Ever Consider a Fixer-Upper, But Were Afraid Due to Lack of Construction Knowledge and Ability to Finance the Work?
The FHA Created the 203-K Loan Program to Help!
One Mortgage to Purchase the Fixer-Upper and Pay for Repairs/Upgrades
203-K Consultants Help Analyze Needed Repairs, Estimating & Contract Negotiations
203-K Appraisers Will Make Sure You'll Have Equity & Marketability
Types of FHA Remodel Loans
Over the decades, the Federal Housing Administration's mortgage loan programs have helped millions of homeowners purchase homes of their own. The FHA doesn't make mortgage loans itself, however. Rather, the FHA insures or backs a couple of different mortgage products made by approved lenders, including the agency's 203(b) and 203(k) loans. The major difference between an FHA 203(b) and a 203(k) mortgage loan is that one is intended for homes in need of extensive repair while the other one isn't.
FHA 203(b) Mortgages
The 203(b) is the most common mortgage loan product insured by the FHA. If you've found a home for sale and it needs $5,000 or less in repairs an FHA 203(b) insured mortgage may be for you. FHA 203(b) mortgage funds also are disbursed to borrowers and their lenders in a single loan amount, much as with most conventional mortgages. Many foreclosed homes owned by the FHA and its parent agency, the Department of Housing and Urban Development (HUD), also qualify for FHA loans.
FHA 203(k) Mortgages
FHA 203(k) mortgages often are known as rehabilitation mortgages, because they're intended for homes needing significant rehabilitation. For example, you may find a home needing a teardown of its roof plus extensive foundation work. An FHA 203(k) mortgage is disbursed in several stages, including the amount needed to purchase the home and then additional distributions as repairs are certified as complete. HUD-owned homes needing significant repairs are also offered for bid at its website, and they may qualify for FHA 203(k) mortgage financing.
FHA 203(b) Home Appraisals
If you buy a home using an FHA 203(b) loan, it will have to undergo an FHA-specific home appraisal. FHA 203(b) home appraisals are used to ensure that homes being purchased by eligible homebuyers meet agency guidelines for safety and security. For example, an appraiser conducting FHA 203(b) home appraisal will examine the home's electrical system to ensure it's safe. Typically, minor repairs identified on an FHA 203(b) home appraisal must be completed prior to the homebuyer closing on her loan.
FHA 203(k) Home Appraisals
A home appraisal for an FHA 203(k) loan takes into account a home's post-rehabilitation projected value. For instance, you might find a rundown home listed at $80,000 and in need of another $80,000 in repairs. Your FHA 203(k) loan's home appraisal will determine if your rundown home will actually be worth $160,000 after its rehabilitation. Depending on the FHA 203(k) mortgage lender, an "as-is" value appraisal of your rundown home may be required in addition to its projected post-rehab value appraisal.
FHA Lending Guidelines
FHA-insured mortgages are attractive for homebuyers with less-than-perfect credit and relatively low down payments. Lending guidelines for FHA 203(b) and 203(k) mortgage loans generally are the same. The FHA has a minimum credit score requirement of 500 for a 10 percent down payment and 580 for 3.5 percent down; however, FHA lenders may have more stringent credit score requirements.
Title I Home and Property Improvement Loans
HUD insures private lenders against loss on property improvement loans they make. The applicant must have a good credit history and the ability to repay the loan in regular monthly payments. Both large and small improvements can be financed. HUD does not lend money for property improvements. Loans on single family homes may be used for alterations, repairs and for site improvements. Loans on multifamily structures may be used only for building alteration and repairs. Title I can be used in conjunction with a 203(k) Rehabilitation Mortgage. A property owner may apply at any lender (bank, mortgage company, savings and loan association, credit union) that is approved to make Title I loans.
Maximum Loan Amount:
Single family house - $25,000
Manufactured house on permanent foundation (classified and taxed as real estate) - $25,090
Manufactured house (classified as personal property) - $7,500
Multifamily structure - an average of $12,000 per living unit, up to a total of $60,000
Maximum Loan Term:
Single family house - 20 years
Manufactured house on permanent foundation - 15 years
Manufactured house (classified as personal property) - 12 years
Multifamily structure - 20 years
Interest Rate: The interest rate is a fixed rate that is generally based on the most common market rate in the area. It is negotiable between the lender and the borrower, and may vary between lenders.
Loan Security: Any loan over $7,500 must be secured by a mortgage or deed of trust on the property.
Loan Prepayment: There is no prepayment penalty.
Minimum Age of New Residential Structures: Structure must have been completed and occupied for 90 days.
The 203k loan has two options: The 203k Streamline loan and the 203k Standard loan.
203k Loans Are Renovation Financing FHA Loans
Both loans are part of the FHA loan family, so FHA underwriting rules and guidelines are used which also means the these loans are available to home buyers with a minimum 3.5% down payment. The 203k Streamline and 203k Standard loan are also available for 203k refinance purposes. The maximum dollar amount available for repairs on the 203k refinance is different than the dollar amount for home purchases.
Make Sure the Lender Does Both Types of 203k Loans
It’s always a good idea to make sure before selecting a 203k lender that the lender can do both the 203k Streamline as well as the 203k Standard. The maximum repair amount allotted for the 203k Streamline is $35,000, many prospective homeowners bump up against the ceiling of the $35,000 and if a certain part of the project goes over budget or if the appraiser adds a health and safety issue that must be fixed that you didn’t have included in your $35,000, you may need to flip the loan from the 203k Streamline to the 203k Standard to cover all the work and to bump your repair allotment.
