Mortgage Credit Certificate Program. Manual. Table of Contents

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1 Mortgage Credit Certificate Program Manual Table of Contents SECTION 1 INTRODUCTION TO THE MCC PROGRAM Forward What is a Mortgage Credit Certificate? The Difference Between a "Tax Credit" and a "Tax Deduction" MCC and the Federal Income Tax Mortgage Interest Deduction How a Homebuyer Applies for a MCC How a Homebuyer Uses the MCC When the MCC Credit Exceeds the Tax Liability The MCC Recapture Tax Purchase Price and Income Limitations Other Program Requirements Eligible Properties Targeted Census Tracts... 5 SECTION 2 PROGRAM ADMINISTRATION AND PROCEDURES Lender Eligibility The Steps of Loan Origination and MCC Application Lender Underwriting and Verification Steps Loan Closing Cancellation and Commitment Expirations Delinquent Closing Documentation Program Charges and Fees Special Responsibilities of the Mortgage Broker Revocations Transfer of MCCs for Mortgage Assumptions Transferring MCC Applications to Another Lender Changing Properties During MCC Application Process Administrator Post Audit and Reports... 14

2 SECTION 3 BORROWER, PURCHASE PRICE AND UNDERWRITING REQUIREMENTS Overview Applicant Eligibility Requirements Verification of First Time Buyer Status Verification regarding Occupancy of the Home as a "Principal Residence" Maximum Income Restrictions and Verification Maximum Purchase Price Restrictions Penalties for Applicant Misrepresentation Mortgage Requirements Lender Record Keeping and Federal Report Filing Administrator Annual Record Keeping Recapture Tax SECTION 4 CHANGES PRIOR TO CLOSING Changes in Current Income Changes in Marital Status Change in Acquisition Cost Changes in Loan Amount Lender's Obligation to Notify Administrator of Material Changes APPENDIXES A. DEFINITIONS B. ACQUISITION COSTS C. INCOME GUIDELINES D. RECAPTURE TAX NOTICE E. MOBILE HOME/ MANUFACTURED HOUSING

3 SECTION 1 INTRODUCTION TO THE MCC PROGRAM 1.1 Forward The Mortgage Credit Certificate Program, authorized by Congress in the Deficit Reduction Act of 1984, is an alternative to mortgage revenue bond-backed financing as a means of providing financial assistance for the purchase of single-family housing. In 1985, the State of California adopted legislation authorizing local bond issuing agencies to make Mortgage Credit Certificates (MCCs) available in California. The County coordinated the establishment of the regional program described in this Manual, and holds the ultimate responsibility for the issuance of the program's mortgage credit certificates. The County has the responsibility of requesting allocations from the State as needed to keep the program adequately funded. Notwithstanding the County role, each participating jurisdiction has equal representation and authority in how the program is administered. Tables 1 and 2, which appear in this Manual immediately after the Table of Contents identify the MCC issuing authority, the administrator and the jurisdictions participating in this program. They also provide a convenient and thorough summary of the parameters of this MCC program. The body of this Manual often refers to the information in these Tables. Manual owners should check with the office of the Program Administrator to ensure that they have the most current version of Tables 1 and 2. References to the "Administrator" or to the "program office" in this Manual mean the Program Administrator named in Table 1, Affordable Housing Applications. Please see Appendix A for definitions of the terms used in this Manual. 1.2 What is a Mortgage Credit Certificate? The MCC is a federal income tax credit. With a MCC, the qualified homebuyer becomes eligible to write off a portion of the annual interest paid on the mortgage as a special tax credit. The portion or amount of the credit is equal to the credit rate on the MCC (for example 15%) multiplied by the annual interest paid. This credit reduces the federal income taxes of the buyer, resulting in an increase in the buyer's net earnings. Increased buyer income results in increased buyer capacity to qualify for the mortgage loan. The MCC has the potential of saving the MCC holder several thousand dollars over the life of the loan. Please see Table 1 for the mortgage credit rate used in this program. 1

4 1.3 The Difference Between a "Tax Credit" and a "Tax Deduction" A "tax credit" entitles taxpayers to subtract the amount of the credit from their total federal income tax liability, receiving a dollar for dollar savings. A tax deduction is subtracted from the adjusted gross income before federal income taxes are computed. Therefore, with a deduction, only a percentage of the amount deducted is realized in savings. The following example illustrates how a credit is considerably more valuable than a deduction. TABLE 3 Value of a Tax Credit vs. Tax Deduction tax credit tax deduction Total Income $35,000 $35,000 Deductions (- 0 -) (2,000) Total Taxable Income $35,000 $33,000 Federal Income Tax Liability 5,776 5,216 Credit (2,000) (- 0 -) Taxes Paid $3,776 $5,216 Table 3 shows that for the same dollar value, a $2,000 credit reduces federal income taxes paid by $1,440 more than the $2,000 deduction. ($5,216 minus $3,776 equals $1,440.) 1.4 MCC and the Federal Income Tax Mortgage Interest Deduction A taxpayer receiving a MCC credit loses a portion of his/her normal deduction taken for interest paid on the mortgage loan. However, the homebuyer may continue to deduct the remainder of the annual mortgage interest payment not claimed as a credit. And although the interest deduction is reduced, the holder of the MCC still pays considerably less in taxes. See Table 4. Assume a taxpayer with a $30,000 annual income buys a home for $100,000 at an 8% interest rate. Interest paid the first year is approximately $8,000. A MCC tax credit of 15% of the interest paid would equal $1,200. (15% x $8,000 = $1,200). TABLE 4 Benefit Realized With a MCC With MCC Without MCC Annual Income $30,000 $30,000 2

