Are FHA Loans Allowed When One Family Member Buys a Home From Another?

HUD 4000.1, the FHA Single Family Home Loan program rule book, describes identity of interest transactions as the sale of a home "between parties with an existing Business Relationship or between Family Members."
The word “interest” in this context refers to the interest a seller would have in offering a property for sale to the buyer where buyer and seller have some kind of existing relationship such as tenant/landlord, business partnerships, employer/employee relationship, family, etc.
These transactions are not automatically denied or prevented by FHA loan rules, but such circumstances do require the lender to ask for a higher down payment. HUD 4000.1 instructs the lender:
"The maximum LTV percentage for Identity-of-Interest transactions on Principal Residences is restricted to 85 percent. The maximum LTV percentage for a transaction where a tenant-landlord relationship exists at the time of contract execution is restricted to 85 percent."
There are exceptions to the identity of interest rules.
According to HUD 4000.1, the 85% LTV is waived for transactions where the borrower is purchasing "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."
And what about exceptions for the identity of interest rules in other cases? Under limited circumstances, exceptions for landlord/tenant relationships may be possible if qualifying circumstances are met:
"The 85 percent LTV restriction may be exceeded if 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."
In cases where the tenant wants to purchase from the landlord, it may require some extra planning time in order to meet the FHA requirement mentioned above. Borrowers who know the six month rule will affect them should not only plan on meeting that time requirement before applying for the loan, but also to get the required documentation ready-the written lease or contract will definitely be required by the lender.
Additional lender standards, state law, or other requirements may also apply. That’s why it is a good idea to research these transactions ahead of time to see if there are any other time or paperwork needs that must be fulfilled in addition to what’s mentioned above.
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