FHA identity of interest is a complicated term for a relatively simple idea. Identity of interest means that there is an existing relationship between a home buyer and the seller. Maybe you’re planning to buy your parents’ home. Maybe you want to buy a new home built by your uncle’s construction company. Or maybe you fell in love with the home you’re currently renting, and you want to buy it from your landlord.
In each of these examples, the buyer and seller personally know each other. In general real estate terms, this is commonly known as a non-arm’s-length transaction (another overly complicated term). But in FHA loan jargon, this is an identity of interest transaction.
These transactions are singled out because there’s a good chance that the buyer is not paying the fair market value of the property.
If, for example, you’re buying your parents’ home, your parents might be cutting you a good deal. They could probably make more money by listing their home on the market and allowing buyers to compete for it. But because you’re their child, they don’t want to profit at your expense. So this isn’t an open-market transaction; you are getting a deal that isn’t available to other buyers.
This matters to your loan officer. Especially if your loan is backed by the United States government, as FHA loans are. Let’s take a look at:
- How FHA identity of interest impacts you as a borrower,
- Any exceptions to the rule, and
- What you can do if you’re a borrower in this type of transaction.
How does FHA identity of interest impact FHA borrowers?
The main way FHA identity of interest impacts FHA borrowers is in the down payment requirement. If you’ve done your research, you probably expect to pay a down payment of just 3.5% on your FHA loan. This low down payment is one of the big perks of an FHA loan!
But in an identity of interest transaction, the down payment requirement can jump to 15%. This means you might have to come up with a lot more cash for your down payment than you expected. But there are a few exceptions…
Exceptions to the FHA identity of interest rules
There are several circumstances where you can have a relationship with your seller and still pay just 3.5% down. Here are the exceptions to the FHA identity of interest rules:
- If your family member is selling their primary residence to you (meaning the home they currently live in for most of the year, as opposed to a vacation home or investment property), you can pay just 3.5% down.
- If you’re buying the home you’re currently renting from your landlord, you can pay just 3.5% down as long as you can prove that you’ve lived in the home for at least six months leading up to the purchase.
- Sometimes corporations may buy an employee’s home during a corporate relocation and resell it to another employee. This corporate exception allows the buyer to pay the standard 3.5% down despite the existing relationship with their employer.
What can an FHA borrower do if their purchase falls into this category?
If your purchase falls into the FHA identity of interest category, and you don’t have the cash for a 15% down payment, there are a few things you can do to try to get the lower down payment as an FHA borrower.
One option is to have your family members gift home equity to you. If there is enough equity in the home, the seller can take advantage of FHA gift of equity rules to effectively waive the down payment amount. The down payment would still be listed on all the paperwork, but it would be covered by the home’s equity instead of cash out-of-pocket.
Another option is to ask a family member to gift funds for the down payment and/or closing costs. You would still pay the higher down payment, but the money would come from family instead of your personal accounts.
And if you’re a renter who plans to purchase from your landlord, you can simply wait until the end of the six-month period required to meet the exception.
Are there other options to avoid the higher down payment?
If you’re running into an FHA identity of interest issue, it’s possible that the FHA program isn’t the best fit for you. Maybe your property would qualify for a 0% down payment USDA loan. Or maybe you can actually qualify for a conventional loan with a lower down payment.
As our customer, you get a dedicated loan officer who understands the ins and outs of the available loan programs and can help you choose the loan type that will work best for your unique circumstances. Contact us at 757-296-2148.
And if you already know what kind of mortgage you want, you can apply for your mortgage online today at ovmfinancial.com/QuickStart.