www.hudclips.org U. S. Department of Housing and Urban Development Washington, D.C. 20410-8000 August 11, 1992 OFFICE OF THE ASSISTANT SECRETARY FOR HOUSING-FEDERAL HOUSING COMMISSIONER Mortgagee Letter 92-25 TO: ALL APPROVED MORTGAGEES SUBJECT: Single Family Loan Production - Construction/Permanent Mortgages Pilot Program On May 18, 1992, Secretary Kemp announced a number of new initiatives to strengthen the home-building industry. One of these initiatives is a pilot program to provide single family mortgage insurance for construction/permanent mortgages. The Department has elected to offer this pilot program in five states - California, Colorado, Florida, Maryland, and Texas. This Mortgagee Letter is to provide guidance to Field Offices and lenders in these states on the processing, underwriting, and insuring of construction/permanent mortgages. A construction/permanent mortgage provides for funds during the construction period and then converts to a permanent loan upon its completion. Since there is only one closing, prior to the start of construction, it is considered a purchase transaction. The purpose of permitting lenders to utilize these mortgages and provide mortgage insurance once the construction is satisfactorily completed is to assist builders in obtaining construction financing, and to save considerable closing costs since there is only one closing. The construction/permanent loan is made directly to an approved borrower/ homebuyer. During construction, the loan is not eligible for HUD mortgage insurance; mortgage insurance becomes available after either a final inspection or issuance of a certificate of occupancy, whichever is later. The Department believes this additional source of construction financing can be extremely helpful to the building industry as well as to prospective buyers of new homes. _____________________________________________________________________ 2 Currently, HUD requires that amortization begin not later than the first day of the month following 60 days from the date the lender executes the Lender's Certificate, form HUD-92900-A, page 4. However, regulations are being revised to say that payments must commence by the first of the month 60 days after closing, or after conversion of a construction loan to permanent loan. The loan must be closed using standard HUD documentation with the addition of a Construction Rider to the Note and a Construction Loan Agreement. The mortgage insurance premium, however, must still be received by HUD within 15 days of loan closing. Processing instructions are attached to this memorandum, and apply only to construction/permanent loans with one closing with the same lender. (For individuals acting as their own general contractor, please refer to Handbook 4155.1 Rev-4.) Should you have any additional questions regarding this memorandum, please contact the Single Family Mortgage Credit Branch in Headquarters at (202) 708-2700. Very sincerely yours, Arthur J. Hill Assistant Secretary for Housing - Federal Housing Commissioner Attachments _____________________________________________________________________ Processing Instructions Construction/Permanent Mortgages General: A Construction-Permanent mortgage combines the features of a construction loan, a short-term interim loan for financing the cost of construction, and the traditional long-term permanent residential mortgage. For HUD mortgage insurance and loan-to-value purposes, it is considered a purchase transaction. The mortgage lender makes the loan directly to an approved borrower/homebuyer. There is one closing which occurs prior to the start of construction. At closing funds are disbursed to cover land cost. The balance of mortgage proceeds are placed in an escrow account to be disbursed as construction progresses. The loan is insured by HUD after construction is complete. Program Information: * Disbursement of Funds: It is the responsibility of the lender to obtain written approval from the borrower before each draw payment is provided to the builder. * Construction Period Fees: Construction loan interest, commitment fees, inspection fees, title update fees, real estate taxes, hazard insurance and other financing charges incurred during the construction period are the responsibility of the builder. * Interest Rate: The permanent mortgage loan interest rate must be established at closing. * Closing Costs: Only the typical, customary, and reasonable closing costs may be included in the estimate of closing costs upon which the maximum mortgage amount is based. No additional fees or charges may be included for this type of financing. * Disclosure: The borrower must be provided with a disclosure explaining that the loan is not eligible for HUD mortgage insurance until after either a final inspection or issuance of a certificate of occupancy by the local governmental jurisdiction (whichever is later), and that the Department has no obligation until the mortgage is endorsed for insurance. This Disclosure statement should be prepared by the lender and approved by the local HUD office before the beginning of a program of this kind. * Amortization: Must begin no later than the first of the month following 60 days from the date of either the final inspection or issuance of certificate of occupancy, whichever is later. _____________________________________________________________________ 2 * Endorsement: Request for endorsement must be submitted by the lender after final inspection or issuance of certificate of occupancy (but within 60 days of the date the later of these events occur). During construction, the loan is not HUD insured. * Remitting