5 Personal Exemption (-2,350) (-2,350) Interest Deduction -6,400-8,000 Taxable Earnings $21,250 $19,650 Tax from Table $3,184 $2,944 MCC Credit -1, Tax $1,584 $2,944 The same taxpayer owes $1,360 less with a MCC than without one ($2,944 - $1,584= $1,360). The MCC will reduce the amount of federal income taxes otherwise due to the federal government from the homebuyer; however, the IRS will not pay out more than should have been paid in. Therefore, the benefit to the home owner in any one year cannot exceed the amount of federal taxes owed for that year, after consideration of other credits and deductions. 1.5 How a Homebuyer Applies for a MCC The homebuyer may obtain a MCC through any of the Participating Lenders. A list of the Lenders can be obtained from the Administrator. The homebuyer should apply for the MCC at the same time he/she makes a formal application for a mortgage loan. The buyer should have a purchase offer in hand and should be ready to supply credit information, employment data and other information to the Lender for both the mortgage and the MCC application. There is no allocation of MCCs by Lender. During the processing of the mortgage application, during escrow, the Lender submits a MCC application package to the Administrator on behalf of the buyer. Provided the buyer and property are eligible, the Administrator provides the Lender with a MCC Commitment which reserves a MCC for that purchase transaction. The MCC is issued to the buyer after the close of escrow. Since the MCC processing is concurrent with the loan processing, it should not extend past the length of escrow. 1.6 How a Homebuyer Uses the MCC The homebuyer should consider adjusting his or her federal income tax withholding to receive the benefit from the credit on a monthly basis. The homebuyer may file a new W-4 form with his or her employer reflecting the MCC credit savings. By taking this 3

6 action, the number of exemptions will increase, reducing the amount of taxes withheld and increasing the buyer's disposable net income. 1.7 When the MCC Credit Exceeds the Tax Liability If the amount of MCC credit exceeds the MCC holder's tax liability reduced by any other personal credits for the tax year, the unused portion of the credit can be carried forward to the next three tax years or until used, whichever comes first. The homebuyer will have to keep track of the unused credit each year. The current year credit is applied first and then the oldest amount of unused credit applied next. 1.8 The MCC Recapture Tax Buyers who receive a MCC may be subject to a recapture tax if they sell their residence within nine years. The tax, if any, will always be the lesser of: half the gain from the sale of the home, or a tax based on a somewhat complicated formula which takes into consideration: (1) the original principal amount of the home mortgage; (2) the number of complete years that pass before the home is sold; (3) the median family income for the buyer's area at the time he/she bought the home, and (4) the buyer's modified adjusted gross income at the time the home is sold. There are several conditions which can exempt the MCC holder from the recapture tax. These include: (1) a sale due to death or divorce, and (2) insufficient increase in the income of the seller (MCC holder) between the time of purchase and the time of sale. The homebuyer receives detailed information on the recapture tax from the Lender and is asked to sign a statement at time of application that he/she is aware of the tax. 1.9 Purchase Price and Income Limitations Mortgage credit certificates will be made available to first time homebuyers in this program. Table 1 shows the current purchase price and income limitations for MCC Program participants. The Administrator will review documentation from the Lender in order to determine eligibility pertaining to these limitations Other Program Requirements Qualified Applicants must be first time homebuyers. The homebuyer cannot have had an ownership interest in a principal residence in the past three years preceding the date of the application. Also, the homebuyer must occupy the home as a principal residence, 4

7 within 60 days after the close of escrow. In designated targeted areas, Applicants do not have to be first time homebuyers Eligible Properties and Financing A MCC can be used for either new or previously occupied single-family homes including single family detached homes, condominiums, half-plexes, or town-houses within the limits of the MCC Program. Although two-to-four-unit properties qualify as eligible structures for this program under IRS guidelines, some counties choose not to allow the purchase of more than two units using one MCC. Please contact the Administrator for the policy regarding this jurisdiction s program. Multiple unit purchases are subject to the criteria set forth in Section 3.6 of this manual. See Table 1 for the properties and financing eligible for this program. The Administrator can answer questions about the eligibility of particular properties or types of financing Targeted Census Tracts Certain census tracts within the geographical limits of this MCC program have been designated "Targeted" by the Census Bureau as "Low Income". Applicants purchasing in these census tracts do not have to meet the first time homebuyer requirement. Also, the federally recommended income and purchase price maximums in targeted census tracts are higher, as the federal government wishes to encourage revitalization there. Of each MCC allocation received, 20% is set aside for use in Targeted Areas for one year. A Targeted Area is defined as either a census tract in which 70% or more of the households have an income which is 80% or less of the statewide median family income, or an area designated as an area of chronic economic distress. These areas are not subject to the "no prior home ownership" restriction. A list of census tracts that are this program's Targeted Areas appears in Table 2. SECTION 2 PROGRAM ADMINISTRATION AND PROCEDURES The purpose of this MCC Manual is to describe the program and set forth the role and requirements of the County, the MCC program, the Lenders and the mortgage loan borrower. This Manual contains a description of the program processing procedures and program administration. The borrower, purchase price, and mortgage underwriting requirements as set forth in State and Federal regulations are also described. Detailed instructions for preparing the MCC processing forms are in another document, the program Handbook. The Administrator may revise the program guidelines from time to time. Public notice will be given only for significant program changes. 5

