FHA 203(K) renovation loans are quite unique and much different from the common home loan programs offered by conventional lenders involved in residential lending. The lending and qualification guidelines of the other FHA insured loan programs also differ greatly from the section 203(K) guidelines and requirements.
The most common types of residential loan programs for the financing of single-family and multi-family properties involve permanent financing. A conventional mortgage lender pays utmost attention to the collateral property’s physical condition and its market value before approving the financing. Generally, Lenders do not provide funding on a property that does not offer sufficient collateral in its “as is” condition against the requested loan amount. If any repairs or any rehab work is needed, conventional residential lenders expect any such outstanding work to be completed prior to loan closing.
Buyers who wish to purchase a single-family or multi-family residential home that needs fixing up usually have very few options beyond seeking a FHA 203(K) loan. The loan guidelines for 203K allow new home buyers and existing homeowners to finance the cost of any repairs that need to be performed.
Investors who quickly fix and flip a property usually opt for financing from hard money lenders. Private money lenders have very flexible and accommodating lending guidelines that allow for addressing numerous loan scenarios that pertain to investment properties. They usually process and fund loans quickly due to their minimal documentation requirements, especially if the other aspects of the deal makes sense to them.
Generally, a home buyer interested in buying a house that is in need of repair or renovation has to initially secure funds for buying the property, then they need to get extra financing to handle all the renovation costs. And while the repairs are being finished, they most likely wouldn’t be able to occupy the property but would still be making principal and interest payments on the loans they had already taken to purchase and renovate. The homeowner would finally be able to apply for a permanent mortgage to pay off the interim loans only after completion of all the construction work. A satisfactory valuation and assessment report by a residential real estate appraiser is also required.
The biggest drawback with seeking private hard money is the interest rate charged on such loans. The interest rates for residential hard money loans range between 10 – 20%. In addition to high interest rates, the maximum loan amount funded by a private rehab lender will generally be no more than 70% of the after-repair value. These restrictive options make private lender financing unsuitable for residential buyers who wish to rehabilitate and occupy the property.
The primary objective of the FHA’s 203k loan program is to address the financing concerns of buyers who wish to renovate their properties upon acquisition. The 203k loan requirements for securing rehab financing are similar to other FHA loan guidelines. The qualification analysis includes credit history, current income and assets. The provisions of 203k loan allow a borrower to secure one single-loan instead of two loans – one for buying and one for repairs. The borrower will also have the option to choose a fixed or adjustable rate mortgage loan program with a reasonable interest rate.
As the “as is” value of the subject property wouldn’t generally justify the loan advance, 203k loan guidelines take the “after-repair” value in to consideration. This projected ARV value is based on the expected value of the property, once all the proposed rehabilitation work has been successfully and satisfactorily completed.
The entire process involved in a 203k rehab loan is managed by the FHA approved lender with the able assistance of other licensed professionals. Only qualified inspectors, appraisers and consultants handle all aspects before and after the closing of the loan. Only bonded contractors with proven expertise can be chosen to do the actual repair and construction work. Since this step comes after the completion of the work and cost estimate from a 203k consultant, it involves substantially less risk.
There are many FHA guidelines that also minimize the lender’s risk associated with 203k financing. As soon as a loan is closed, a lender funds the loan and establishes an escrow account. At this point, the 203k lender can immediately forward the funded loan for HUD endorsement. Once this is done, the lender has a fully-insured loan with no risk of default.
The FHA 203(K) rehab loan program can only be used to improve or rehabilitate an existing residential property with one-to-four units. Both new homebuyers and existing homeowners can qualify if they meet all of the program’s requirements and guidelines.
Commercial properties and other residential dwellings with more than four units are ineligible for renovation financing with a FHA-insured 203k loan. However, the loan program allows financing for the conversion of a multi-unit (>4) property to four or less units.
The flexibility of 203(K) allows borrowers to take advantage of the loan’s provisions in a number of ways. A buyer can purchase an existing property and fix it up thoroughly using the standard section 203k purchase mortgage. If a borrower is already living in a dwelling that is in need of renovation, then he/she can refinance the existing liens and also secure the necessary funds for rehab work with a FHA 203k refinance loan. The can review the 203k eligible property repairs and improvements before proceeding to apply for the loan.
A building purchased from one site can be moved to another location and rehabilitated using a 203k mortgage. In order to finance the purchase or refinance a property that needs rehabilitation, 203k guidelines require the mortgage to be a first-lien. The loan cannot be a sub-ordinate to any other loan on the residential property. The rehabilitation funds are released only after the closing depending on the terms of the 203k loan.