It’s two loans in one: a loan that allows you to purchase a home that needs repairs and/or improvements and that same loan includes the funds needed to repair and/or improve the property. The FHA 203(k) loan in California is one loan application, one lender, and one approval process. No need for a separate construction loan.
Let’s say you’re in the market for a new home in California and you’re driving down the street to go look at a property you’re thinking of making an offer on. Your focus has been on move-in ready homes and you’ve been searching for months. On your way to the appointment, you drive past another home for sale however this hope is definitely not move-in ready. It needs work but you love the location, the lot and the home gives you a good feeling. You’re interested in it but not sure you want to take on a “construction” loan. Enter the California FHA 203(k) loan program (aka the FHA Home Renovation Loan or FHA Rehab Loan).
The FHA 203(k) Basics:
The best way to understand what a FHA 203(k) loan is this; it’s an all in one purchase and construction loan. It’s simple and easier to obtain than most traditional construction loans and the terms are generally better than what you would see in a construction loan. Knowing the basics of the loan program is essential for those looking to purchase a home in California. Is it just for purchases? No; the FHA 203(k) loan program can be used for refinances a s well but more on that later in the article. Here are the basics:
- There are two types of FHA 203(k) loans: Limited FHA 203(k) and Standard FHA 203(k)
- Limited FHA 203(k) is for smaller projects
- Standard FHA 203(k) is for larger projects
- Loan limits are 110% of the future value of the home provided that amount is within the California FHA Loan Limits.
- The FHA 203(k) is for homeowners who plan to actually live in the home. It is not for rental properties.
- The 203k loan program requires a contractor to complete the work.
After your loan closes the funds for repairs/improvements go into an escrow account. From this account, a contractor gets paid for the services he or she completes. There is specific paperwork to facilitate the payment of services and it’s important to let your contractor know you’re using a FHA 203(k) loan to fund the project.
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The Difference Between Standard and Limited FHA 203(k) Loans:
The Standard FHA 203(k) program is for big structural type repairs; this would include the following:
- Defined structural improvements to make the home livable
- Adding rooms or bedrooms to the existing structure
- Making the entire home accessible for a disabled person
- Foundation work
- Significant landscape projects that require a massive amount of work
The Standard limit for improvements is $35,000 and the FHA 203(k) loan in California requires a 15% buffer in case the improvements come in higher than expected. If your home repair or improvement project does not fall under one of those categories than a Limited FHA 203(k) loan is probably for you. Here are the non-structural items that would fall under a Limited FHA 203(k) loan.
- Kitchen or bathroom repairs or remodels
- Flooring repairs or upgrades
- Painting and general patchwork
- Energy-efficient upgrades
- Roof repairs
This is not the entire list but a good guide for those considering a Limited FHA 203(k) loan in California. Things that are not allowed under the California FHA 203(k) program are basic landscaping, “luxury” items like a swimming pool or something that will take more than six months to complete (once the work has started).
Benefits and Downsides With The FHA 203(k) Loan Program:
The benefits are fairly straightforward with the FHA 203(k) loan program and it’s easy to see why so many people utilize this great home improvement tool to increase the value of their home. But as with everything else, there are downsides so we are listing those as well to ensure you have a better understanding on how to proceed.
Benefits Of The FHA 203(k) Loan Program In California:
- Simplicity of have one loan (rather than two)
- A clearly defined project plan
- Once your project is completed you have instant equity in the home
Downsides Of The FHA 203(k) Loan Program In California:
- The interest rates is .50% to 1.00% higher than a regular FHA loan
- FHA loans including the 203(k) program come with Mortgage Insurance (MI).
- You have to hire a contractor
- You must live in the home for at least twelve months before selling or renting the home
Who Is Eligible For A FHA 203(k) Loan?
The good news is that applying for a FHA 203(k) loan is probably not as hard as you think. The most important requirement is that the FHA 203(k) loan is for people who are looking to buy a primary home or if you’re refinancing you already live in the home. It’s not for investment properties, vacation homes or property flipping.
The FHA 203(k) loan in California has flexible guidelines for approval; similar to those for a regular FHA loan. Most lenders would like to see a 620 or higher credit score but some will go below 620 all the way down to a 580 credit score. Traditional construction loans typically want to see a credit score of at least 700 or higher so the 203k is a great option for someone who has less than perfect credit.
The Debt-To-Income (DTI) ratio should be less than 43% but you might be able to go a bit higher and you can borrower up to 110% of the property’s future value.
The downpayment requirement is 3.5% of the home price plus the total project cost. So if you are buying a home for $250,000 and repairs are $20,000 then your minimum down payment is $9,450.00. And the great news is the down payment can come from you or be given to you as a gift. That gift can come from a family member or a non-profit organization that provides down payment assistance.
FHA 203(k) Refinance Loan:
The primary use of the FHA 203(k) loan in California is for the purchase and improvement of a home but you can use the loan on a home you already live in by refinancing your current mortgage into a new FHA 203(k) loan. Your loan amount would equal the mortgage you are paying off plus the funds needed to repair and improve the home.
An appraisal will be done and in the report, the appraiser will give a current value and a future value that is needed to get the loan approved. Your maximum loan amount is 110% of the future value of the home times 97.75%.
Important FHA 203(k) Loan FAQ:
There is a lot to the FHA 203(k) loan in California and the additional information should help you better understand the details of doing the “rehab” loan from FHA. When you are ready be sure to work with a Loan Officer that’s ready to help your dreams become a reality. A Loan Officer that is willing to not only provide great terms but one who will take the time to answer your questions.
Is There A Maximum Loan Amount?
Yes there is; 110% of the future value of the home and the loan amount needs to be at or below the FHA loan limit for your county.
What’s The Process Like?
Its going to take a bit longer than a traditional purchase or refinance. If you’re buying a home it’s important to let the seller know of your plans because the FHA 203(k) could take 60 days to close and it’s important that everyone is on the same page with respect to the timeline. You’ll also need to find a contractor and do a bit more work to get the loan closed.
I Want To Flip A House; Is This A Good Solution?
Nope; this is not the loan program for that. Per FHA guidelines you must live in the home for at least twelve months.
Can I Buy Personal Items With The Renovation Money?
No; personal items can not be purchased with the money that is supposed to go to improving the home.