203k Loan Rates and Fees
The difference between a regular FHA loan interest rate and the 203k Streamline loan interest rate varies from lender to lender but typically it’s about 0.25% - 0.50% higher for the 203k Streamline so it won’t break the bank. Fees for the 203k Streamline will also vary; but depending on how you structure the loan, the fees may be $500-$750 higher than the normal FHA loan. The Standard 203k loan is much more involved (with the additional construction) than the 203k Streamline therefore it’s fees are $1500-$2000 higher than the normal FHA loan and interest rates are typically 1% – 1.5% higher than the normal FHA loan; however, after 6 monthly payments have been made you can apply for a no or low cost FHA Streamline to convert the 203k Standard to a normal FHA loan to lower the rate. So you could hypothetically apply for a 203k loan where you build in fees into the rate, which produces a higher interest rate. This would mean less upfront money when buying the home. You could then (after, say, 12 payments were made) apply for a Streamline loan to get the prevailing lower rate which would roll the previous fees into the new 203k refinance loan.
You may use a 203(k) loan to finance the rehabilitation of the following types of properties. Cooperative units and investment properties are not eligible.
1 A one- to four-unit residence that has been completed for at least one year. Examples include detached homes and townhouses.
2 Condominiums in one- to four-unit buildings (interior improvements only; additional restrictions apply).
3 Mixed-use residential properties that include commercial space.
4 Conversion of a one-unit residence to a two-, three-, or four-family dwelling.
5 Conversion of an existing multi-unit dwelling down to a one- to four-family unit.
6 An existing house or modular unit on another site that can be moved onto the mortgaged property. Release of loan proceeds for the existing structure on the non-mortgaged property is not allowed until the new foundation has been properly inspected and the residence has been properly placed and secured to the new foundation.
7 Homes that have been demolished or will be razed as part of rehabilitation work if some of the existing foundation remains in place.
What is an FHA 203k Loan?
An FHA 203k loan is basically the same as a regular FHA [called a 203(b)], but with a twist. An FHA 203k loan permits home buyers to finance repair/improvement money into their mortgage to repair, improve or upgrade their home. With this loan option, home buyers can quickly and easily tap into cash to pay for property repairs or improvements, such as those identified by a 203k Consultant, 203k Appraiser or home buyer (see list below). There are two types of FHA 203k Loans: Standard (minimum rehab $5,000 up to FHA maximum loan amount) & the Streamline/Limited (minimum rehab $0 – $35,000…cannot exceed FHA maximum loan amount). The FHA 203k Standard loan is more like a construction project, and the FHA Limited 203k Loan is for more minor improvements. CLICK HERE for the FHA maximum mortgage amounts for your area. Example for the Norfolk-Virginia Beach Area in 2017: Single-Family for either a FHA or Fannie/Freddie = $459,000 and for a HECM = $636,000. An over-simplified example: Purchase price is $100,000. Upgrades/Repairs/Improvements will cost $50,000. Borrower’s base loan amount is $150,000 (not to exceed FHA maximum loan amount).
What are the benefits of using an FHA 203k Loan?
The purchase of a house that needs repair is often a catch-22 situation, because the bank will not lend the money to buy the house until the repairs are complete, and the repairs cannot be done until the house has been purchased. HUD’s FHA 203k loan program can help you with this quagmire and allow you to purchase or refinance a property and include in the loan, the cost of making the repairs and improvements. In addition, the interest on the FHA 203k loan qualifies for the mortgage interest tax deductions like all other mortgage loans. Therefore, the interest that the borrower pays on this “construction” can be all tax deductible! The FHA 203k loan program improves the real estate market because it requires a property to actually be improved….not just purchased. Because of the improvement requirement with the FHA 203k loan program, real estate values are increased, which helps other homeowners in the same neighborhood, invigorates communities and creates work for contractors and commerce is conducted by the purchasing of goods and services. Simply put, the FHA 203k loan program improves everything associated with it.
Who qualifies for an FHA 203k Loan?
Any owner occupant primary residence borrower or qualified non-profit group who qualifies for an FHA loan can also qualify for an FHA 203k Loan. No investor purchases using the FHA 203k loan have been allowed since 1996.
What type of properties qualify for an FHA 203k Loan?
An FHA 203k Loan can be used for one-to-four unit dwellings, such as Single Family Detached Homes, Duplexes, Triplexes, 4-plexes, Condominiums (certain restrictions apply) and Mixed-Use Residential (certain restrictions apply).
What is the maximum loan amount for an FHA 203k Loan?
It depends on the county where the property is located. CLICK HERE for the FHA maximum mortgage amounts for your area. Or you may contact your FHA lender for this information.
What types of repairs and/or modifications are acceptable for an FHA 203k Loan?
203k loans can do a myriad of repairs and home improvement projects and keep in mind all repairs are done after escrow closes so buying a home in as-is condition with broken windows and other health and safety issues (which normally a lender would not allow) is not a problem with these loans.
The 203k Streamline loan is an abbreviated version of it’s big brother, the 203k Standard loan so let’s start with the 203k Streamline loan. The 203k Streamline loan is for more cosmetic repairs and remodeling. But cosmetic is a broad term so let’s start with what you can’t do with the 203k Streamline and the $35,000 in repair money that comes with it: Room additions, moving load bearing walls, pool repair or construction, landscaping, hardscaping, any repair that requires blueprints, and anything structural in nature which would also include dryrot repair, and luxury items. There are some other exceptions but generally you can do about anything except the above listed items.
