A potential home buyer who wants to buy an older home that needs repair might want to consider the FHA 203k rehab loan. This is a federally guaranteed home loan that allows you to wrap a home improvement loan into the overall mortgage. The advantages of the 203k loan are many. The biggest advantage is that you will pay a much lower interest rate on the renovation loan than you generally will anywhere else. Second, you can repay the loan over the life of the loan, rather than in a few years, as with many personal loans and the FHA 203K loan rates are typically priced very competitively.
If you want to get a 203k loan to fund your home rehabilitation, experts recommend the following five tips:
#1 Mortgage Pre-Approval
Be sure that your loan originator has done FHA 203k loans before. You should ask him or her if they can explain the entire 203k process to you. They also should be able to show you that they have closed 203k loans before. Also, you should get a mortgage pre-approval that spells out the terms, limits and the qualified FHA 203k loan rate.
#2 Know the Costs
An FHA 203k loan is not for every buyer or property. Originating this type of a FHA program takes more time and expertise for the loan originator. These house construction loans are more complex and there are more players involved, so it can add several weeks to the loan process. You should remember these facts if you are buying a property that needs repairs. Also, make sure that the price you pay for the home reflects the fact that it needs repair.
#3 Get a Good Contractor
This is probably the most critical factor when you get a 203k loan from FHA. We recommend that you find highly recommended, licensed contractors that your family or friends have used recently. You do not want to hire a part time contractor who has another day job. If the contractor is not experienced, it is going to be difficult to get the loan to go through. That is why we recommend that you interview several contractors and ask for references.
Having a top notch contractor is important not just for the quality of the rehab. The contractor needs to work with the underwriter to get him or her the documentation that is needed to close the loan. If your contractor does not communicate well, this could prevent the loan from being finalized.
Further, the bank is only going to lend you so much money, so the estimates need to be on target. The mortgage company also will need several pieces of documentation that show that the contractor is qualified to do the work. The best contractor is not usually the cheapest: It’s the one who does the work right at a fair price, and can satisfy the underwriter’s paperwork requirements.
#4 Make Up a Wish List
When you think you have found a house that you look, put together a list of the things you want to renovate to make the home into the perfect place for you. You probably cannot do everything you want, but with your list, you can set priorities. It is smart to go to your contractor to get a general idea of what each item will cost. This will help you to better negotiate your sales price with the seller.
#5 Create Equity by Negotiating the Price
Do not overbid on a property. Remember that the property has to appraise. With most of the items that you want to renovate, the appraised value after repairs has to validate that the repairs were worth doing. If you do not negotiate the price of the home low enough, you could end up with less equity than the amount of cash you put down.
Are you interested in doing a 203k loan? Here are some more details to consider:
- The FHA 203k loan allows you to both buy the home and to fund the repairs at once.
- You may be able to borrow enough money to pay for rent in another home while your new home is being renovated.
- The project has to be finished within 180 days. Funds will be placed in escrow and are paid to contractors as the work is done.
- If you are the owner or occupant of the home, you can use a FHA 203k loan, but it is not designed for investors who are not living in the subject property.
- The minimum amount to borrow is $5,000, and the maximum depends upon where you live. Generally, the amount borrowed is in the area of $20,000.
- The interest rate varies based upon credit and rates at the moment. You will probably pay 1% higher than you would on a regular FHA program. That is the price you pay for getting the loan approved faster, and for being able to pay it back over the life of the loan.
The FHA 203k loan is an excellent vehicle for people who want to buy an older home and want to get it repaired at a low interest rate. If you are buying an older home, you will rarely be able to get a home renovation loan for anywhere close to an FHA loan interest rate. The FHA is backed by the government, so the rate is the lowest you will ever see. Definitely consider the 203k loan or construction line of credit to get needed home repairs done on your home.
6 More Things You Need to Know About FHA 203K Loans
Do you want to buy a fixer upper with an FHA construction loan? Buying a home that needs repair may be a good choice for many borrowers. A home that needs work can have less competition from other potential buyers. There also may be the possibility of getting a lower price due to the repairs needed. If you are able to complete thousands in repairs, you further may be able to realize more equity in the property in a short time.
