For first-time home buyers especially, FHA loans are the most popular product because the down payment needed is only 3.5%. FHA loans have the most flexible lending requirements than nearly every other loan product in the marketplace. FHA loans also have somewhat unique property requirements with regards to the appraisal. For example in order to get an FHA insured loan on a primary residence the property must have a kitchen, there must be a stove and there needs to be a central heat source that works, additionally, there can be no health and safety hazards associated with the property or if there are, they will need to be fixed to prior to closing escrow.
A home buyer usually hears about FHA 203k loans in the news or from their realtor. Be advised these loans are not for the faint of heart. There are some advantages to FHA 203k loans. FHA 203k loans or rehabilitation mortgages, are basically glorified construction loans which allow a home buyer to renovate a property to make it insurable with HUD.
FHA 203k Loans contain significantly higher costs than traditional FHA financing.
As we know, the main benefit to an FHA 203k loan is the ability to renovate a distressed property. Being a lender, that is the only benefit to offering these mortgages. Now let’s dive into the nuts and bolts of FHA 203k loans. FHA 203k loans offer two types of financing: the streamline FHA 203k loan and the full FHA 203k. There are maybe a handful of lenders that actually have the full program, so we will focus on the streamline product.
An FHA 203k loan is a construction loan for all intensive purposes. Because of the fact that buyers are financing the construction costs, these loans are dramatically more expensive than traditional FHA mortgages. A home buyer seeking an FHA 203k home loan will be paying 1.5% above current market rates. Additionally, there will be origination fees included which increases the cost of the mortgage. For example current rates today for traditional FHA loans are 4.375% for a 30 year fixed rate loan, compare that to an FHA 203k loan, that same borrower will be paying 5.875% plus an origination fee which will likely equate to several thousand dollars.
Expect a 60 day close of escrow or longer using an FHA 203k home loan.
Yes, this is correct. FHA 203k loans take longer than traditional financing because there is a HUD consultant involved as well as an architect, a construction crew and two appraisals which need take place. Moreover, on the front end of taking out this type of mortgage, the borrower is going in upside down, meaning that initially they are financing more than the value of the house. The way an FHA 203k loan works is that a borrower can finance up to 110% of the purchase price on a streamline product. So on a $200,000 house that means the maximum loan amount can be $220,000 and if there is more work needed then $20,000 will allow, the difference has to be cured prior to the close of escrow. Almost every single house that fits the FHA 203k box, needs more work than the financing will allow for which presents roadblocks.
Another aspect of an FHA 203k loan, is the fact that because these loans take much longer to close if there are other offers on the property more often than not, the seller will look at an FHA 203k last, because they are interested in closing escrow faster.
FHA 203k loans do have their place in the local market, but only on a very few select homes.
FHA 203k loans do offer an advantage to traditional financing because of the overall ability to renovate a distressed property which for the right person, and on the right house could be a good option, but for the overall masses it might be better to find out what is actually wrong with the property because usually traditional FHA 203B financing will almost always work anyway.
Scott Sheldon is a Senior Mortgage Loan Originator with over six years of mortgage experience and is an FHA specialist. Mr. Sheldon can be reached at 707-217-4000.