So go ahead and get the new appliances, floors, carpet, paint, countertops, lighting, roof, new HVAC unit, gutters, windows and the list goes on and on, and upgrade, remodel and repair that home and know you have up to $35,000 to spend on fixing it up and putting your touches on it.
The 203k Standard loan does everything the 203k Streamline can’t do. Room additions are allowed, you can downsize from a 6 unit to a 4 unit, increase from a two unit to a four unit (4 units maximum), and even go as far as tearing the property down completely (as long as you keep some of the original foundation) and have funds to rebuild it. The maximum dollar amount you can borrow for the 203k Standard depends on your state and county FHA maximum loan limits. The improvements must also make sense for the neighborhood. You can’t make a 2 bedroom, 1 bathroom into a 5 bedroom, 4 bathroom if the home is surrounded by other 2 bedroom, 1 bathroom homes...it has to make sense. Also keep in mind that each 203k lender may put additional overlays (rules) on the loan on what you can and can’t do for example some lenders will not allow foundation repairs even though the program allows it. The lender has the last say.
The 203k Standard as of August 2011 does allow for up $1500 in pool repairs, and some limited hardscape like a driveway but it won’t allow for decorative, luxury hardscape. The program does allow for some landscape (lenders may have their own overlays on this) but when you consider everything it can do, these are minor things.
So if you’re short on funds and looking for renovation financing or can’t get a home equity line of credit, the 203k Streamline or the 203k Standard loan can fix up homes that are being bought in as-is condition or homes that just need some TLC or updating.
Any repairs/improvements/modifications/modernizations that add value to and/or improve the property are acceptable for an FHA 203k Loan. The improvements must comply with HUD’s Minimum Property Standards (24 CFR 200.926d and/or HUD Handbook 4905.1) and all local codes and ordinances. Structural modifications and any work in excess of $35,000 are NOT allowed for the FHA 203k Streamline/Limited, but the FHA 203k Standard does allow for structural modifications, landscaping and for work in excess of $35,000. Luxury items such as swimming pools, BBQ’s, Gazebos, spas, etc. are not allowed for any 203k loan. However, pool repair (subject to lender approval) is allowed on an FHA 203k loan. Examples of allowable repairs/modifications/renovations for the FHA 203k loan (not an all-inclusive list) are:
Energy Efficient upgrades (windows, insulation, solar systems, etc.)
Repair/Replacement of roofs, gutters and downspouts
Repair/Replacement/upgrade of existing HVAC systems
Repair/Replacement/upgrade of plumbing and electrical systems
Repair/Replacement of flooring...wood, tile, carpet, etc.
Kitchen or Bath remodeling
Adding a family room, bedrooms, or bathrooms
Adding a porch, deck or patio
Adding a second story
Repairing an existing swimming pool (limited $1500)
Expanding or building a garage or carport
Renovating a deteriorating property, such as repairing a chimney or termite damage
Painting, both exterior and interior
Weatherization, including storm windows and doors, insulation, weather stripping, etc.
Purchase and installation of built-in appliances, including free-standing ranges, refrigerators, washers/dryers, dishwashers and microwave ovens
Accessibility improvements for persons with disabilities
Lead-based paint stabilization or abatement of lead-based paint hazards
Repair/replace/add exterior decks, patios, porches
Basement finishing and remodeling
Window and door replacements and exterior wall re-siding
Septic system and/or well repair or replacement
Structural repairs/modifications (moving walls, repairing foundations, etc.)
Is there a minimum or a maximum rehab amount for an FHA 203k Loan?
FHA 203k Limited: $0 minimum – $35,000 maximum*
FHA 203k Standard: $5,000 minimum – no pre-set maximum*
*The maximum is always limited by lesser of the borrowers approval limit, the FHA maximum mortgage limit for the area or 110% of the improved appraised value.
Will my mortgage lender inspect the repairs/improvements?
According to HUD, for the Standard 203k version, all work must be inspected by the 203k Consultant or the FHA appraiser prior the contractor receiving each draw/payment. According to HUD, on the Limited 203k version, for repairs in excess of $15,000, the Lender must perform or obtain an inspection of the completed work by a third party. For repair costs not exceeding $15,000, the Lender is not required to perform, or have others perform, inspections of the completed work. However, the Lender or borrower may choose to obtain or perform inspections if it believes such actions are necessary for program compliance and/or risk mitigation. Lenders may also ensure that the repairs and/or improvements have been completed by obtaining contractor’s receipts or by a signed Mortgagor’s Letter of Completion. If the Lender determines that an inspection(s) by a third party is necessary to ensure proper completion of the proposed repair or improvement item, the Lender may charge the borrower for the costs of no more than two inspections per each contractor. To eliminate the need and cost for an inspection of the completed repair(s) or improvement(s) when not exceeding $15,000, the Lender may accept receipts or proof of completion of the work to the homeowner’s satisfaction from the contractor. Before a final release is made, the homeowner must sign a statement acknowledging that the work has been completed in a professional and satisfactory manner.
What is a contingency reserve?
