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Summary

  • An FHA 203(k) is a rehab loan that is used to finance or refinance the renovation of a primary residence
  • There are two types of FHA 203(k) loans, streamline and standard
  • Rehab must be started with 30 days of closing and total rehab work must be completed within 6 months
  • The rehab work must be completed by a licensed contractor

What is an FHA FHA 203(k) Loan?

An FHA 203(k) loan, also known as a mortgage rehab loan, is used to finance the purchase and renovation of your primary residence. FHA 203(k) rehab loans are government-insured, and as a result, have much lenient loan qualification requirements.

A 203(k) rehab loan is a type of loan that is used to finance or refinance the rehab of your primary residence. It allows buyers who are thinking about purchasing a house that requires significant rehab to combine the costs of the property and repairs into a single mortgage. If you currently own a home, you can apply for a rehab loan and use it to refinance the property.

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You can then use the funds from the refinance to make repairs to your home. It can be an affordable way to pay for home improvements and open up your home buying options.

How does an FHA 203(k) Rehab Loan work?

fha 203(k)

An FHA 203(k) rehab is legally backed by the Federal Housing Administration(FHA). The Federal Housing Administration is part of the Department of Housing and Urban Development. They provide mortgage insurance for mortgages made by FHA-approved lenders. Mortgage insurance is used to protect lenders against possible defaults.

Since FHA 203(k) loans are insured by the government, they can have more flexible qualification options than a standard mortgage. When you apply for an FHA 203(k) the estimated costs associated with the rehab are added to the total of your mortgage and that new sum becomes your new mortgage amount. This type of loan can provide a cost-effective way of making improvements to your home and improving its value.

It’s important to note that once you are approved for an FHA 203(k), rehab work must start within 30 days of the loan closing and the total rehab work must be completed within 6 months in most cases depending on the extent of the rehab.

Different types of FHA 203(k) Loans

If you are interested in getting an FHA 203(k) loan it’s important to know there are two different ones to choose from: a streamline 203(k) and a standard 203(k) loan.

Streamline 203(k)/ limited: 

This type of FHA rehab loan is used for homes that have small repairs and upgrades. It gives homeowners a maximum of $35,000 for rehab and renovations. There are no minimum cost requirements for a streamline FHA loan.

If you have significant repairs that need to be done to the property in excess of $35,000 you won’t qualify for the streamline FHA.

Standard 203(k):

If your property requires significant repairs in excess of $35,000, a standard 203(k) is used. With a standard 203(k) there is a minimum cost of $5,000 and a consultant from the U.S. Department of Housing and Urban Development must be hired to oversee the rehab process.

This type of loan requires a bit more underwriting and property assessment in order to qualify.

Who Can Qualify for an FHA 203(k) loan?

As you can see, the 203(k) loan is used for a very specific purpose, and as such borrowers must meet certain requirements in order to qualify. Since this is an FHA at its core, the requirements are pretty similar to those of a regular FHA loan. These include:

  • Borrowers with a minimum credit score of at least 500
  • Borrowers must have a minimum down payment of 3.5% for a 203(k) loan if their credit score is 580 or higher
  • You’ll have to put down 10% if your credit score is between 500-579
  • The loan can only be used if the property is to be the borrower’s primary residence
  • The max loan amount varies by county, but are generally capped at $356,362 in low-cost counties and $822,375 in high cost-counties
  • Repairs must be done by a licensed contractor and not the borrower
  • There is a maximum DTI of 43% for an FHA 203(k)

What Can an FHA 203(k) Loan Be Used For?

It’s important to know what the funds from this type of loan can be used for as there are some limitations. Some of the things you can use the funds include:

  • Improving or modernizing your home’s appearance 
  • Upgrading or improving your plumbing and waste system 
  • Fixing health or safety hazards around your home
  • Making your home more energy-efficient (installing solar panels)
  • Repairing or installing your roof and gutters
  • Installing or repairing your flooring
  • Improve your landscaping
  • Creating accessibility for a disabled person

These are some of the eligible projects under an FHA 203(k). It’s also important to be aware of projects that don’t qualify for a 203(k). Generally speaking, adding luxuries to your home is not deemed as an eligible expense under the terms and conditions of a rehab loan. Some of the projects not eligible for an FHA 203(k) loan include:

  • Swimming pools, hot tubs, BBQ pit, outdoor fireplace
  • Second-home or investment property
  • Mixed-use properties (residential and commercial space)

Any upgrade or enhancement made to your property that doesn’t improve the appeal or value of your property will fail to qualify for an FHA 203(k) loan.

Refinancing Your Home with a Rehab Loan

An FHA 203(k) loan can be used by homeowners to upgrade or rehab their current property. If you apply for a refinance with an FHA rehab loan, the initial funds borrowed will be used to pay off the existing balance on your mortgage.

The remaining funds for the rehab will be held in an escrow account until the necessary repairs have been completed and then they will be applied to paying off the licensed contractors who completed the work. This is a great way to improve the value of your existing property and build further equity.

Pros and Cons of FHA 203(k) Loans

Before you dive in and apply for a rehab loan you must be aware of some of the pros and cons associated with it.

Pros of a 203(k) loanCons of a 203(k) loan
Low down payment requirement of only 3.5% Due to the complexity of the loan, the application process can take much longer
Lower interest rates compared to conventional mortgages The loan can’t be used for second homes or investment properties
Ability to combine the purchase price of the home along with the rehab costs into one loan PMI is required 
Low credit score requirement to qualify You will have to work with a HUD-approved consultant and licensed contractor

Depending on the lender that offers an FHA 203(K) loan, they may have additional fees for making this type of loan available to borrowers. As such, it’s important to talk to your loan officer and make sure they tell you what these are upfront.

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