8 The County encourages eligible homebuyers, after receiving an explanation from a Participating Lender, to apply for a MCC. Participating Lenders are expected to be wellinformed about all the local, State, and Federal restrictions contained in this Manual so that both Applicants and Sellers alike are aware of these restrictions before the application is taken. The Lender shall reject those applications where the submitted information indicates that the Applicant does not qualify for the program. In general, eligible homebuyers apply for Mortgage Credit Certificates in connection with normal mortgage loan application procedures. The Mortgage Credit Certificate Application must be filed in conjunction with an application for a mortgage loan from one of the Lenders participating in the MCC program. The MCC processing procedures are designed to coincide with the standard mortgage loan processing and underwriting procedures that are in place at most mortgage lending institutions. Recognizing there are procedural variations among the participating Lenders, the procedures outlined here are meant to serve as guidelines with respect to the sequence of events. However, all the elements of the processing sequence outlined in this Manual must at some point be completed, regardless of sequence, by the Lender, the Administrator, the Applicant, and the Seller. 2.1 Lender Eligibility For the MCC program, a "Lender" is any corporation licensed to originate and/or fund first mortgage loans in the State of California. All brokers, retail and wholesale Lenders who wish to participate in the MCC program in any way must be enrolled in the program. To enroll and maintain active status in the MCC program a Lender must sign a Quality in Participation Agreement and abide by its description of acceptable program participation including but not limited to: a. Designating a contact person: for each branch office participating in the MCC program; for the main business office; for the IRS report; and for Closing Phase Package correspondence, including fines. b. Paying the annual enrollment fee referred to in Table 1. c. Requiring all lending personnel involved in the MCC program to attend the MCC training sessions. d. Providing the MCC Program Manual and the MCC Handbook to all MCC processors. e. Returning the Closing Phase package to the MCC program office within ten days after loan closing. 6

9 f. Cooperating with the MCC program in providing the best possible service to the County's first time homebuyers. 2.2 The Steps of Loan Origination and MCC Application The following steps provide an in-depth step-by-step guide for a MCC, including Lender underwriting and verification. For a brief overview, please see the MCC Handbook. 1. The Borrower applies for a mortgage loan from a Participating Lender or Broker. The Participating Lender or Broker can be a funding Lender, correspondent or mortgage broker. Any participating Lender or Broker can file the original application documents but only the Funding Lender receives the MCC Commitment and is named on the Mortgage Credit Certificate. 2. The Lender discusses parameters of the MCC Program with the Borrower and determines eligibility for a Mortgage Credit Certificate. Lender informs Borrower of the non-refundable MCC application fee (see Table 1). 3. The Lender determines that the Borrower is an eligible candidate for a MCC, based on income, purchase price, first-time homebuyer status, tax liability, and other factors. The Lender uses income and purchase price limitations published in Table 1 of this Manual. Lender requests three prior year's tax returns from the Borrower and prepares to have the Seller Affidavit forwarded with instructions to the Seller. 4. Lender gives Applicant (Borrower) a MCC Welcome Applicant Packet, an information package that explains the program and contains consumer information. The package should include: (1) cover brochure of Welcome and general information; (2) MCC Example Sheet; (3) copy of Recapture Tax Notice #1 (Initial Notice to Mortgagor of Potential Recapture Tax signed by Applicant; (4) copy of Sample Recapture Tax Notice #2 (Information Regarding Potential Recapture Tax) 5. Lender and Applicant review the Initial Notice to Mortgagor of Potential Recapture Tax (see Appendix D). Applicant signs and dates the notice. Lender includes the executed notice in Applicant's MCC application package. 6. The Lender and Applicant together review, complete, and execute the four-page MCC Application and Affidavit. This document serves as the application and contains certifications in an affidavit format required by the MCC program regulations. These include: 7

