The FHA 203k loan program as offered by the US Department of Housing and Urban Development allows homebuyers and homeowners to finance the purchase (or refinance their existing home) and cost of a remodel through a single mortgage.
There are multiple benefits to this program:
So what exactly can you do with the 203k? HUD provides a pretty extensive list with relatively few limitations:
In essence, you can do everything from a relatively minor remodel (say, replacing your windows or a small bathroom renovation), to completely razing the existing home except for the foundation and rebuilding on it.
There is a minimum to borrow, which is $5,000. And unfortunately, luxury items (sorry, no pool for you) can’t be included in the financing.
There are also limitations on the maximum you can borrow based on the value of the home, just like there are with any other home purchase. Basically, you can’t borrow $250,000 on a home that will only be worth $150,000 when all of the work is complete.
However, there are two appraisals done: one based on the pre-improved value and one done on the post-improved value, which is based on the design documentation submitted during the loan process. The maximum loan amount can be up to 110% of the post-improved appraisal. A minimum 10% contingency is also required on the renovation portion of the loan, which is included in the amount that is allowed to be borrowed.
Finally, there are two separate financing options within the 203k program: the Limited 203k and the Standard 203k.
I’ll touch on the Limited 203k first, as it is the more efficient process of the two.
The Limited 203k has some extra limitations on what you can do with the financing, but also removes one major hurdle in the process. First, you cannot do anything that alters the structure of the home, in any way, with the Limited 203k loan. Doing so automatically puts the loan into the Standard program. Second, there is a limit of $35,000 (including mandatory contingency) that can be borrowed for the renovation part of the financing. Exceeding this amount will also shift the loan into the Standard program. Staying within these limits enables the buyer to avoid hiring a 203k consultant.
The Standard 203k program does not have any of the limitations as described in the Limited program, but it does require a 203k consultant, which comes at a cost to the project budget. The 203k consultant is in place to make sure that the project is proceeding as planned throughout the construction process through feasibility studies, work analyses, inspections, and draw requests.
If you decide that the 203k loan, either Standard or Limited, is a route that you would like to take, start your search early for a lender that offers the 203k loan program. Depending on your location, they may be hard to find. Don’t hesitate to ask non-203k lenders if they know anybody who offers this loan–sometimes word of mouth is the best avenue to find what you need.