Pacific Choice Mortgage

203K Rehab Mortgage Loans


Have you found that “almost perfect” home in the right location that is selling at a reduced price because it needs a little rehab work?

Unfortunately, most mortgage loan programs require homes “in need of work” to be complete before the financing can be secured for the purchase transaction. Whether the property needs a little or a lot of work, most First-Time Home Buyers simply don’t have the up-front cash to invest in a property prior to actually securing the financing.

However, the FHA 203(k) Rehab Loan may be your answer to turning that “fixer-upper” into your dream home.

The FHA 203(k) Rehab Loan is a popular mortgage program designed for buyers that want to finance the cost of home improvements into a new loan.

The financing for this loan will include the purchase price, as well as the improvements you are either required to do to be able to live in the home, or that you want to do, such as upgrade the kitchen, bathroom, etc.

This is also a great loan program for agents trying to sell homes that need repair. Buyers will have an option to complete those repairs and upgrades without a large upfront financial commitment. Think of this as a one-time close construction loan. At closing, the seller receives their money and the rest is put into an escrow account for the buyer to use for rehabbing the property.

Advantages of 203k Rehab Loans:

Savings –

Repairs on a fixer-upper can be expensive, and the 203k Rehab Loan allows borrowers to finance the improvements into the new loan vs having to pay for the upgrades prior to closing.

Low Interest Rates:

Historically, FHA Mortgage Loans have lower than average rates when compared to commercial or conventional financing programs.

Great Property Deals:

Since Rehab Loans are designed for “fixer-uppers,” buyers can qualify for a loan on a home that needs work, and actually finance the construction costs / repairs up front.

FHA Rehab Loan Background:

The Federal Housing Administration (FHA), which is part of the Department of Housing and Urban Development (HUD), offers this loan program to provide for the rehabilitation and repair of single family properties. One single loan is used to pay for the purchase (or refinance) and the cost of rehabilitation or updating of the home. Those properties include condominiums, town homes and single family homes. This loan is only available for homebuyers purchasing a primary residence that they will occupy. Unfortunately, it is not a program for investors to purchase a home – fix it up – and then sell.

As you can imagine, there are vastly different degrees of just how much work it would take to bring a house up to your standards.

Sometimes it may only require minor cosmetic work, like new flooring, upgrade a kitchen or bath, put on a new roof or install new windows…you get the idea. Or it could be that you find a home that is the perfect price and location, but inside it needs a complete gut job.

You like the shell of the house but want to blow out the walls to change the floor plan, need to totally re-do plumbing, electrical…major stuff! Maybe the bones of the house are terrific but it is just too small…you need to add an extra bedroom or even an entire new level!

The FHA 203(k) Rehabilitation program, (we’ll call it…the K) is designed to address all of these circumstances. Another great thing about this loan program is that it is originated and underwritten just like a standard FHA loan program. So you can purchase the home with the same 3.5% down payment of a regular FHA loan, depending on your loan amount. In some high cost areas the down payment may be 5%, but there is no larger down payment required on a 203(k) than there is on the regular FHA loan program. And the seller can also still assist you with your closing cost as well…just like with a regular FHA loan.

203(k) Rehab Loans Eligible Property Types:

The property has to have been completed for at least one year, and it has to be a one- to four- family dwelling.

Eligible property types are single family detached homes, single family attached (like row houses) town homes and condominiums. Cooperatives (Co-ops) are not allowed.

Let’s take a look at a perfect scenario:

You find this great house that is in the perfect location, close to transportation, great school district, excellent floor plan and the yard you always wanted. It’s the lowest price in the neighborhood.

So what’s not to like?

It’s a foreclosure.

And, the last occupant decided to just destroy the house before they left – taking all the appliances, ripped up the carpet, punched holes in the walls, broke windows….  They even took a toilet with them!  Who takes a toilet?

Can you imagine fixing all of that?

Most first-time home buyers just turn around and walk out the door because they believe they couldn’t possibly come up with the money or the time to fix all of this.

So, a really great house goes unsold.

Streamlined 203(k):

A Streamlined 203(k) allows minimum or limited repairs to be done…basically “cosmetic” repairs, improvements or updates.

It also eliminates most of the paperwork required of a full 203(k) and simplifies the process to obtain rehab funds.

Under the Streamlined program, there is a minimum of $5,000 and a maximum of $35,000 to be financed in the mortgage amount to improve or upgrade the home.

No “structural repairs” are allowed under a Streamlined K, however, making or correcting any structural items is not considered to be minor.

