Buying a house is expensive, even if it’s in good condition. If it needs work, coming up with money for renovations and repairs, plus a down payment and closing costs, can be a struggle.
The Federal Housing Administration offers a solution in the form of an FHA 203k loan. It combines funds for a home purchase, plus repairs and renovations, in one mortgage. An FHA 203k loan is sometimes referred to as a Rehab Loan or an FHA Construction Loan.
Reasons to Consider a 203k Loan
Lenders often reject mortgage applications for houses in need of significant repairs, but a lender might approve an application it would otherwise reject if some of the money would be used to make repairs. If you use an FHA 203k loan to fix up a home, you can quickly build equity.
You can use an FHA 203k loan to buy a house that needs repairs or to refinance your existing mortgage. A 203k mortgage can only be used to fix up a primary residence.
You might be able to qualify for a 203k loan with as little as 3.5 percent down. The income and credit score requirements aren’t as stringent as they are for other loan types.
You can take out a loan for up to 110 percent of the house’s proposed future value or the sale price plus the cost of repairs, whichever is less. Regional FHA loan limits will apply. A Mortgage Insurance Premium will be required and can be included in the loan total. Interest rates are higher for 203k loans than for typical FHA mortgages. Getting a 203k loan will require more time and paperwork than obtaining a traditional mortgage.
Costs and Types of Repairs Allowed
A Limited 203k mortgage will cover most cosmetic repairs, but not structural repairs or changes to the footprint of the house. You can borrow up to $35,000 for repairs, but a 15 percent buffer is required in case of cost overruns. That means the total estimated cost of repairs can’t exceed $31,000. A 203k Standard loan will cover almost any renovations, except non-permanent changes, luxury amenities or minor landscaping.
The lender will require you to make repairs to address health and safety hazards first. Then you can decide how to spend the remaining money available.
You must choose contractors who are licensed and insured, and they typically must operate a full-time business. You may only do work yourself if you are a professional contractor. Choose contractors who have worked with 203k loans in the past and are familiar with the process and requirements. Submit accurate bids to the lender. Contractors will be able to start working once the loan has been approved.
Funding for a Fixer-Upper
Buying an inexpensive house and making repairs can help you build equity quickly. Getting a mortgage can be a challenge, however, if you don’t have funds set aside for renovations.