10 a. Certification that the residence will be used as a Principal Residence and that the MCC holder will notify the Lender, the MCC Program Administrator, and the County if the home ceases to be the Principal Residence of the MCC holder. b. Certification that the Applicant has not had ownership interest in a Principal Residence during the preceding 3-year period (not required for a targeted area.) c. Certification that the Purchase Price does not exceed the program Purchase Price limits. d. Certification that this is a new mortgage loan, as defined in the Internal Revenue Code. Additionally the loan must be secured by a first mortgage on the Principal Residence primary (first) loan property. e. Certification that the loan applied for does not constitute an assumable loan or a prohibited mortgage (mortgage financed through the sale of bonds, such as CHFA, Cal-Vet or a single family bond loan.) f. Certification that the Lender was selected by the Applicant in his or her sole discretion. g. Certification that the Applicant's gross annual income does not exceed permitted program income limits. h. Certification that no interest on the loan is being paid to a Related Person. i. Certification that the MCC cannot be transferred. j. Acknowledgement that any material misstatement or fraud is made under penalty of perjury. k. The Lender's certification must be signed by an agent of the Lender legally authorized to sign for the Lender. 7. Lender transmits to the Administrator a MCC Application Package containing: MCC Transmittal and Checklist; MCC Application; a check for the application fee made out to the County; Income Summary Worksheet with supporting documentation; Seller Affidavit; the first and last pages and any counter-offers of the Sales Agreement (signed by all parties); three prior years' tax return 8

11 documentation (if applicable); Initial Notice to Mortgagor Regarding Potential Recapture Tax. Note: In all cases, the Lender must submit the MCC application and receive the MCC Commitment prior to the close of escrow. 8. Administrator accepts and reviews the contents of the MCC Application package, inspects it for Lender's and Applicant's certification, and reviews it for completeness and accuracy. After the completed package is approved, the Administrator issues a MCC Commitment to the Lender designating a unique MCC reservation number for the Applicant, according to the purchase transaction described in the application package. By the MCC Commitment expiration date, the Lender must either: (1) submit the closing phase package; (2) submit written notice of MCC cancellation; or (3) request a 30-day extension. The MCC Commitment expiration date is the SOONER of: (1) the 10th calendar day after the close of Escrow, or (2) 120 days from the issuance of the MCC Commitment. The MCC Commitment is valid for 120 calendar days, beginning on the date the Applicant's income is verified by the Lender (the date Application Affidavit is signed by the Lender). The Lender should note that income must be re-verified and a 30 day extension requested if the period between original verification and the closing is longer than 120 days. Lender must submit request for extension to the County with a check for the extension fee (see Table 1). 9. In addition to the MCC Commitment, the Administrator issues the Closing Affidavit which must be completed, dated and executed at the closing. 10. The Administrator maintains a cumulative-to-date total of credit amounts reserved and the aggregate amount of MCCs to be issued, and notifies the Lenders in advance when funds are about to be depleted. 11. Lender completes the remainder of the mortgage application process according to standard procedures. 2.3 Lender Underwriting and Verification Steps 1. Lender performs standard mortgage loan underwriting procedures. 2. Lender must take into consideration the effect of the MCC when determining the total amount of household income available for the monthly housing payment in order to determine the borrower's qualifications. 3. In conjunction with Lender's regular verification process and under the Quality in Participation Agreement the Lender performs reasonable investigation that all 9

12 MCC program requirements have been satisfied. Lender may verify this fact in any reasonable, efficient manner, as dictated by standard industry practices for processing mortgage loan applications. 4. Lender verifies that the Applicant and the mortgage transaction comply with MCC Program requirements for income, purchase price, first-time-home-buyer status, location of residence, and other program terms. 2.4 Loan Closing Once the funding Lender has received the MCC Commitment the Lender is allowed to proceed with the escrow closing. 1. The Lender confirms that the MCC Commitment has not expired. 2. Using the Closing Affidavit issued to the Lender with the MCC Commitment, the Lender completes the form, indicating the date of escrow closing, and declaring any material changes. Lender signs the affidavit and forwards it to escrow for execution by the homebuyer. 3. Lender forwards loan documents and MCC Closing Affidavit to selected escrow officer with instructions for closing the loan and having the Applicant date and sign the Closing Affidavit and initial any changes to the informational data. The Escrow Officer forwards the executed Closing Affidavit back to Lender. 4. No later than the tenth calendar day after the close of escrow, the Lender submits the Closing Package to the Administrator's office. The package includes: a. Transmittal form, or a business card from the sender. b. Closing Affidavit with: 1) the date of closing: 2) any material changes initialed by the Lender and the Applicant(s); 3) Both date and signature of Lender representative, and 4) Both date and signature of Applicant(s) signed at the time of loan closing, and in no case more than 14 days before the date the loan is recorded. c. Any additional documentation required as a condition of the Commitment. d. Self addressed envelope, if Lender is requesting a copy of the MCC Certificate 10