A contingency reserve is a percentage of the repair/renovation amount (0%-20%) and its purpose is to pay for any potential cost overruns or unexpected repair items. A contingency reserve is usually required for the FHA 203k Standard but none is required for the FHA 203k Limited, but it is recommended to have one. Any monies saved or not spent may be used to complete additional work (subject to lender approval) or a one-time principle balance reduction in the mortgage amount at the end of the project.
Do I need to hire a HUD approved 203k Consultant?
For the FHA 203k Standard, a HUD-approved 203k Consultant is generally required but is NOT required for an FHA 203k Streamline/Limited. However, you are allowed to hire anybody you think will help you to make good real estate decisions. It is always recommended to utilize the skills and expertise a 203k Consultant for all 203k loans, because they can add an extra layer of protection and information that only they can provide. For the Streamline/Limited 203k, a 203k Consultant can be and should be used for a Feasibility Analysis and/or the home inspection for the main purpose to determine whether the FHA Minimum Required Items will be addressed.
Can I do the work myself on an FHA 203k Loan?
YES, subject to your lender’s approval. However, if the borrower wants to do any work or be the general contractor, they must be qualified to do the work, and do it in a timely and workmanlike manner. This means that if you want to do the work yourself or be your own General Contractor, then you MUST be skilled and licensed to do such work. It is very important that the work be done in a time frame that will assure the completion of the work that will be agreed upon in the Renovation Loan Agreement (signed at closing). A borrower doing their own work can only be paid for the cost of the materials…never the labor. Contractor estimates are still usually required and the loan amount is usually based on those estimates. Monies saved or not spent can be allocated to cost overruns, additional improvements, or a one-time principle balance reduction. Because of lender overlays (internal additional rules and guidelines), a contractor will be required to perform the work the majority of the time.
What is a Certified 203k contractor?
Because neither HUD nor FHA certifies, approves or endorses remodeling/general contractors, there is no such thing as a remodeling or general contractor being an FHA approved contractor for the FHA 203k loan. In 1995, HUD stopped approving builders/contractors, eliminated this approval process and the associated database, according to Mortgagee Letter 95-57. Instead, HUD/FHA allow the borrower to hire whomever they want and require the lender to determine that the selected contractor is acceptable for 203k work by verifying their license, insurance, references, experience, education and understanding of the 203k (Mortgagee Letter 00-25).
How does a contractor get involved with the FHA 203k loan program?
Contractors need to understand the following:
The consumer/borrower is responsible for approving, selecting and hiring whichever contractor s/he wants
There cannot be ANY conflict of interest between the consumer/borrower and the contractor — no family relationship and no financial relationship
HUD/FHA does not approve, endorse or certify remodeling/general contractors or builders. In 1995, HUD eliminated the database of HUD approved builders/contractors (Mortgagee Letter 95-97). Since 1995, there has been no such thing as a HUD/FHA approved builder/contractor.
The lender does not approve contractors (see item #1), according to Mortgagee Letter 00-25. However, the lender is responsible for determining that the selected contractor is acceptable to do the 203k project in a timely and workmanlike manner and in accordance with HUD’s guidelines by verifying the contractor’s license, insurance, references, credentials, work experience, as well as the contractor’s understanding of and competency with the 203k.
The compensation structure set by HUD does not always permit contractors to receive pre-renovation deposits/start-up funds. Contractors must be financially capable of affording the start-up costs and ongoing expenses with any 203k renovation project. Ample credit lines with suppliers and subs and/or sufficient capital/reserves will be verified as part of the certification process.
Contractors need to be as knowledgeable as possible regarding the 203k (HUD’s guidelines, time lines, paperwork, processes, compensation, etc.)
How do the contractors get paid?
The contractors are paid in a series of draws by the borrower’s lender through escrowed funds. At closing, the lender places the rehab/improvement funds into an escrow account.
FHA 203k Limited
Contractors receive maximum two (2) payments. After closing on the home, contractors may receive a portion of the job cost (maximum 50%) as a pre-construction payment, subject to lender approval but that may take weeks to arrive. Therefore, contractors must be financially capable of affording all the start-up costs and a portion of the ongoing expenses with the 203k project (ample credit lines with suppliers and subs and/or sufficient capital/reserves). Once all the work is complete, the contractors can request final payment of the remaining portion of the job cost according to the proposal that was submitted and approved by the borrower and the lender.
FHA 203k Standard
Contractors receive by default, four (4) draws plus a final for payment. If the rehab exceeds $10,000, more draws can be authorized by approval from the borrower and lender before the loan closes. After closing on the home, there is no upfront money paid to contractors to offset the start-up costs. Therefore, contractors must be financially capable of affording all the start-up costs and a portion of ongoing expenses with the 203k project (ample credit lines with suppliers and subs and/or sufficient capital/reserves). Contractors receive payment after stages of work are completed and inspected. For each draw request on the 203k Standard, an inspection is required. Frequently, when a general contractor is used, a 10% retainage is held back on each draw until the final completion and inspection approval is obtained.
What costs/fees are involved with an FHA 203k Loan?
The borrower will incur the fees normally associated with an FHA loan (contact your lender and/or real estate agent for more detailed information). In addition, other costs may include:
additional origination fees charged by 203k lenders (optional and not required by FHA)
fees charged by contractors and consultants (estimates, inspections and re-inspections, etc.),
slightly higher interest rate (typically 1/8%-1/2% more than traditional FHA loans) and
a 10%-20% renovation contingency reserve (added into the loan amount)
Can an investor use the FHA 203k Loan?
