New lending rules for condominium buyers are already forcing some developers to change or scrap plans for new projects for fear too many buyers will be shut out.
On Monday, the Federal Housing Administration started limiting the number of buyers in condo buildings that can get loans insured by the agency. The rules also put restrictions on buildings with poor finances, too many delinquent owners and a high number of rentals.
The tighter lending standards are designed to protect the financial health of the FHA. Roughly 18 percent of loans insured by the FHA are either delinquent or in foreclosure and the agency's financial cushion has dipped below the federal minimum.
But the move is a blow to condo buyers because the FHA has become a key source of mortgage financing. The agency insures roughly one in four new loans today because buyers need only have a 3.5 percent down payment.
"It is a huge debacle for us," said Rene Oehlerking, marketing director for Salt Lake City developer Garbett Homes.
The company has canceled a 300-unit condo project, spending $300,000 to redesign it into freestanding homes. Most of the builders' homes and condos this year went to buyers with FHA loans.
Garbett's condo project didn't pencil out with the new FHA rule that allows only half of a condo building's units to have FHA-backed loans, with some exceptions. That number falls to 30 percent in 2011.
Another new rule requires at least 30 percent of units in new buildings be pre-sold before the agency insures any loans. That number will rise to 50 percent in 2011.
Projects in Florida, where the condo market has been devastated, will require special approval before FHA-backed loans can be made.
"Many of our developers won't be able to pursue condominium projects because the risk is too great that they won't be able to sell the units," said David Ledford, senior vice president for housing finance and land development at the National Association of Home Builders.
Government officials, however, say the rules are necessary to ensure consumers are purchasing units in viable buildings and to help ensure that defaults on condo projects don't rise too high.
"We believe that we have a balanced policy that is flexible ... yet will help us manage and mitigate the risk," said Joanne Kuczma, director of the FHA's home mortgage insurance division.
While the rules could be tough for builders, they will protect consumers because lenders will be forced to be more careful about which projects they fund, said Richard Vetstein, a real estate lawyer in Framingham, Mass.
"On the whole, it's a good thing," he said. "Financially sound condominiums make better investments."
During the housing boom, the FHA was not a big source of condo loans, and the agency had not updated its condominium rules since the mid-1990s. When the new rules were released earlier this year, the lending industry lobbied aggressively to persuade the agency to loosen them.
"We worked very closely with them," said Tamara King, director of loan origination at the Mortgage Bankers Association. Now that the rules have been relaxed, she said, "for the most part we are in support of the direction that they're going."
Critics, however, say the industry's influence on the process shows that the agency is all too willing to bend to pressure from powerful interest groups, and say the condo loans will be highly prone to default and foreclosure.
"Rather than stopping the foreclosure mess, we're actually adding more foreclosures to the mix," said Edward Pinto, a financial consultant and an FHA critic.
For buyers, the new rules cinch already tight mortgage financing. Earlier this year both Fannie Mae and Freddie Mac slapped tighter restrictions on condo loans.
The new FHA rules are "going to create substantial confusion and turmoil," for mortgage companies that make FHA loans, said Jack McCabe, a real estate researcher in Fort Lauderdale, Fla. "They have to be pulling their hair out right now."
© Copyright 2013 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.