13 The Administrator reviews the Closing Package and checks the file to make sure all necessary documents have been submitted. Upon approval, the Administrator issues Mortgage Credit Certificate directly to the Applicant(s). The Applicant also receives the completed Recapture Tax Notice #2, a letter explaining how to use the MCC Certificate and a copy of the IRS Form 8396 to be filed with the Applicants' federal income tax returns. If the Lender has checked the request box on the Closing Affidavit, and included a self-addressed envelope, the Administrator will send a copy of the MCC certificate to the funding Lender. 5. Lenders must adhere to the time frame of the MCC processing period, promptly notifying the Administrator in writing of any MCC cancellations and/or requests for MCC Commitment extensions. Note: Regardless of the MCC Commitment expiration date, the closing package is due to the Administrator's office no later than ten calendar days after the close of escrow. Failure to meet this deadline will result in a fine levied against the Lender. Continuing problems could result in the Lender being expelled from the program. 2.5 Cancellation and Commitment Expirations Once a Lender has obtained the MCC Commitment, the Lender is obligated to follow through to completion on the processing of that MCC Application. The following steps explain what to do in the case of cancellations and MCC Commitment expiration. 1. Cancellations: In a case where a decision is made not to continue with the MCC Application, written notice must be sent to the Administrator prior to the expiration of the MCC Commitment. The notice must include the reason for the cancellation and be signed by both the Lender and the Applicant. 2. Expiration of Commitment: Before the MCC Commitment has expired, the Lender must either: (1) submit the closing phase package; (2) submit a request for a 30- day extension and check for $25; or (3) submit a notice of cancellation as described in number 1 above. The following action is to be taken by the Lender if the MCC Commitment expires: a. If the loan has closed, and the closing took place within the 120 day Commitment period, Lender submits closing phase package and a check for the late closing fee (see Table 1). 11

14 b. If the loan has not closed, the Lender submits request for extension; new income verification documentation, estimated closing date, and check for late closing fee (see Table 1). c. If 120 days have passed since the MCC Commitment was issued, the Lender must submit new updated current income verification and check for late closing fee (see Table 1) (Transaction is subject to availability of MCCs at the time.) d. If the loan was canceled, the Lender submits cancellation notice as described in No.1 and check for the late fee (see Table 1). In all cases, the expiration of the MCC Commitment without the required action by the Lender will result in the following (1) the Lender is placed on "Inactive Status," meaning the Lender may submit no new MCC applications until the problem is resolved; and (2) the Lender must pay the total late closing fee(s) due. Late fines are not to be passed on to the Applicant. Failure to comply may result in the Lender's removal from the program. 2.6 Delinquent Closing Documentation If more than 30 days have passed since the MCC Commitment was issued, the program office may contact the funding lender requesting the status of the loan. If the Lender has failed to provide the MCC program office in a timely manner with the required MCC closing documentation (or a notice of loan cancellation or request for Commitment extension) the corresponding MCC application will automatically be considered delinquent. A written notice will be sent to the Lender allowing 30 days to remedy the situation. A copy will be sent to the applicant as notification that the MCC can not be issued until the Lender meets the program requirements. Such action may result in the Lender being fined and suspended from the program until the problem is remedied. 2.7 Program Charges and Fees Please see Table 1 for the charges and fees related to this program. Other than the non-refundable application fee, the Lender can only charge an Applicant applying for a MCC those reasonable fees as would be charged to a borrower applying for a mortgage not provided in connection with a MCC. Brokers are recognized as Lenders under this MCC program. They have the same rights, and pay the same enrollment fees as full service and wholesale funding lenders. 12

15 2.8 Special Responsibilities of the Mortgage Broker The Mortgage Broker originating the MCC application must name the Funding Lender who has agreed to accept the assignment of the loan. If at any time before the Escrow Closing the identity of the Funding Lender changes, the Broker is obligated to notify the MCC program office in writing immediately. Failure to do so may result in the Broker being suspended from the program. Similarly, failure to respond to requests from the MCC program office requesting information on a particular loan file may also result in suspension from the program. 2.9 Revocations a. Revocation of a MCC occurs when the residence for which the MCC was issued ceases to be the MCC holder's principal residence. b. Revocation will occur upon discovery by the Administrator or a Participating Lender of any material misstatement, whether negligent or fraudulent. c. Refinancing of the original loan/first mortgage results in a revocation and voiding of the MCC, unless the applicant applies for a Re-Issued MCC after the refinancing has closed. The Tax Credit may only be claimed for interest paid to the date of the recording of the refinancing, unless a Re-Issued MCC has been applied for and issued Transfer of MCCs for Mortgage Assumptions The MCC is not assumable. It is used only with original first mortgages Transferring MCC Applications to Another Lender If an Applicant has a pending MCC Application and decides to change from one Participating Lender to another, the MCC program will honor the original expiration date as long as all other conditions are unchanged. The transfer will be recognized and approved by the Administrator only after written notification is received from the originating Lender Changing Properties During MCC Application Process If an Applicant has a pending application and changes the property he/she is purchasing, the Lender must submit a new signed Sales Agreement and indicate by 13

16 transmittal whether the mortgage amount has changed. If the Applicant has already been issued the MCC Commitment, the following documents should be revised and resubmitted to reflect the new property address and any change in mortgage amount: a. MCC Application (first page amended and initialed by the Applicant) b. Sales Contract (first and last pages and any counter offers) c. Seller Affidavit The MCC Commitment is re-printed with the original expiration date, provided that funding is available in the jurisdiction of the replacement property Administrator Post Audit and Reports The Administrator retains the express authority to perform annual random case post audits of Participating Lender records. The Administrator must make quarterly reports on IRS Form 8330, beginning with the quarter in which the Election is made. The report must include: a. Name, address, and TIN of the Issuer. b. Date of Election. c. The sum of the products of the certified indebtedness amount (the mortgage amount or the initial principal balance) and the MCC credit rate for each MCC issued. 14

