Texas real estate contracts provision for temporary leases for both Buyers and Sellers to accommodate for either early possession (ahead of the closing date) or deferred possession (after the closing date).
Temporary leases under a purchase agreement are different from standard lease agreements in several ways, most notably:
• these temporary agreements have restrictions on the term (duration / number of days). Specifically, a Buyer's Temporary Residential Lease is strictly limited to a term of no more than 90 days PRIOR to closing.
• these agreements do not impose Property Code compliance requirements for matters of repairs and maintenance, smoke alarms, and security devices.
In recent years, we have encountered push-back from lenders who claim that FHA Buyers putting less than 15% down, in particular, are NOT allowed to do a Buyer's Temporary Residential Lease under a purchase contract, citing an Identity of Interest as the reason.
The common perception is that a temporary lease agreement triggers underwriting requirements that would require a higher down payment.
Are loan amounts restricted when the purchase involves an identity of interest?
The maximum loan-to-value (LTV) percentage for Identity-of-Interest transactions on principal residences, including transactions where a tenant-landlord relationship exists at the time of contract execution, is restricted to 85 percent. An Identity-of-Interest transaction is a sale between parties with an existing business relationship or between family members as defined in Handbook 4000.1 II.A.2.b.ii.(A).
The 85 percent maximum LTV restriction does not apply for Identity-of-Interest transactions under the following circumstances:
FAMILY MEMBER TRANSACTIONS
• the principal residence of another family member; or
• a property owned by another family member in which the borrower has been a tenant for at least six months immediately predating the sales contract. A lease or other written evidence to verify occupancy is required.
BUILDER’S EMPLOYEE PURCHASE • An employee of a builder, who is not a family member, purchases one of the builder’s new houses or models as a principal residence.
CORPORATE TRANSFER • A corporation transfers an employee to another location, purchases the employee’s house, and sells the house to another employee.
TENANT PURCHASE • the current tenant purchases the property where the tenant has rented the property for at least six months immediately predating the sales contract. A lease or other written evidence to verify occupancy is required.
A Simple Misinterpretation of Underwriting Guidelines?
It is the fourth exception (Tenant Purchase) that seems to be the culprit behind the common misinterpretation of guidelines for many loan officers and underwriters.
What they think it says: To qualify for an FHA loan with an LTV of less than 15%, a "tenant" must lease for a minimum 6 month period -- and this rule extends to a "tenant" using a Buyer's Temporary Residential Lease agreement under a purchase contract.
What it really says: The exception addresses a tenant who is already leasing the subject property and wishes to purchase the home from the landlord. In this case, the tenancy precedes the offer... and does NOT apply to a buyer who doesn't already live in the subject property, but simply wants to move in prior to the contracted closing date.
Risks To Parties?
We do not advocate for or against temporary residential leases. These are simply options available to Buyers and Sellers, agreements for which the Texas Real Estate Commission (TREC) has published promulgated forms to facilitate these specific goals.
Buyers and Sellers should consider the risks of such agreements carefully. We advise our clients that while these temporary lease agreements are capable of solving problems and specific needs both parties might have, they also carry risks associated with contract events not going as planned.
Sellers may want to consider the impact of housing a Buyer who experiences a change in circumstances and does not achieve loan approval or simply fails to perform (close). Buyers must consider the same, risks, which could increase moving costs, and potential financeability should the same circumstances delay closing to a point that a temporary tenancy would become suspect and trigger the Identity of Interest, generally suggested to be anything over 90 days by our expert lending advisors.
Summary and Credits
Our preferred lending partners agree that the most typical of circumstances involving a Buyer's Temporary Residential Lease added to a purchase agreement to allow a Buyer to take early possession 10 days or less prior to closing, would not trigger an Identity of Interest for an FHA buyer. As a best practice, we do recommend consulting with each buyer's lender regarding offer strategy to make sure the terms of the offer are compatible with underwriting guidelines.
Special thanks to all of our subject matter experts who contributed their knowledge, research and input to help clarify guidelines:
Senior Loan Officer, NMLS #13002, Supreme Lending, (903) 421-1264
Executive VP/RMLO, NMLS #1249, RMLO #135261, Willow Bend Mortgage, (214) 704-0412
Branch Manager & Loan Officer, NMLS# 176841, PrimeLending, (972) 713-3238
Senior Loan Officer, RMLO/NMLS #217872, Highlands Residential Mortgage, (214) 437-8600
Senior Loan Officer, NMLS #857079, Highlands Residential Mortgage, (214) 695-7870
VP Business Development, NMLS #168878, Highlands Residential Mortgage, (214) 444-9750