FHA 203(k) Renovation Loans: Everything you need to know.

FHA 203K loans are the coolest loan option we have. In short, they allow you to borrow money to renovate a home you’re purchasing or one you’re refinancing.

How does it work?

What about the appraisal?

What are the extra fees?

What about rates and mortgage insurance?

What can’t I build?

What can I build?
What are the drawbacks?
What’s the process?

How does it work?

Let’s take a look at a scenario before we get into the nuts and bolts of the requirements:

Jane and Jim want to fix up a house in East Atlanta. The house is for sale for $150,000, but probably needs about $75,000 worth of work to make it the home they really want.

Purchase Price: $150,000

Renovation Cost: $75,000

Total Project Cost So Far: $225,000

There are some other significant costs to consider before determining Jane and Jim’s minimum down payment:

First, there’s the HUD Inspector which is mandatory for a FHA 203k loan. The inspector compares the contractor’s bid to the state of the current house to determine the viability of the project as a whole and to point out any must-fix issues that aren’t mentioned on the bid. Cost: $500 – $1,000 (depending on size of reno. A renovation of $75,000 will cost $800 for an inspection).

Then there are the inspections the inspector will have to do during the renovation process. These are to ensure the project is going as planned and also to authorize draws of funds to contractors. These cost from $100 to $150 each. For a renovation of $75,000, you may expect 3 inspections for a cost of $450.

Finally, there’s a contingency. This figure is determined by your inspector and comes from an analysis of the risks of the renovation. The contingency fund is 10-20% of the renovation cost. For this we’ll use 15% or $11,250.

Add all this together to get a…

Total Project Cost: $237,500

It’s this figure from which Jane and Jim will make their down payment determination. The minimum down payment, like with all FHA loans, is 3.5%. That’s $8,312.

What about the appraisal?

Good question! With all renovation loans, the appraiser will determine the value of the completed project by reviewing the contractor’s bid, visiting the current property, and modeling the results in their final appraisal. In a traditional loan, the appraisal value would have to meet or exceed the Total Project Cost.

However, in an FHA 203k loan, the appraisal effectively gets a 10% bump, and it’s that number that has to meet or exceed the Total Project Cost. In that case, Jane and Jim’s appraisal of the to-be-completed property must hit $215,909.

This is a huge advantage to the FHA 203k program.

What are the extra fees?

As mentioned earlier, there are $500-$1500 associated with the inspector and inspections.

Other than that there are no additional lender fees associated with the loan.

What about rates and mortgage insurance?

Rates are going to be about .25% higher on a 203k loan than a standard FHA loan. This compensates the lender for the additional risk taken on by demolishing and rebuilding entire parts of houses.

Mortgage insurance rates are the exact same as with other FHA loans.

What can’t I build in my renovation?

  • Swimming pools, hot tubs, outdoor kitchens.
  • Tennis courts, gazebos
  • Additions for commercial use
  • Photo murals (yes, this is an oddly specific guideline)
  • Satellite dishes

What can I build?

Whatever you want that will also add to the value of your home. You don’t have to worry that each item adds to the value of the house exactly as much as it costs. So if Jim wants to install a small kitchenette in the master suite so he can cook bacon from bed, then that’s fine as long as the other additions make up for the fact that a kitchenette in a master suite is a horrible idea.

What are the drawbacks of a 203k loan?

It’s a seller’s market out there in A-Town. Sellers don’t like the following: FHA loans, renovation loans, loans that take longer than 30 days to close, basically anything unfamiliar.

Actually, let me amend that. It’s not so much sellers that dislike these things, it’s listing agents. (And rightfully so, in a lot of cases). But. But! You’re in luck. The 203k loan is often unknown and veiled in misunderstanding and lore, and we help to demystify it and even make it sound attractive to agents.

For instance, agents generally don’t know about the 10% bump the appraisal gets. This is a huge selling point in a hot market where values are ever on the rise. Secondly, if you follow the directions below to a ‘T’ then we can close in fewer than 30 days. You’ll be on call all day, every day for those 30 days, but this is going to be true of any renovation project in the planning phase. You’re going to get annoyed with me, the paperwork, your contractor, but we’ll make it through

Ok, so what’s the process?

It’s simple! Just kidding. It’s a huge pain. I don’t say this to discourage you. Just kidding again. Let’s be honest, even though ATL Mortgage looks to make the mortgage process as simple as possible, obtaining a loan can still be a pain. A 203k loan will be double the pain. Here are the steps:

  1. Find a contractor whose work you like and who is responsive. The more it seems like they’re able to use a computer and telephone, the better. They should be ready to go and able to visit the property with just a few days’ notice.
  2. Find a HUD Consultant. Introduce yourself. Most of these folks love their job and are super helpful. Make sure they’re ready to go at a moment’s notice. None of this waiting a week for an appointment business: we’re on a timeline.
  3. Find a house.
  4. Make an offer. Due diligence is important here because it’s the provision that allows you to pull out if your initial work with the contractor doesn’t pan out. Here are the recommendations for the various aspects of the offer:
    1. Due Diligence: 14 days.
    2. Financing Contingency: 23 days.
    3. Appraisal Contingency: None on FHA loans.
  5. If it seems like you and the seller are close to coming to an agreement, try to get your contractor out there even before you have a finalized contract, so you can get the bid process started.
  6. We can’t order the appraisal until we have a final bid. A final bid is a very specific document, which will require some back-and-forth between myself and the contractor. The appraisal value is based on the items in the bid, so this is the most important and time-sensitive aspect of the deal.
  7. Schedule the HUD Inspection. This can’t be done until you have the final bid either.
  8. Wait patiently as I pull all the levers and pulleys and wheels that I need to in order to make this happen.
  9. Respond promptly to my emails requesting documents that: a) you feel like you’ve already provided or b) that you don’t feel are important to the deal. Feel free to feel annoyed.
  10. Keep providing documentation as I request it.
  11. Call your contractor on my behalf to crack the whip on how slow they’ve gotten.
  12. Prepare for closing.
  13. Close
  14. Build house of dreams.

Easy, right?