The "Buy and Bail" Rule

[Cassie Chun]

I just learned of this yesterday so here is a brief explanation for those who don't know what Buy and Bail is/was...

A buy and bail transaction is where a consumer decides to rent out their primary residence to take advantage of buying a bigger, or better home for less than what they owed on their current home. This was a big deal during the real estate crash in 2007/2008. A consumer uses the rental income from the previous primary residence to qualify for the new home and then allows the rental home to go into foreclosure. In response, mortgage underwriting guidelines morphed to identify and thwart “Buy and Bail” applications and anyone converting a primary residence into a rental in order to buy a new home were required to have a minimum of 30% equity in the rented home before rental income could be used to offset the mortgage payments due on the new home.

I read on a blog that Fannie Mae removed the equity restriction in 2015 and homeowners can rent out their current residence and use 75% of the rents received to offset the mortgage payment on the new home.

My brother applied for a new mortgage and wants to use current rental income from the 3-unit he lives in now, but the lender told him that his current home must have 25% equity before the rental income can be considered. He referenced the Buy and Bail rule as the reason for this requirement. The current primary has roughly 15% equity. It was purchased just 12 months ago with a 5% down payment.

Is this Buy and Bail rule still enforced by Fannie/Freddie or is it a Lender specific requirement?

Has anyone experienced a similar situation and found a creative and legal way around the equity requirement?