No. The borrower must be a primary residence owner-occupant or a qualified non-profit group. Since 1996, there has been a moratorium on non-owner-occupied investors using the FHA 203k loan (Mortgagee Letter 95-97). However, the 203k is eligible to be used on 1-4 family dwellings. So, if a 203k borrower uses a 203k loan to purchase and renovate a multi-family dwelling, the non-owner-occupied unit(s) are permitted to be rented out. So, as long as the borrower will occupy at least 1 of the units of a multi-family dwelling (4-unit max), FHA still considers this borrower an owner-occupant even though the borrower rents out the remaining units.
Can I refinance my existing mortgage loan into an FHA 203k Loan?
Yes, you can refinance your existing mortgage into either version of the FHA 203k loan. The FHA 203k loan is also available for mortgage refinance transactions for those where the property is owned free-and clear. For the FHA 203k Streamline/Limited Loan, only credit-qualifying “no cash out” refinance transactions with an appraisal are eligible. If the borrower has owned the property for less than a year, the acquisition cost must be used to determine the maximum mortgage amount. The requirement to use the lowest sales price within the last year does not apply to the FHA 203k Limited Loan.
What are the recommended steps to purchase a property using the FHA 203k Loan?
There are NO required steps or any specific order that items must be completed. However, to ensure a smooth real estate purchase, these are the recommended steps to purchase a home using an FHA 203k loan:
The Home Buyer/Borrower selects an FHA-approved 203k lender and real estate agent knowledgeable with the FHA 203k loan and then applies for the loan. Option: Talk with an approved Housing Counselor as well.
The Home Buyer/Borrower locates a home and after doing a feasibility study of the property with their real estate agent and 203k Consultant, a sales contract is executed. The contract should state that the buyer is seeking an FHA 203k loan and that the “contract is contingent on loan approval and buyer’s acceptance of additional required repairs by FHA/HUD or the lender.”
Then, during the inspection period …
On the Standard 203k, the Home Buyer/Borrower should obtain a Work Write-up from a HUD approved 203k Consultant showing the scope of work to be done, including a cost estimate on each repair or improvement of the project and then obtain a proposal from a knowledgeable 203k Contractor showing the exact pricing and detailed analysis of work that will be completed. Then have the appraisal performed to determine the after-renovation value of the property.
On the Streamline/Limited 203k, a HUD approved 203k Consultant should provide a Feasibility Analysis and detail the HUD minimum property requirements. Then obtain a renovation proposal from a knowledgeable 203k Contractor and submit the proposal to the lender so that the lender can order the appraisal from an approved 203k Appraiser.
On both versions, the appraisal, contractor’s proposal and the 203k Consultant’s work write-up (required only on Standard 203k) and Specifications of Repairs (Standard 203k only) are submitted to the lender for approval.
If the borrower passes the lender’s credit-worthiness test, the loan closes for an amount that will cover the purchase or refinance of the property, the remodeling costs plus any required contingency reserves, any allowable closing costs and mortgage payments (only on Standard 203k–up to 6 months).
At closing, the seller or previous mortgage of the property is paid off and the remaining funds are placed in an escrow account to pay for the repairs/improvements and any allowable closing costs and/or mortgage payments during the rehabilitation period.
You now own the home (or refinance is complete) and can begin the renovations.
Escrowed rehab funds are released to the contractor during construction through a series of draw requests for completed work. To ensure completion of the job, 10% of each draw is usually held back; this money is paid to the contractor after the lender determines there are no liens on the property.
For the 203k Streamline/Limited – The rehab work must start within 30 days after closing/funding, property must be livable within 30 days after closing, work may not cease for more than 30 consecutive days, the owner/borrower may not be displaced from the property for more than 30 days, and all work must be completed within 6 months after closing (subject to lender’s guidelines). For the 203k Standard– The rehab work must start within 30 days after closing/funding, the owner/borrower may be displaced from their home for more than 30 days (max 6 mortgage payments can be included in loan), work may not cease for more than 30 consecutive days, and all the work needs to be completed within 6 months (subject to lender’s guidelines)
The 203k loan has been around for over 30 years and has it has changed quite a bit since its inception. The problem is that not everyone knows it's changed. Initially the 203k loan allowed investors as well as other homebuyers to use the loan to buy distressed homes, fix them up and sell them; but HUD, who oversees the loan, didn’t have a process in place to control fraud so the loan got out of control and got a bad name that it is still trying to shake to this day.
Now HUD has a consultant who oversees the project for the Standard or full 203k, and they act like a guardian angel for the homeowner and the lender to make sure fraud doesn’t happen and it works out quite well.
The 203k Streamline was introduced around 5 years ago for smaller remodel jobs which has cut the processing time down to where, if set up correctly, it doesn’t take any longer to fund than a normal FHA loan.
I’ve heard horror stories about this loan.
This was true in the past, but now HUD has a handle on it. It’s critical that the contractor doing the improvements is knowledgeable about 203k loan...this is where most of the problems pop up.
The loan takes too long to fund.
Make sure the 203k lender of choice offers both the 203k Streamline and the 203k Standard (not all do). Many 203k Streamlines have to get flipped to the 203k Standard because of cost overruns or having to add repairs that an appraiser/HUD Consultant spotted that you didn’t see that must be remedied. These repairs, if health and safety issues take precedence over all other repairs.
My seller does not accept that type of financing.
Well that’s because their Realtor doesn’t understand the 203k loan and fills them in on some horror stories. Some Realtor and consumer education is necessary here.
