Buying a Fixer-Upper? There's a Special Mortgage for You

Dear Liz,

I am buying a house that is a fantastic deal but needs a bit of work. I was told that I could buy the home and then get a home equity loan to make the repairs, but then I heard that FHA has a loan that will let me finance the property improvements. How does that work?

Howard in Idaho

Dear Howard,

This is a great question. You are referring to the Federal Housing Administration's section 203(k) mortgages. This program allows you to get a mortgage to both buy your home and make repairs and upgrades to the property. This special home loan gets you the home purchase and the repairs with one set of closing costs and an ultra-low down payment of only 3.5% of the total acquisition (the purchase price plus the cost of upgrades and repairs).

Weighing the FHA 203(k) Rehabilitation Mortgage

Qualifying for the 203(k) home loan is the same as for any FHA loan, but your LTV (loan-to-value ratio, which is the percentage of the home's value that you can finance) is increased to 110% of the appraised value. You are bound by FHA loan limits in your county, and these loan amounts vary throughout the country. You may even be able to finance up to six months of mortgage payments into the loan as well, allowing you to skip mortgage loan payments while you remodel.

However, the 203(k) mortgages cost more than standard FHA loans, and those costs vary from lender to lender. That is why, in addition to making sure that your mortgage lender is approved to write FHA loans, you need to get mortgage quotes from several HUD-approved mortgage lenders and compare loan costs, interest rates, and terms. Only by shopping can you be sure of getting the best mortgage interest rate on your 203(k) loan.

Mortgage Help from Your HUD Consultant

If the cost of the work to be done exceeds $35,000, you'll work with a consultant with the US Department of Housing and Urban Development (HUD), who prepares what is called a work write-up. This write-up is forwarded to an appraiser to be incorporated into the final post-repair value of the home. When determining loan-to-value and how much they will approve, underwriters take the lower of the appraised value or acquisition costs (purchase price plus repairs). HUD consultants help make sure you don't overpay for the repairs by telling you what the cost should be in your area for the work being done.

Make Almost Any Home Improvement with a 203(k) Home Loan

Under this program, some of the things you can do are room additions, new flooring, new fixtures, bathroom and kitchen remodels, enclosing carports, installing new appliances, and repairs or upgrades to roofing, plumbing, and electrical systems. Anything health- and safety-related or anything considered functionally obsolete can also be repaired or renovated.

Choose Your Mortgage Loan Officer Carefully

These FHA 203(k) rehab loans are especially complicated, so in addition to getting a competitive mortgage quote from your lender, you want to make sure that your loan agent is exceptionally experienced and capable. Ask how many FHA rehab loans this person has originated and how long he or she has been closing FHA mortgages. Good luck with your renovation and thank you for writing.