The minimum of $5,000 of required and substantial improvements that will increase the marketability and value of the home must first be included. Any repairs and improvements must comply with HUD’s Minimum Property Standards and must meet all local building, zoning and other codes.

Minimum required repairs include any health and safety repairs like peeling lead paint or replacing missing railings. Whether you want those items included or not, all health and safety issues must be addressed first. Smoke detectors must also be added if missing.

Type of work for Streamlined 203(k):

  • Repair, Replace or Upgrade
  • Roof, gutters, downspouts
  • Existing HVAC systems
  • Plumbing and electrical systems
  • Flooring
  • Painting
  • Appliances
  • Weatherization
  • Repair, replace or add exterior decks, patios, porches
  • Basement waterproofing
  • Window and door replacement and exterior siding
  • Septic and/or well repair or replacement
  • Improvements for accessibility
  • Lead-based paint stabilization or abatement of lead-based paint hazards

What can’t you do? Ineligible improvements under the Streamlined 203(k):

  • Major structural repairs
  • New construction (adding a room)
  • Repair of structural damage
  • Repairs requiring detailed plans and specs
  • Any repair taking more than 6 months to complete
  • Repairs that would necessitate more than 2 draws
  • Luxury items that are not a permanent part of the real estate
  • Granite, marble countertops, jacuzzi tubs, hot tubs, pools, etc

Let’s go through the process of the Streamlined 203(k):

Find the home you’ll want to purchase and determine what improvements need to be made to the property.

The purchase contract offer is written the same as any other, accept you’ll want to make sure that there is language stating the purchase is contingent upon borrower acquiring an FHA 203(k) Loan.

In order to complete the financing of the improvements, you will need to meet with a contractor to determine what kind of work you are planning and how much it will cost.

The contractor will give you a copy of the contract, which you’ll need to pass on to the lender.

The lender will order an appraisal to determine what the value of the house will be once all of this work is completed.

Keep in mind, you’ll also need to be qualified for the full loan amount which is based on the purchase price plus the additional cost of repairs.

Once the loan is approved, you will go to closing like you normally would.

The amount that will be needed to do all of these repairs or improvements will be placed into an escrow account held by the lender.

As the work is being completed, there will be draws from the account to pay the contractor.

What does the Contractor you select need to do?

  • Provide written work plan and cost estimates
  • Must include nature and type of repair and the cost of completion
  • Must be licensed and bonded for each specialized repair
  • Must agree in writing to complete the work for the amount of the cost estimate and within the allowed time

Let’s take a look at a quick Streamlined 203(k) example:

Say you need $20,000 to do all the improvements to the house. Most lenders will require a 10-20% contingency reserve account to be set up. This is money they will set aside for any “surprises” that may happen during the rehab. You don’t want to have something come up that you didn’t expect and then have no money to fix it.

So, in this example another $2,000 would be financed to establish your reserve fund.

A total of $22,000 is now available to be placed into the rehab escrow account.

Once you have completed settlement and own the house, the rehab account will be established and you will be able to start the work.

The contractor will request the first draw of up to 50% of his contract, which in this example is $10,000.

Once the work has been fully completed, he can request his final draw and receive the balance of his contract.

The money in the contingency reserve account is for emergency work. If down the road there was no need to use it and you decided to do some additional work to the house…you could then request a change order and spend that money, but it would not be paid out to the contractor until the final draw.

The reason this program is called a Streamline is because there are fewer draws, less paperwork and only cosmetic, minor repairs involved.

All work should be completed in 6 months or less.

Advantages of Streamlined 203(k):

A great advantage of the Streamlined 203(k) vs the Standard FHA 203(k) is that there is less paperwork.

Under the streamline, there is a maximum of two draws per contractor.  It is easier if you have only one contractor, but a maximum of two contractors to do this level of work is allowed.

After you have gone to settlement and your loan has closed, the contractor will receive the first of two draws. They are usually permitted to get up to 50% of the materials (sometimes 50% of the total work amount) in this draw.

The remaining monies are given out once the project is completed and the work has been inspected.

Most foreclosed properties only require minor cosmetic repairs, so the Streamline is the way to go in most of those instances. Just make sure you have no structural improvements that need to be made if you are thinking of using the streamlined K. Even if the repair would cost say $5,000 which falls into the less than $35,000 max for the streamline, you would have to go with the standard K just because the work is “structural”. So make sure you know which repairs you are planning to do before you decide which 203(k) would work best for you.