17 SECTION 3 BORROWER, PURCHASE PRICE AND UNDERWRITING REQUIREMENTS 3.1 Overview Applicant eligibility requirements are set by both Federal and State law. Income and purchase price guidelines are modified, based on federal directives every months. The Administrator will notify the Lenders when those changes take place, including the effective date of each change. For loans involving MCCs, the conventional underwriting standards should be modified to reflect a recognition of the MCC-derived mortgage interest credit in determining housing expense and indebtedness ratios. The secondary mortgage market and the mortgage insurance industry have established underwriting policies for MCC-linked loans. These are available as policy statements from the mortgage lending industry. The Lender will be required to submit certifications on which it will state that to the best of its knowledge, no material misstatements appear in the application and program documents. If the Lender becomes aware of misstatements, whether negligently or willfully made, it must notify the Administrator immediately, who will take all lawful actions to correct or mitigate the problem. The Lender should also be aware and inform the Applicant that criminal penalties are provided by federal and state law if a person makes a false statement or misrepresentation so as to obtain participation in this program. In an attempt to assure that all requirements are clear, an affidavit, which is part of the MCC Application is required to be executed by each Applicant and must be included in the MCC Application Package submitted. The MCC cannot be used with special bond-backed mortgages (e.g. CHFA, Cal Vet) or with loans with negative amortization. The MCC program imposes no other restrictions on the type of financing arrangement the Lender uses. The MCC Program allows the use of any standard mortgage instrument being generally used in the marketplace and places no restrictions on mortgage term, underwriting ratios, buyer credit status, etc. 3.2 Applicant Eligibility Requirements There are three primary eligibility requirements: (1) First Time Homebuyer Status; (2) Income Restrictions; (3) Purchase Price Restrictions. In addition, the Applicant must occupy the acquired residential housing as a "Principal Residence." 3.3 Verification of First Time Buyer Status 15

18 The Applicant applying for a MCC cannot have had an ownership interest in a Principal Residence at any time during the preceding three years ending on the date the mortgage is executed. (Exception: this requirement does not apply to acquisitions of units in target areas.) In the case of a married couple as Applicant, both parties must meet this requirement. The Lender must obtain from the Applicant an affidavit to the effect that the Applicant had no ownership interest in a Principal Residence at any time during the three year period prior to the date on which the mortgage for the MCC is executed. This must be verified by the Lender's examination of the Applicant's federal tax returns for the preceding three years, to determine whether the Applicant has claimed a deduction for mortgage interest or taxes on real property claimed as a "principal residence." Principal Residence includes a single-family house, condominium unit, manufactured home (as defined by federal law), share of a housing cooperative, or occupancy of a unit in a multifamily building owned by the Applicant. Ownership interest means ownership by any means, whether outright or partial, including property subject to a mortgage or other security interest. Ownership interest also means a fee simple ownership interest, joint ownership interest by joint tenancy, tenancy in common, or tenancy by the entirety, an ownership interest in trust, a life estate interest, and purchase by land contract. Any person who is living in a home as their primary residence and is listed on the Deed of Trust has ownership interest, even if they do not take a deduction for mortgage interest on their federal tax returns. For married couples, both spouses hold an ownership interest, even if only one is on the title. To demonstrate compliance with this requirement, Applicants must complete and sign the four-page MCC Application and Affidavit and the Closing Affidavit, and provide copies of their last three (3) years signed federal tax returns (or acceptable alternative exhibits - see below). a. If the Applicant(s) can produce the signed 1040A, 1040EZ, or 1040 federal income tax returns for the past three years with all schedules which show no deductions for mortgage interest or real estate taxes for a Principal Residence, these forms shall be included in the MCC application package. The tax returns must be signed and dated in blue ink by the MCC Applicant(s). b. If the Applicant does not have copies of the actual tax returns submitted, the Applicant can go to the local IRS office to request a computer printout of their three most recent federal tax returns. The printout is usually provided free of charge, on a while-you-wait basis. Provided that the 16

19 printout shows that no mortgage interest deduction was taken, the printout can be submitted in lieu of the tax return copies. However, if the IRS has determined that an error was made on any of the three tax returns, they will not issue a printout; they will instead issue an IRS Letter c. If the Applicant is unable to obtain a computer printout as described above, the Applicant can request instead a "IRS Letter 1722" which summarizes pertinent data from the Applicant's tax returns for the three years. However the Applicant must also obtain on the letter 1722 a notation by the IRS representing that no mortgage interest deduction was taken during the three year period. This is especially crucial if the Applicant filed an IRS 1040 (long) form for one or more of the three years. d. If the Applicant can not locate copies of the actual tax returns submitted, and wants to obtain copies from the IRS, the Applicant can order copies by using IRS Form Copies will be sent to the Applicant in 6-8 weeks. The IRS charges a fee for this service. e. In the event the Applicant was not obligated to file federal income tax returns for any of the preceding three (3) years, it will be necessary for the Lender to obtain from the Applicant a completed and signed Income Tax Affidavit which is required in place of (a), (b), or (c) above, along with the other program affidavits. This document is to be included in the application package, and must include an explanation of why the tax return was not required. f. When the MCC Commitment is issued during the period between January 1 and February 15 and the Applicant has not yet filed his/her federal income tax return for the preceding year with the IRS, the Applicant must sign the Income Tax Affidavit, stating that the Applicant is not entitled to claim deductions for taxes or interest on indebtedness with respect to property constituting his/her Principal Residence for the preceding calendar year. After February 15, the preceding year's tax return will be required. For example, after February 15, 1997, the completed 1996 return will be required. In addition to the Income Tax Affidavit the Applicant must submit documented proof of the Applicant's Residential Status (i.g. notarized letter from landlord, rent receipts, college transcript, entry visa into the United States, etc.) as well as other program affidavits. g. If the tax returns indicate the Applicant took a deduction for mortgage interest or real estate taxes on property claimed not to be the Principal Residence, documentation would be required to show proof of the 17