But there are valid reasons that many people hesitate to buy a fixer upper. It takes more work, time and planning than buying a new home. But if you are up to the task, you can really benefit with your fixer upper home purchase. Are you looking for “fix and flip” loans?
203k Loan Overview
If you are getting an FHA loan, you can also get an FHA 203k loan, which allows you to finance the home purchase as well as desired repairs. The lender tracks and verifies all repairs that are made, so it may be willing to approve a home loan that it would not have otherwise approved.
The FHA 203k loan addresses one of the most common issues with buyer a fixer: Lenders don’t want to approve homes that need work. It is a risk for a lender to lend on a home that needs a lot of work. Homes have to mean a minimum standard for safety and livability. If the home is a wreck, the lender may not approve the loan.
But the 203k loan process allows you to buy a fixer upper and finance repairs all in one transaction. This will allow the approved FHA finance companies to green light the loan even though it currently needs work.
If you are considering an FHA 203k loan, here are some important things to know up front:
Choose the Right Home Improvements
FHA will only allow you to finance certain types of repairs. It will require that any health or safety hazards be fixed first. These would include mold, broken windows, damaged roof, foundation problems, lead paint, and handrails that are missing.
After that, you can choose from many cosmetic items to fix. You might want to upgrade the kitchen and bathroom, and then replace the appliances. You can get an FHA 203k loan for these upgrades.
Choose the Right Contractors
After you get your repair and upgrade list in order, you need to find licensed contractors. They must be professionals and insured; you can’t hire your brother to do the work, unless he’s a licensed contractor that is. Approved contractors need to have a full-time business. You also cannot do the work yourself unless you are licensed and insured.
Note: Best results for your home renovation project will usually come from using highly experienced and professional companies who have done 203k loan renovations before. Your entire home renovation project can be delayed if the contractor you choose does not get the work done on time. There will be regular FHA inspections of the work.
Again, we emphasize: Getting experienced and reliable contractors who know the FHA 203k loan process will be invaluable to getting your project done on budget and on time.
Once you have chosen your contractor, you have to get official, written bids of the work you want done. The bids have to be detailed and accurate. The lender will give the final bids to the appraiser, who then builds in the value of the proposed work into the future property value. It is upon these facts and actions that FHA will base the size of your entire loan.
Note: If the bid from the contractor changes later, it will incur more appraisal costs and could require the lender to reapprove the loan. This leads to delay.
Note that there are two types of 203k loans. The first is the 203k streamline loan that allows you to perform minor repair work; the most popular are kitchen and bathroom upgrades.
FHA says that the limit for a 203k streamline loan is $35,000. But FHA will build in a buffer of 15% of the total estimated costs. This is a ‘just in case’ fund that will cover any cost overruns. So, your real maximum repair can be around $31,000.
Some of the acceptable renovations in addition to kitchen and bathroom renovations are:
- Appliance upgrades
- Replacing roof
- Painting inside and outside
- Energy efficiency improvements
- Carpet and floor replacement
A streamline 203k loan cannot be used to do any structural work, such as moving load-bearing walls or adding rooms.
The other option is the standard 203k loan. With this type of loan, you can do major home renovations, such as altering the structure, connecting to public water line, moving the entire house, and adding rooms.
FHA 203K Rates
Rates are higher for the 203k portion of your FHA loan. But you will still have a very low rate for your home repairs and renovations. In fact, it is unlikely that you will ever find a lower interest rate for home renovations than a 203k loan. Over the years, FHA 203k loan rates have consistently been in line with advertised prime interest rates online.
203k loans are great, but they will definitely add more paperwork and time to the closing of your loan. You just need to know that using a 203k loan on your purchase will add weeks more to the approval process, and as well as additional weeks before the home is ready to live in. You can, however, live in the home in some cases during renovations, depending upon extent of repairs.
Using a 203k loan from FHA is a good way to buy a fixer upper and to get it renovated fairly affordably. Just be sure to follow our tips above to ensure a smooth process.