making this decision. The underwriter will fundamentally be asking if it “Passes the Test of Reasonability” that a person might take the property as a primary residence over a retained property. When passing judgment on this question, the following variables are evaluated (usually in this order):

  1. Hierarchy of Collateral
  2. Similar or Superior Test
  3. Life Variables

Hierarchy of Collateral

While there are exceptions to most rules, there is usually substance the original rule. There is a rule of thumb in mortgage underwriting that assumes that some types of housing are superior or others. If one currently owns a property of inferior occupancy desirability and is moving to one that is of superior occupancy desirability, a claim of occupancy would make sense. The opposite would not be true without overwhelming supporting evidence supporting a conclusion that despite the property type, it is superior (such evidence might come from appraisals, photos, specs, itemizations of home finishings, etc.). A listing of housing types from peak owner occupancy desirability to least desirability for owner occupancy is as follows:

  1. Single Family Residence
  2. Townhome
  3. Condo
  4. Duplex
  5. Tri-Plex
  6. Four-Plex

This is not to say that there’s no such thing as a condo that a reasonable person wouldn’t desire to occupy as a primary residence over a particular townhome. It is just to say that the default position of an underwriters mind will be to use this as an assumption of a reasonable hierarchy of collateral types.

The Similar of Superior Test

In cases where an underwriter sees a buyer purchasing a property of a specific type while retaining a property of identical type (for instance buying a condo while retaining another condo), barring an overwhelmingly persuasive Life Variable (below), they will apply the Similar or Superior Test. In other words, sticking with our condo to condo example… Is the condo being purchased similar or superior to the condo being retained? This would be the question the underwriter would be answering.

For this test, price is rarely determinative. Most underwriters don’t treat this as a reliable indicator since rarely is a previous set of market conditions from when a retained property was purchased similar to those the new property are being purchased in. Additionally, it is unknown if for instance, an original property was purchased through a distressed sale such as a short sale (where a seller wouldn’t have much of a profit motive). Usually, this variable is thrown out of comparative consideration altogether.

Instead, the characteristics of the two properties would be compared in detail. These characteristics would include bedroom count, bathroom count, finished square footage, age of construction, level of finish, amenities (garage, pool, outbuildings, etc.). There is no uniform method of documenting these comparisons. Clearly, there will be an appraisal on the property being purchased so that’s one source of information. For the retained property, sometimes it’s simply a matter of checking information on the property from county records. Sometimes, artificial intelligence software like advanced Automated Valuation Models are used. Sometimes, the new appraisal is compared to a previous appraisal on the retained property.

Life Variables

Life Variables are personal circumstances and considerations that are unique to the homebuyers that have specific impact on their decision to take a certain property as their primary residence. An obvious example of this would be proximity to a workplace. Less obvious examples of this might be far more unique circumstances such as someone with a driving impairment needing to live near public transit. This is no such thing as an acceptable or unacceptable Life Variable. They are just additional facts and circumstances that are taken into consideration when an underwriter is justifying/documenting a claim of a homebuyer to occupancy a property as his/her primary residence.

In the lead up to the mortgage meltdown and financial crisis, many investors made false claims of occupancy in order to make smaller down payments and get lower interest rates. Many of these loans defaulted and since then, scrutiny of buyers’ claims to occupy a property is far more rigorous. When many homebuyers are questioned on this, they take it as a personal insult to their integrity. They feel that they are being called liars when in fact; it’s not that they’re liars, it’s that many before them lied and now new homebuyers sometimes find themselves paying for those sins.

Charles Dailey – NMLS 79048 – Branch Manager, Loan Officer, Certified Military Housing Specialist – 612-234-7283 – charles@charlesdailey.com

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