UFMIP: Must be received by HUD within 15 days of closing. * Escrow for taxes and insurance: May be established at the time of loan closing or at the time of final inspection or issuance of certificate of occupancy (lender's option). * Builders: Only HUD-approved builders may use this program. An individual builder is limited to 25 units per year under this program. If a builder wishes to increase production beyond 25 units, the HUD Field Office must obtain approval from HUD Headquarters. * CHUMS Information: Lenders mark the front of case binder const/perm and Field Office use Program ID Code 50. (Program identification codes are described on page 3 of form HUD-428, Home Mortgage ADP Code Chart.) Mortgage Amount Calculation The mortgage amount is determined as for any other loan by applying loan-to-value limits to the lesser of the appraised value or acquisition cost. The appraisal procedure is the same as for any proposed construction case. The appropriate loan-to-value limits are applied to the lesser of: 1) The appraised value, or 2) The documented acquisition cost of the property, which includes: (a) The contractor's price to build, and (b) Cost of the land. (If the land has been owned more than six months, or was received as an acceptable gift, the value of the land may be used instead of its cost.) To both 1 and 2 above may be added 57 percent of any borrower-paid closing costs. _____________________________________________________________________ 3 Equity in the land (value or cost, as appropriate, minus any amount owed) may be used for the borrower's cash investment. However, if the advancement of the permanent loan results in the borrower receiving cash out (in excess of $250), the maximum LTV on the permanent loan is 85 percent. If the contractor of the improvements is also the seller of the land, the total acquisition cost for maximum mortgage purposes is the purchase price to the borrower. HUD requires a copy of the contract to determine that there is a legitimate contractor involved and that it is an arms-length transaction (no identity-of-interest between contractor and purchaser). Other Underwriting Considerations: The following criteria must be met in order for a loan to be considered as a construction/permanent loan and be eligible for HUD mortgage insurance: * The borrower must own or be purchasing the lot (or, if owned by the contractor, must be included in the total contract price). * The borrower must have secured or will secure the loan in his or her own name. * The borrower has contracted with a HUD-approved builder to construct the improvements. (This program is not available to borrower acting as his own general contractor.) * If the borrower is a HUD-approved builder by profession and plans to build his own home, the acquisition cost must be determined by actual documented costs to construct the improvements. Documentation Requirements: The loan is closed using standard HUD documentation with the addition of a Construction Rider to the Note and a Construction Loan Agreement. These construction documents may be in any form acceptable to the lender, but must provide that all special construction terms terminate when the construction loan converts to a permanent loan (at the time of final inspection or issuance of a certificate of occupancy). After conversion, only the permanent loan terms (using standard HUD documentation) continue to be effective, thus making the permanent loan eligible for HUD mortgage insurance. Preparation of a legally sufficient Construction Rider to the Note and a Construction Loan Agreement will be the responsibility of the lender. HUD will not approve or review these documents. _____________________________________________________________________ 4 Verification of the Construction Loan * The balance on the loan when it is fully drawn must be verified. The construction escrow account, if one was established, must be fully extinguished; any remaining funds must be applied to the outstanding balance on the permanent loan. Data on the Lot * If the borrower purchased the lot within the past 6 months, he/she must provide a copy of the HUD-1 or other settlement statement showing acquisition cost. * If the borrower owns the lot free and clear prior to start of construction, he must provide a copy of the Warranty Deed showing no vendor's lien, a copy of the release of lien, or a copy of the HUD-1 or other settlement statement showing ownership. * If the initial draw on the loan was for the purpose of paying off the lot, a statement verifying the amount must be provided. Other Requirements * The borrower must provide a copy of the fully executed sales agreement which includes the contractor's price to build. (Mechanic's and Materialman's lien is not sufficient.) If the borrower is including extras over and above the contract specification and/or paying out-of-pocket cost over and above the interim loan, the borrower must provide: - a breakdown of the extras and the cost of each; and - canceled checks and paid receipts for all out-of-pocket construction costs * Prior to submission for endorsement, the DE underwriter must be provided with the following: - a certification, signed by the borrower after conversion to the permanent loan, that the mortgaged property is free and clear of all liens other than such mortgage (using language from the Borrower's Certificate, item (a), form HUD-92900-A, page 4.) - verification that the construction loan has been fully drawn down. - copies of canceled checks and paid receipts for all of the borrower's out-of-pocket construction costs. *U.S. Government Printing Office: 1992 - 312-218/60243