FHA 203(k) Loans for Buying and Refinancing and Rehabbing Properties
By James Hussher
There is a type of mortgage offered by the FHA (Federal Housing Authority) that many consumers are unaware of. It is called a 203-K loan. FHA-approved lenders may offer this type of loan. The U.S. Department of Housing & Urban Development (HUD) then insures the loan.
It basically allows a borrower to purchase or rehabilitate a 1 to 4-unit residential property and the loan includes not only purchase money but repair money as well, up to 97% or the After Repair Value (ARV).
Prior to this loan's availability, if you wished to buy a property that needed work to make it livable, you had to find and qualify for a purchase money loan, then apply and qualify for and obtain another loan to get the repair work done. Both of these loans would often be at high interest rates and have a very short term. Meanwhile you had to start making mortgage payments on a home that you may not have even been able to live in yet! When you finally got the construction finished and moved in, only then could you apply and qualify for an actual permanent long-term mortgage.
HUD and FHA recognized a need and thus was born the 203-K program. It is a single loan that purchases the property plus provides necessary rehab funds, and it has a fixed or adjustable term. The government feels this loan can contribute to community revitalization and help many people into a first-time home of their own.
Here are some of the details:
Resdential one to four units, or will be converted from single-family into up to four residential units, all attached to main structure. (not, for example, build 3 cottages in the large back yard to rent out.)
May also combine a multi-unit structure into a new single-family dwelling (knock down walls and make a duplex a single-family residence, for example).
Mixed-use structures may be eligible as long as the 203-K funds are only used on residential portions of building and the commercial portion occupies no more than a certain percentage of the property.
Special limitations for condominiums.
Certain improvements such as swimming pools and other "luxury" improvements do not qualify. However, painting, decks and room additions are permitted.
203-K mortgages are not limited only to purchasing property. They can also be used to refinance an existing mortgage and gain cash out of equity to do repairs that are going to increase the appraised value. There is also provision for purchase of land and movement onto the land of a home such as a modular home.
HUD and local code enforcement standards must be met for all new construction, all building permits pulled, etc. Construction plans and estimates must be submitted through the lender for HUD approval.
When the loan closes, the seller of the property will be paid and remaining funds deposited into an escrow account to be paid to the contractor in stages as the work is completed. The account may also include up to 6 months of mortgage payments to be made until the home becomes livable, and various other contingency monies.
Maximum mortgage amount is the lesser of :
110% of the expected After Repair Value. OR -
The "as-is" appraised value plus the cost of the rehabilitation.
3% investment must be contributed by the buyer.
There are also some special incentives for installation of solar energy devices or other energy-saving implementations.
It sounds like a complex process, and it can be, what with before and after appraisals, inspections, architectural plans, etc.
Now here is some good news: there is a scaled-down version of this loan, called the "Streamline-K" that is available for smaller-scale operations. It has some limitations, a homeowner can only finance up to $35,000 for repairs in addition to purchase or refinance amount. But for smaller-scale projects, it eliminates a lot of the paperwork of the regular 203-K loan process, including the need for hiring an FHA Inspector to certify the work. The homeowner can also do a lot of the work themselves but is not paid for labor, only materials.
As always, consult a good mortgage broker for guidance before and during the loan process.