What is an FHA 203k Loan?
The FHA 203(k) loan is simply an extension of the regular FHA mortgage program. The loan is backed by the federal government, which provides two big advantages:
- You can qualify for a down payment as low as 3.5%.
- You can qualify with a credit score as low as 500, although better credit scores allow for better loan terms.
The additional benefit of the 203k loan vs. regular FHA loans is that it allows you to take out a single loan to finance both the purchase and renovation of a property, giving you the opportunity to build your dream home with minimal money down.
How it works
A 203k loan can be used for one of two purposes:
- Buying a new property that’s in need of renovations, from relatively minor improvements to a complete teardown and rebuild.
- Refinancing your existing home in order to fund repairs and improvements.
The maximum loan amount is determined by FHA mortgage loan limits for your area, and the minimum repair cost is $5,000. But as opposed to a conventional loan, in which your mortgage is limited to the current appraisal value of the property, a 203k loan bases the mortgage amount on the lesser of the following:
- The current value of the property, plus the cost of the renovations
- 110% of the appraised value of the property after the renovations are complete
The product enables you to purchase a property that you otherwise might not be able to take out a mortgage on because the 203(k) loan factors in the value of the improvements to be made. It also allows you to do so with a down payment as low as 3.5%, which can be especially helpful for first-time homebuyers who often don’t have as much cash to bring to the table.
What renovations can be refinanced?
Eligible renovations include small improvements like kitchen appliance upgrades to major projects like completely tearing down and rebuilding the house. Also, the work must be done by a contractor. You are not allowed to do any of the work yourself (though there is an exception to this rule for people who have the skills to do it).
Who is this available to?
A 203k loan is available to anyone who meets the eligibility requirements and is looking to renovate a home. It’s often appealing to first-time homebuyers, who are generally younger and therefore less likely to have the cash necessary for either a conventional mortgage or to fund the renovations themselves.
But there is no requirement that you have to be a first-time homebuyer. The program can also be used to finance either the purchase of a home in need of renovation or to refinance an existing mortgage in order to update your current home.
Why?
- Opportunities: In a hot market, move-in ready homes often sell quickly and for more than the asking price. A 203k loan can open up the market for you, allowing you to choose from a wider range of properties knowing that you can improve upon any house you buy.
- Upgrades: If you want to add a bedroom, redo your kitchen, or make any other improvements to your current home, a 203k loan allows you to refinance and fold the cost of those upgrades into your new mortgage with a smaller down payment than other options.
- Equity: With the right improvements, you could increase the value of your home to the point that you have enough equity after the renovations to refinance into a conventional mortgage and remove or reduce your monthly mortgage insurance premium.
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