What is a FHA Mortgage – The Basics of a FHA 203k
Thinking about buying a home but have less-than-perfect credit and little money for a down payment and closing costs? There’s a type of mortgage for which you might qualify. It’s the Federal Housing Administration (FHA) loan and it’s specially designed to give the average American the chance at home ownership. What makes this type of loan perfect for the average person is it only requires a 3.5% down payment, can cover closing costs, and can even provide extra money for repairs. However, FHA loans do require mortgage insurance to protect the lender.
The protection mortgage insurance offers lenders allows them to offer loans with great rates and very flexible requirements for people to qualify for those loans. Those less stringent requirements include approving people with relatively low credit scores. Some lenders approve FHA loans for people with credit scores of under 500. Generally people need a credit score of at least 580 to qualify for a loan. Lenders extending loans to people with insufficient credit or a nontraditional credit history have made home ownership possible for many people who would ordinarily be turned down.
Another way in which FHA loans have opened up opportunities for home ownership for people who have been traditionally shut out of the process is by providing extra money for borrowers to make repairs to the homes they’re trying to buy. This type of loan is called a 203(k) and isn’t based on the value for which the home is currently appraised, but the value it’s projected to have after the repairs have been done. A streamlined 203(k) can enable the borrower to get money for nonstructural repairs totaling $35,000 financed as part of their loan.
One of the reason borrowers like these 203(k) loans is because it saves them from having to apply for two separate loans, one to purchase the home and another to repair it. There are two types of 203(k) loans. An FHA loan and a streamlined 203(k) loan. The FHA loan requires the borrower to have all work pre-approved by the FHA and have the work verified using approved inspectors. The streamlined 203(k) loan has some of the same requirements, but is less stringent. It also requires a lot less paperwork.
Because the 203(k) loan allows for roofing, flooring, and plumbing repairs and more, it allows people to buy low cost fixer uppers.
Advantages and Disadvantages of a FHA 203K Mortgage
FHA 203K Loans can be very beneficial but they also have some disadvantages that you should be aware of before applying for one. If you are interested in fixing up your home, the FHA 203K loan is the most popular options as a homeowner.
Advantages of the FHA 203K Loan
The FHA 203K loan is a government backed loan that allows you to hold on to the savings you have while fixing up your home. The savings that you get by getting the loan can be very beneficial over time. Another reason to apply for this loan is that some repairs can be very costly. Most people do not have enough money in their savings to fully fund the projects they have in mind and run out of money before it is completed. If you are looking to flip the home, unfinished repairs can prevent you from selling the home in the future. Instead of potentially running into this problem, you can borrow money through this loan program and fully fund your repairs.
Another advantage of these types of loans are the low interests rates that come along with them. Typically, they have better rates than your average loan. They are also built for homes that are going to be fixed up or flipped. The approval of this loan can help you get approved for a home if it falls into this category.
Disadvantages of the FHA 203K Loan
One major disadvantage of this loan program is that you may be waiting over a month for approval. Because the process is so long, if you are not approved, you have lost valuable time. If you are requesting over 35K, you will also have to submit your plan for rehabilitation of the home. To do this, you may even need to hire contractors if you do not already have one.
This program is fairly unknown to real estate agents which can make the approval process on purchasing a home very difficult. This is a reason why they are unpopular. If you cannot get approval because of lack of knowledge in the industry, you face losing even more valuable time and possibly the purchase of a home you are wanting. One of the biggest disadvantages is that the foreclosure market moves fairly quickly. There are many investors that are prepared to pay cash for these homes or ones that are being sold by the bank. Because of the long process for approval on this loan, you are guaranteed to miss out on several homes you have your eye one.
The Real World Benefits of 203k loans
The Federal Housing Administration 203k loan program enables people to buy homes that they ordinarily may not be able to afford to. – That’s one big benefit! However the most unique feature of these types of loans is that they allow the prospective homeowner to bundle the cost of the home and any repairs needed to get the home into good shape together in one loan. With a regular bank mortgage, a mortgage will be based on the current appraised value of the home and property.
So you would need to get a loan for the current value of the house and then a second loan for the cost of renovations to get the home into livable shape. Then when the repairs are finished, you would re consolidate these loans into one mortgage for the repaired property at its new “post repair” appraised value. This process involves more closing costs, appraisals and paperwork.
An FHA 203k loan enables you to streamline the process of buying a home that you know up front will need certain repairs. You apply for enough in the loan to cover these repairs as well as the current value of the home. A 203k loan can even include up to 6 months of mortgage payments so that you can rent an apartment while the repairs are underway and not have to cover two monthly housing payments yourself.
The above scenario covers what could be considered a ‘regular’ 203k loan, or a loan that involves structural repairs to a property, such as a new roof. This type of loan can also be used for additions to a home, as in the case of adding on a garage to the house. Then there are ‘streamlined’ 203k loans or the type that do not require structural repairs or additions. These can include new appliances, or new heating and air conditioning systems.
Environmental sustainability is another benefit of FHA 203k loans. They already help the environment in that they are geared toward repairing and keeping old housing usable, which cuts down on new construction. These loans also directly support environmental sustainability in that they can be used for things like solar panels or to replace doors or windows that may be leaking and causing excess air conditioning or heating system use. Something as basic as insulation can also be covered.
Don’t give up on that fixer upper you have your eye on. An FHA 203k loan may enable you to turn it into your dream home after all.
Loan Costs and Downside of FHA 203k Loans
Just as with anything in life there are the pros and cons to consider (and costs and fees too) and an FHA 203K Loan is no different.
NOTE: Weigh your pros and cons and go with whatever wins out. Granted, what is good for one consumer may not fit the needs for another consumer?
The nice thing about this type of loan is that the cost of the home, in addition to the needed repairs are all wrapped up together into one loan, and many consumers find this an attractive benefit for this type of loan.
However, if this loan does not fit your needs there may be no other options, especially if a bad credit score is involved and a conventional loan is not possible.
Along with each loan package comes a set of costs that the buyer and seller must pay for at closing. The buyer needs to be prepared to pay a down payment that is not less than 3.5-per cent or more than 10-per cent. This percentage rate is set according to the buyers credit score. The bank requires a down payment on the insurance of the loan. Other fees include an application fee, supplemental origination fee and a processing fee, appraisal fees, fees for the estimates of repairs needed for the home.
In addition to these standard fees, some of which may not apply due to the lending institution, the FHA 203K has additional fees. There has been an Upfront Mortgage Insurance set recently at one per cent, showing a decrease from previous years. The interest rates for an FHA 203K Loan is slightly higher than the conventional loans offer which reflects about one percent. If the buyer proves to be a higher credit risk, the percentage rate can go up. If the buyer intends on using the home purchase for an investment, an FHA 203K Loan is not going to be available. If the intent of the borrower were to put on additions to the home and rent this space out in the future an FHA 203K would work.
The government sets a cap on this type of loan, meaning that the buyer must loan at least $5,000 and not more than 110 percent of the projected home’s value after improvements. If after reviewing all the pros and cons of an FHA 203K Loan, it is time to decide if this type of loan fits your home buying needs.