Broken windows and other issues have to be fixed prior to the close of escrow.
All repairs and remodeling projects start after escrow closes which allows the buyer to buy a home in as-is condition.
203k loan rates are too high.
The 203k Streamline rate is maybe 0.25% higher than the normal FHA rate and the 203k Standard is another 0.50% higher on top of that due to the fact that you can do room additions and major work that can’t be done on the 203k Streamline; so there’s more work and risk for the lender, hence the higher rate. After 6 payments you can apply for a low or no cost FHA Streamline refi to get a lower rate.
I’m going to do the home improvements myself and save some money.
Most lenders frown on do-it-yourself work. The homeowner would have to be licensed (lender prefers this) in the required work field. The do-it-yourself model has not gone very smoothly, so many lenders are not allowing it.
It’s too hard to get approved for the 203k loans.
This is especially not true. The 203k loan is an FHA loan with an added feature, so it is underwritten like a normal FHA loan. The appraisal process is different though. You have an appraisal with two values, an as-is value, and then an after improved value which takes in to account the repairs/remodeling that is to be done. The final loan amount is determined from the after improved value. Other than that, it’s no different than a regular FHA 203b loan.
We highly recommend this process be followed in the order shown.
Have a certified, licensed and insured home inspection done.
Have a termite and moisture inspection done.
Hire an approved 203-k consultant and have your initial meeting during the day of the feasibility study.
Have the 203-k consultant meet with possible contractors/sub contractors and do a complete work write-up.
Have an approved 203-k appraiser provide his analysis. (sometimes before the write-up)
Close on the loan.
Have the 203-k consultant review all contracts.
Have the 203-k consultant review the contractor's schedule.
Have the 203-k consultant perform draw inspections.
Have the 203-k consultant perform the final inspection.
Acquire waiver of lien rights from contractors and make final payments with retainage.
Roll any leftover money back into the loan to reduce payments.
When homeowners ask me if my inspection as a 203k loan consultant can take the place of a standard home inspection, I usually tell them that is does not. There are several reasons it doesn’t, but the main one is because the two inspections have two different purposes.
I am a trained and certified home inspector as well as a HUD 203k consultant. When I go to a house to assess it for the 203k loan program, my inspection has a very specific focus. My main goal is to inspect the property to see if it meets the “Minimum Property Standards” as set forth by HUD.
HUD’s “Minimum Property Standards” is an extensive compilation of criteria that applies to things such as, construction and material standards, safety and health requirements, compliance with local codes and access requirements for the handicapped and the elderly. The main area of the HUD Standards that applies to the 203k loan program has to do with health and safety and the longevity of the building throughout the life of the loan.
The FHA insures a 203k loan and before they take that risk, they want to make sure that the property meets certain standards so their investment will be preserved. Although a homeowner may borrow funds to remodel their kitchen or bathroom, or to build an addition, HUD will still require the loan to include budget items to cover repairs to bring the property up to their standards. The kinds of items they want to see present, or upgraded if deficient, are things such as a good quality roof, a solid and stable foundation, functional and intact structure, functional doors and windows and in general, the whole house functioning and in good condition.
From and health and safety perspective, the property needs to have potable and hot water, functional sewage system and a functional and sound plumbing system. Bathroom and kitchen facilities need to be in good repair, not too aged and serving their intended purpose. Heating, and cooling where appropriate for the climate, are major safety concerns and no house can be without these systems. A sound and functioning electrical system that is safe and without issues is also important and required. To an extent, the consultant is looking out for FHA’s best interest in terms of the loan, but by doing so, he is also looking out for the homeowner’s interest.
Contrast this to the standard home inspection where the inspector is hired by and works purely for the homeowner or homebuyer. A home inspector has a different set of standards such as The American Society of Home Inspectors (ASHI), or International Standards of Practice for Performing a General Home Inspection, through The International Association of Certified Home Inspectors (InterNACHI). The various standards by which a home inspector conducts his inspection can be much more rigorous than the HUD Standards. Certainly there is overlap between to the two, however a home inspector will do a much more detailed and exhaustive inspection, followed up by an itemized inspection report. This is great for the homeowner so he can have an itemized list of every little thing that is wrong with his house. The inspection report generated by the HUD 203k consultant is mainly for his use only to compile a budget and have a record of what he saw while inspecting the property. It is not usually forwarded to the homeowner for his review or records. Another very important thing to keep in mind is that home inspectors typically carry errors and omissions insurance that will cover them in case they miss large and costly repair items. Their main purpose is the find out everything they can, given the limits of a visual inspection, that is going on with the house. They will comment on all items, whether they are in acceptable condition or not. An experienced home inspector will generate a very thorough report that can be relied upon for accuracy, future repairs and as a resource of valuable information about the house.
A full-scale, extensive home inspection can cover many things such as the general home inspection, sewer main line inspection, chimney inspection, mold inspection and termite and pest inspection. Having these different experts assess the condition of the property from their perspective only helps a homeowner get fully informed and know exactly what he is getting into when buying a house. When refinancing a house, these inspections may not be necessary since the homeowner would already be familiar with the issues concerning his house.
The 203k loan can be used when buying a house and also for refinancing. I recommend that a homebuyer take advantage of the various specialty inspections when buying so he understands his purchase very thoroughly. A HUD 203k consultant inspection will not get into any of these specialty inspections since they require the expertise of differently trained and certified people. It is certainly in the best interest of the homeowner to understand these differences and what they address so he can make the most informed decision possible.
