FHA financing has its stipulations, sometimes making it a less than perfect choice for certain types of situations. One situation where it can generally be used is when a tenant wants to purchase a home he has been renting from a landlord. There are no FHA regulations stopping this situation from occurring. There are certain rules that apply to it; however, as it is a different situation than purchasing a home from a complete stranger. The Identity of Interest Rule does play a part in this process, but just like everything else, there are exceptions to the rule.
What is the Relationship?
The first thing the lender will need to figure out is what the relationship is between you and the landlord. If there is any type of relationship, there might be requirements regarding how much money you have to put down on the home, meaning you might have to put down more than the 3.5 percent minimum, assuming you have the credit score to qualify for that low down payment. If your relationship with the landlord does not meet one of the following criteria, you could be required to put down 15 percent of the sales price of the home in order to purchase from your landlord. The good news is that most of these criteria are easy to meet, allowing you to use the lower down payment option. The criteria includes:
- If you purchase the home from a family member that is not on the loan
- You are an employee of the builder of the home
- You are an employee of a company that owns the home because of another employee transfer
- You have lived in the home and have an enforceable lease for the last 6 months or longer
If you fit into one of these situations, you could be eligible to put down just 3.5 percent. Of course, this assumes that you have a credit score that is over 580 in order to qualify for that low down payment. If you have a credit score between 500 and 580, you will be required to put down 10 percent, which is still less than the Identity of Interest Rule would require, but is more than the standard FHA down payment.
Why are there Rules?
The FHA requires these rules in order to protect the borrowers and even the lender. The borrower could be considered enticed to purchase the property if there is an “arm’s length” relationship involved in the situation. With the requirement of a higher down payment, however, it becomes harder to afford the property, making it less likely that the borrower will get convinced to purchase the property. The lender gets protected with the higher down payment by having a borrower that has an adequate investment in the home, should he decide that he was coerced into purchasing the home from someone he knew and just walking away from it. If you look at the difference in the down payment required between someone purchasing a home without an arm’s length relationship and one with, you will see the reason. Let’s take a look at a $200,000 purchase price for example:
- Without an arm’s length relationship 3 percent down payment: $7,000 down payment
- With an arm’s length relationship 15 percent down payment: $30,000 down payment
It would be much harder to walk away from a home that you purchased when you have $30,000 of your own money invested in it than it would be to walk away from a home that you only have $7,000 invested. Of course, you would hope that both borrowers would do whatever possible to keep the home no matter how much they have invested, but studies show that those with a higher down payment are more likely to do what it takes to keep the home, or at the very least sell it and pay the mortgage off.
So what does this mean if you rent your home and want to buy it? Basically, if you have a legal lease that dates back at least 6 months from the date of the sales contract, you could get FHA financing and put down only 3.5 percent. If you purchase from a family member that will be on the loan or you do not have a longstanding lease on the property, you might have to put down 15 percent to make the transaction safer for everyone involved. It would be best to wait until you have that least for the specified period of time and can prove that you made your payments on time so that you qualify for FHA financing as well as the lower down payment.
Not all lenders are willing to provide FHA financing for a home that you purchase from your landlord, so you might have to talk with several lenders until you find the right one. Remember that every lender has their own requirements as well, which means that one might require higher qualifications in order to purchase a rented home while others might be a little laxer in their requirements. Shopping around will help you find the best loan program for your situation.