20 Applicant's rental status during that period (i.e. rent receipts, canceled checks). 3.4 Verification regarding Occupancy of the Home as a "Principal Residence" The Applicant must use the housing being purchased with the MCC-linked mortgage as a Principal Residence. The Lender must obtain from the Applicant, using the program affidavits, a statement of the Applicant's intent to use the residence as his/her Principal Residence within a reasonable time (60 days) after the MCC is issued. This affidavit further states that the MCC holder will notify the Lender and the Issuer of the MCC if the residence ceases to be his/her Principal Residence. 3.5 Maximum Income Restrictions and Verification Qualified Applicants must have an annual gross household income that is within program guidelines. Under the Tax Reform Act enacted in October 1986, gross income is calculated by taking the Applicant's current gross monthly income at the time of the application and multiplying this by 12. Maximum income figures are based on a percentage of the median area income as determined by HUD, every months. For the current maximum income figures see Table 1; for a general guide on income determination see Appendix C. Verification of the Applicant's income is performed by the Lender and the Administrator. For detailed instructions on calculations of the Applicants income see the MCC Handbook. 3.6 Maximum Purchase Price Restrictions Maximum Purchase Price (or Acquisition Cost) figures are based on a percentage of the Average Area Purchase Price, as determined and updated by the IRS every months. For current maximum single unit purchase price figures, see Table 1. All housing purchased under the MCC program falls under the designation "New Construction" or the designation "Previously Occupied." The pivotal factor is whether the home has been occupied. Therefore a "new" unit, whose construction was finished two months ago, then rented to a tenant, falls under the designation "Previously Occupied." Two to Four Unit Properties If the subject property has two to four units and is in a non-targeted census tract, the Lender must submit documentation verifying that the structure was first occupied at least five years prior to the date of application. An appraisal or property profile of the subject property showing that it was more than five years old would normally suffice as verification. Two to four unit properties of any age, new or previously occupied, are eligible in targeted areas. To determine the maximum purchase price of a two to four unit property 18

21 multiply the single family purchase price limit (see Table 1) by the following factors: Purchase Price Limit Factors: a. 2 unit properties b. 3 unit properties c. 4 unit properties Penalties for Applicant Misrepresentation Strict penalties may be imposed on any Applicant making a material misstatement, misrepresentation or fraudulent act on documents submitted to obtain a MCC. Any person making a negligent material misstatement or misrepresentation in any affidavit or certification made in connection with the application for or the issuance of a MCC shall be subject to all applicable fines and penalties. 3.8 Mortgage Requirements New Mortgage Requirements: A Mortgage Credit Certificate cannot be issued in conjunction with acquisition or replacement of an existing mortgage or land contract. The Lender and the Applicant, using the program affidavits, state that the mortgage being acquired in connection with the certificate will not be used to acquire or replace an existing mortgage or land contract Prohibited Mortgages: (a) Second mortgages. Only first mortgages qualify for this program; (b) mortgages funded with a qualified mortgage bond or a qualified veteran's mortgage bond are not eligible. The Lender and Applicant, using the program affidavits, state that no portion of the financing for acquisition of the residence is provided from a qualified mortgage or veteran's bond; (c) loans with certain or possible negative amortization No Interest Paid to Related Persons: No interest on the mortgage (or certified indebtedness) amount may be paid to a person who is a "Related Person," as that term is defined under the Internal Revenue Code and applicable regulations. The Lender must obtain from the Applicant, using the program affidavits, a statement to the effect that no Related Person has or is expected to have, an interest as a creditor in the certified indebtedness amount. 3.9 Lender Record Keeping and Federal Report Filing 1. The funding Lender must file an annual report, using IRS Form As a courtesy, the Administrator will mail Lender a list of all MCCs funded by Lender for verification. (Lenders who use the MCC processing software will find that the software prepares the IRS report automatically.) 19

