SANTA CRUZ (June 26, 2010) - A borrower who misrepresents occupancy is a major headache and, it is said, the biggest source of fraud that lenders have to face. There are only three types of occupancy that the residential mortgage industry recognizes and every transaction fits into one of them. An owner occupied home is a primary residence; a vacation home is the place a homeowner spends a few days to several weeks each year and does not rent out and an investment property is one that is rented out for income.

Each type of occupancy represents a different level of risk. Lenders experience fewer defaults and foreclosures with owner occupied homes and, therefore, less risk, while investment properties have the highest level of risk because these are the first properties to be abandoned by the borrower when times get tough. Vacation homes often qualify for the same low rates as principal residences. To offset the higher risk, lenders charge higher rates and require larger down payments for loans on investment properties.

From time to time a prospective homebuyer, who already owns the home he is living in, says he wants to buy another home to move to but does not intend to. The owner occupied status of this new home would allow the borrower to get in with a minimum down payment (as little as 3.5 percent) and to qualify for the best rates, which this week approached 4.5 percent. However, there are clues that an underwriter looks at that might tip off occupancy misrepresentation. For example, a homebuyer who is keeping his present home but buying another home that has a lower value than his present home. Or, a homebuyer who wants to buy a home out of the area as his principal residence when his job would require a long commute from this new location. It is also tough to talk an underwriter into believing that you are buying a vacation home in, say, San Jose, when you are currently living in Santa Cruz.

Sure, homeowners do downsize and many are willing to take the long commute in order to live in a more desirable area but it is not the norm. Another predicament unfolds when a homeowner wants to tap the equity in his present home for the down payment for the move-up home he already is in contract to buy. Lenders are not allowing a homeowner to refinance the current residence as an owner occupied in order to create the cash to buy the move-up home because the present home will soon no longer be owner occupied.

When a borrower applies for a loan, he signs a statement (the loan application) that asks what the intended occupancy of the home will be. If at any time in the future it was determined that a misrepresentation was made on this application, a borrower could be prosecuted by the FBI and could be liable for up to 30 years in prison and a fine of $1,000,000. If it was determined that occupancy misrepresentation had taken place, the very least a lender would do would be to demand full payment of the loan within 30 days.

The notarized document that the borrower signs at the close of escrow, the Deed of Trust (a standard Fannie Mae/Freddie Mac form), states “Borrower shall occupy, establish, and use the property as Borrower’s Principal Residence within 60 days…and shall continue to occupy the property for at least one year…”. The one exception allows for a departure from this rule when ‘extenuating circumstances exist which are beyond the Borrower’s control”.

This column is written every Saturday by Peter Boutell, Certified Mortgage Planner and a principal at Santa Cruz Home Finance. You may reach him at (831) 425-1250 of email him at Peter@SantaCruzHomeFinance.com.