When using the 203k loan program for refinancing, it will be the homeowner’s choice whether or not he wants to have specialty inspections. There is no requirement from HUD that he does any other inspection than the inspection done by the consultant.
The homeowner needs to understand that a HUD Consultant inspection differs from a standard home inspection. And a HUD 203k consultant inspection does not take the place of a thorough inspection by a qualified home inspector.
Why Do I Need A 203-K Consultant?
Home buyers planning on securing FHA 203k financing must work closely with 203k consultants to co-ordinate the various steps involved throughout the process. If the residential property being considered for purchase by the buyer is in need of repairs and the scope of the work to be done exceeds the 203k streamline guidelines, then a HUD-approved 203k consultant must be involved.
Initial Site Visit
Upon visiting the site, the consultant will perform a cursory examination of the property and provide an assessment about the project's feasibility under the 203k loan requirements. If the consultant determines that the project is indeed feasible, a formal agreement is signed and the buyer pays a retainer fee. The exact fee to be paid depends on the cost of the proposed repair work.
Architectural Exhibits, Detailed Work Write-up and Cost Estimates
Based on the initial site visit and inputs from the buyer regarding their renovation plans, the 203k consultant will prepare a concise document regarding the project's scope and specifications. Detailed cost breakdown for each of the repair tasks and where appropriate, architectural exhibits, will also be included. Additionally, the 203k consultant will help to prepare lender packages and contractor bid packages that contain everything mentioned above. Finally, draw request forms based on the work plan to be followed will be prepared. Once the detailed work write-up is completed, a copy of the complete package with all the required documents is submitted electronically to the lender, contractor and the borrower.
Choosing a Contractor
The borrower will then invite bids from contractors to complete the work listed in the consultant write-up. Before you proceed with the contractor bid process, make sure your 203k lender agrees to it. Most active 203k lenders may have pre-screened list of eligible contractors and they may stipulate that the work is done through one of them. If not, they may have a set of requirements for a contractor handling the rehab work. It is highly advisable to work with a contractor who is well aware of the 203k guidelines and understand the steps involved in it. If you are going to be working with a new contractor who has no prior experience, make them understand the draw process and the work completion schedule as determined by the 203k consultant in the write-up package.
Once a contractor is selected and the loan conditions are satisfied, your 203k lender will schedule a closing that is convenient for you and the seller. After all the loan documentation has been signed, funds for repair work will be escrowed. From this point onward, the renovation work can commence.
Draw Request Inspections
The 1st draw will processed once the consultant determines that all the necessary permits have been issued from the local authorities. Depending on the completion of the work identified in write-up as per the determined schedule, the consultant will make subsequent inspection visits and issues the 2nd and 3rd draw amounts. After the 4th draw request, a punch list containing any unfinished, outstanding tasks is handed down by the 203k consultant to the contractor. The 5th draw, held as a retainage is issued after the final inspection. At this point, the project will be successfully completed with no unfinished tasks. A 203k lien release form that absolves both the borrower and the lender is entered between the buyer and the contractor. If necessary, certain warranties regarding the completed work may also be entered between both the parties.
The above mentioned tasks involve an active role of a 203k consultant. Try to find a consultant that can help you successfully guide through the various steps outlined above.
What's Determined in a 203k Feasibility Analysis?
A number of important and essential details regarding a property in need of repair work is provided in a 203k consultant's feasibility report. The scope and the extent of the rehabilitation is clearly documented in the report along with the cost of repairs. If a property to be purchased is in need of fixing up, then it is extremely prudent to have the report in hand prior to submitting a formal offer to purchase. An appraiser will also need to be consulted to see if the repairs justify the after completion value. In cases where the value doesn't get a substantial bump despite the repairs, it would be better to consider other properties than the one currently being considered by the buyer. The fee amount to perform an initial assessment is quite reasonable and the amounts are established according to the HUD 203k consultant fee schedule.
For Home Buyers
For home buyers looking for financing through a 203k mortgage loan program, a feasibility analysis serves a specific purpose; it helps them make a quick decision regarding the cost involved in renovating a single-family or multi-family residential property to meet the HUD minimum property standards. Know this info can give clarity to the buyer about the offer price. A HUD 203k consultant can conduct a thorough feasibility analysis upon visiting the property . A feasibility analysis report can be used as the basis to know the approximate amount needed for necessary repairs to be performed prior to submitting a purchase offer to the seller. A seller may also be more willing to negotiate and adjust their sales price according to the findings from a 203k consultant feasibility report. Most sellers will not be willing to pay for any cosmetic upgrades beyond the amount needed to satisfy the minimum property standards set by HUD. Knowing about the tasks and the scope of the needed work in renovating a residential property can help a buyer proactively seek competitive bids from contractors to do the repair work. A consultant who performed the initial analysis may also be willing to assist the buyer in evaluating the merit of the offers submitted by renovation contractors.
A buyer's agent can provide the information regarding the selling price of home comparable to the one the buyer is interested in considering for purchase. This market price can be adjusted for the cost of the repair work stipulated in the feasibility report to arrive at a reasonable purchase offer amount.
Sellers should also consider ordering a feasibility study from a reputable 203k consultant to determine the most amount for which they can sell their property. Being well aware of upgrades and the essential work needed on a property to increase its "after improved" value can become invaluable to the seller, especially when they are approached by buyers looking to seek financing through the FHA 203k mortgage loan program. The guidelines for 203K program allow the purchase price to be as high as 110% of the ARV (After Repair Value).