22 2. For six years, the Lender must retain: a. Name, mailing address, and TIN (social security number or tax identification number) of the MCC holder. b. Name, mailing address, and TIN of the issuer (See Table 1). c. Date of loan (date of issuance); certified indebtedness (mortgage) amount; and credit rate of the MCC certificate Administrator Annual Record Keeping The Administrator shall make an annual report for each year beginning July 1 and ending June 30. The report must include: a. Number of Mortgage Credit Certificates by Income and Acquisition Cost; b. Volume of Mortgage Credit Certificates by Income and Acquisition Cost; c. Mortgage Credit Certificates for qualified Home Improvement and Rehabilitation Loans Recapture Tax If a MCC holder sells or otherwise disposes of the home during the nine years after the purchase of the home, in conjunction with which the buyer receives a MCC, all or part of the MCC benefit may be "recaptured" by the federal government. The recapture is accomplished by an increase in the homeowner's federal income tax for the year in which the home was sold. The recapture only applies, however, if the home is sold again and the home owner's income has increased above specific levels Facts about the Recapture Tax 1. The tax is payable in the year the MCC holder sells his/her home. 2. Exceptions to the Recapture Tax (i.e. no recapture tax is due if ) a. home is disposed of at a loss; b. home is disposed of due to home owner's death; 20

23 c. home is disposed of later than nine years after close of mortgage loan; d. home is transferred either to home owner's spouse or former spouse due to divorce and home owner has no gain or loss included in home under 1041 of the Internal Revenue Code; or e. Home owner's Modified Adjusted Gross Income is less than the adjusted Qualified Income in the taxable year in which the house was sold. "Modified Adjusted Gross Income" is the adjusted income shown on the home owner's federal income tax return for the year in which the Residence is sold or transferred plus any interest received or accrued which is excluded from gross income received during that year, minus the amount of gain from the sale of the Residence including gross income on home owner's federal income tax return for that year. 3. Maximum Recapture Tax is the lesser of: a. 6.25% of the largest principle amount of the mortgage loan and is the "Federally subsidized amount" with respect to the loan; b. 50% of the gain on the sale of the home, regardless of whether that gain must be included in the home owner's income for federal income tax purposes; or c. the calculated Recapture Amount. Procedures 1. The Initial Notice of Potential Recapture Tax must accompany the application phase documents before the MCC Commitment will be issued. 2. The Notice to Mortgagor of Maximum Recapture Tax is issued by the Administrator and sent to the homebuyer with the Mortgage Credit Certificate after the close of escrow. 3. The Recapture Tax form is a complicated form which has on it specific instructions for completing it. The actual recapture tax, if any, can only be 21

24 calculated when the home is sold, because both the sales price and the home owner's income at the time of sale must be known. For an in-depth explanation of the Recapture Tax, please see Appendix D. 22

25 SECTION 4 CHANGES PRIOR TO CLOSING 4.1 Changes in Current Income The eligibility of the Applicant for a MCC is based upon the Applicant's current income. The MCC Program will issue the MCC Commitment based on facts pertaining to income as they are determined as of the date the MCC Commitment is issued. The income verified for the MCC Commitment is valid as long as the loan closes within 120 days after the financial information was originally submitted and there are no additional sources of income which should have been reported and were not. Upward changes in income sources already reported (i.e. raises on the job) will not affect the validity of a MCC Commitment as long as the loan closes within 120 days from the time the MCC Commitment was issued. If the loan does not close within 120 days, a new application for a MCC must be submitted and current income verified. 4.2 Changes in Marital Status If the Applicant gets married after issuance of the MCC Commitment and prior to closing, the spouse must satisfy the prior home ownership requirements contained in the MCC Application and Affidavit and the Closing Affidavit, and the Lender must notify the MCC program Administrator. The Administrator will re-calculate the Applicant's household income to include the new spouse's current income. If the re-calculated total household income exceeds the applicable maximum income guideline, the MCC Commitment will be canceled. 4.3 Change in Acquisition Cost If the total acquisition cost of the residence purchased in connection with the MCC increases so as to exceed the acquisition cost limitations set forth herein, the MCC Commitment shall be revoked. For a change in acquisition cost after the Commitment and prior to escrow closing which does not exceed maximum price guidelines, the Lender will be required to originate and submit a new version of: the MCC Application (page one amended and initialed by the Applicant); Amended Escrow Instructions; and the Seller Affidavit. 4.4 Changes in Loan Amount 23

26 Any changes to the loan amount which occur after MCC Commitment and prior to escrow closing must be reported to the Administrator immediately by phone, and followed up in writing. The change must also be declared on the Closing Affidavit. If the amount of the loan increases, thereby causing an increase in the credit amount, the MCC Commitment will be revoked if that increase in credit amount increases the aggregate credit limit by the State. 4.5 Lender's Obligation to Notify Administrator of Material Changes The decision to issue a MCC Commitment is based (in part) upon the Applicant's and Seller's Affidavits and the Lender's certification that the requirements necessary for issuance of a qualified MCC have been met. The Lender must immediately notify the Administrator in writing of any change in the circumstances upon which the MCC Commitment was issued. If any other change of the circumstances upon which the MCC Commitment was issued occur so that the MCC to be issued will not meet the requirements of a qualified MCC, the MCC Commitment will be revoked. This is the end of the MCC Program Manual. A second document, the MCC Handbook, provides a quick reference for MCC processors. It includes a step-by-step application guide, an outline on the sequence of the MCC process, and a guide for underwriting an MCC loan. 24