Non-Owner-Occupied

What Does Non-Owner-Occupied Mean?

Non-owner-occupied is a property classification in real estate for properties that are not occupied by their owners. Generally, the classification is only used in residential real estate. The term is commonly used for single-family homes and condominiums that are owned but rented to tenants. This classification can also apply to multi-family rental properties.

The occupancy status of a property is determined at the time the owner registers the house or applies for a mortgage. If the owner plans to live in the property, the property will be classified as owner-occupied. A property with multiple units can also be owner-occupied, as long as the owner lives in one of the units.

Generally, only properties with up to four units can be considered owner-occupied under such a rule. Beyond four units, a property cannot be considered owner-occupied unless the owner occupies a majority of the units. However, the rules vary depending on the region in question.

Non-Owner-Occupied Mortgage

A mortgage on a property in which the owner does not reside is known as a non-owner-occupied mortgage. The distinction between owner-occupied and non-owner-occupied is important for real estate lenders to determine the interest rate they should charge on a mortgage.

All else being equal, non-owner-occupied mortgages carry higher interest rates and down payments than owner-occupied mortgages. This is because borrowers of non-owner-occupied mortgages tend to experience a higher probability of default. A key reason for the higher default probability is that the property is not occupied by the owner as a residence. Most non-owner-occupied properties are held for investment purposes and rental income.

When a bank issues a mortgage loan to a property owner, it generally holds the property as collateral to ensure repayment. Banks do so to insure themselves against default. In case the owner of a property defaults on the mortgage, the bank can claim the property to recover its money.

Defaulting on an owner-occupied property would make an owner homeless. It is why owner-occupied properties take on a lower default risk than non-owner-occupied properties. Since non-owner-occupied properties are generally held for investment purposes, borrowers are more likely to default. The risk increases if the market values of their properties fall significantly. A perfect example is the housing market crash of 2008.

Occupancy Fraud on Non-Owner-Occupied Properties

Occupancy fraud occurs when owners lie on their mortgage applications regarding whether the property will be owner-occupied or non-owner-occupied. Since owner-occupied mortgages carry a lower interest rate than non-owner-occupied mortgages, borrowers tend to lie about the intended use of their property. It is often difficult for lenders to verify the information provided. However, if a fraud is discovered, the borrower could face legal implications for bank fraud.

It is important to note that some exceptions allow owners to rent out properties that were classified as owner-occupied in mortgage agreements. The most common exception is when the owner needs to relocate due to work, family, or other unavoidable situations.

In such cases, the borrower/owner should inform the lender about the change in circumstances to avoid committing occupancy fraud. Most mortgage agreements protect the borrower against legal action in such situations, as long as the mortgage application was truthful at the time it was signed.

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CFI offers the Certified Banking & Credit Analyst (CBCA)® certification program for those looking to take their careers to the next level. To keep learning and developing your knowledge base, please explore the additional relevant resources below:

• Probability of Default
• Quality of Collateral
• Residential Properties REITs
• Subprime Mortgage
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