Realtors who specialize in rehab properties can also benefit a great deal with the help of a proper feasibility analysis report before marketing their listing. A buyer will be more willing to consider purchasing a rehab property when they are well aware of the needed repairs right at the beginning. The report will also carry more weight if it were to come from a home inspector on the HUD roster than from others. An agent can also tie up with a lender specializing in 203k financing to streamline all the necessary aspects involved in residential rehab property purchase for owner-occupant buyers.
For REO Agents
Bank REO (Real Estate Owned) listing agents have found a great deal of success marketing properties when armed with a thorough feasibility report from a FHA 203k consultant. In addition to the benefits outlined above for the various entities involved in the purchase and sale of a rehab property, there are several other compelling sensible reasons to consider a feasibility analysis. The need for another home inspection that may cost an additional $400 can be easily avoided. If a buyer who may be considering 203k funding is found, the consultant can then do a full work writeup to account for any additional upgrades and changes sought by the buyer.
Don't Go with Free
Quite often, one may consider just calling up a contractor and getting a free estimate regarding the repair work. This may be a reasonable option if the contractor is known to be trustworthy and has worked with you in the past. If that doesn't happen to be case, do not opt for this. You will usually get what you pay for and since you are getting it for free, it may not be worth all that much.
As the contractors are motivated to earn your business, they may initially present a proposal with a lower cost estimate than the real amount necessary to finish the work. The real cost and addition repair work may be revealed to you after you have already come to an agreement and the contractor has already begun work. This kind of behavior is widely prevalent and the only way to avoid falling into this common trap is to seek an independent and honest feasibility analysis report from a professional HUD approved 203k consultant in your area.
The are two minimum requirements...MPR and MPS
Both are to insure homes meet the 3 S's...Safe (safety & health), Soundness (structure), Secure (value stabilization)
• Safety – Is this home safe? At a minimum, the home must be found to be safe and meet health standards;
• Security – Is this home good security? The home serves as collateral for the loan and in order to receive FHA financing, a borrower must obtain an FHA home inspection to show that the home is in good physical condition with no defects or repairs needed;
• Soundness – Is this home sound? The home should be structurally sound with no physical deficiencies, such as a cracked foundation.
MPR (Minimum Property Requirements)
Here are 10 basic MPR's a property must meet to pass a VA or FHA appraisal:
1. Entity. Ensures the property is a single structure that is ready to be placed on the market.
2. Nonresidential Use. VA/FHA loans are intended to help a buyer purchase a primary residence. Though in some cases, buyers are allowed to buy a home with 25% or less of the floor space designated as business or nonresidential space. But keep in mind that not all lenders will provide this type of financing.
3. Space Requirements. The property must have adequate space for the buyer and their families to live, sleep, cook, and eat. It must also have the proper sanitary facilities for such activities.
4. Mechanical Systems. The properties heating, cooling, and other mechanical systems must be in safe, working condition, and likely to remain in such condition.
5. Heating. VA/FHA appraisers consider this category superior to the Mechanical Systems Category. With multiple heating systems there are also multiple requirements. Homes with solar heating systems or wood-burning stoves used as the primary source of heat also need a backup heat source. Properties located in warmer climates may not be required for such systems.
6. Water Supply and Sanitary Facilities. The VA/FHA requires buyers to live somewhere with hot water, as well as continually safe and potable drinking water. The property also needs to have an acceptable and sanitary sewage system in place. If the property is on a private well, a well test will be required.
7. Roof Covering. The roof must be leak proof, in good shape, and free of defects.
8. Crawl Space. If the property has a crawl space, the space must be accessible and free of debris. Any excessive moisture must be treated.
9. Ventilation. When referring to crawl spaces and attics the property must have proper ventilation in these areas. With ventilation you will avoid problems with moisture related problems such as mold that could cause unsafe health conditions.
10. Electricity. The property must have working electricity.
Keep in mind, this list isn’t exhaustive, there are additional minimum property requirements outlined by the VA and FHA, these are just the most common.
MPS (Minimum Property Standards)
The Minimum Property Standards (MPS) establish certain minimum standards for buildings constructed under HUD housing programs. This includes new single family homes, multi-family housing and health care type facilities.
Until the mid-1980's, HUD maintained separate Minimum Property Standards for different types of structures. Since that time, HUD has accepted the model building codes, including over 250 referenced standards, and local building codes, in lieu of separate and prescriptive HUD standards.
However, there is one major area of difference between the MPS and other model building codes: durability requirements. Homes and projects financed by FHA-insured mortgages are the collateral for these loans and their lack of durability can increase FHA's financial risk in the event of default.
More specifically, the model codes do not contain any minimum requirements for the durability of such items as doors, windows, gutters and downspouts, painting and wall coverings, kitchen cabinets and carpeting. The MPS includes minimum standards for these, and other items, to ensure that the value of an FHA-insured home is not reduced by the deterioration of these components.
HUD requires that each property insured with an FHA mortgage meet one of the nationally recognized building codes or a State or local building code based on a nationally recognized building code. In areas where such State or local codes are used, HUD determines if the State or local code is comparable to the model building code. There are also areas of the United States that do not have building codes. If no State or local building code has been adopted, the appropriate HUD Field Office will specify a building code that is comparable to one of the nationally recognized model building codes.
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