If you want to buy a fixer-upper, you won’t have access to your standard purchase programs. The home must be able to pass the appraisal in order for a lender to close on a loan. If the home you want to buy can’t pass, you’ll need to use a renovation loan.
Generally, you have two options – the FHA 203K loan or the Fannie Mae HomeStyle loan. Both loans offer funds to purchase and renovate a home. Both loans also have low down payment requirements.
Keep reading to learn which loan might be right for you.
The FHA 203K
The FHA offers two types of 203K loans – the full 203K and the streamline 203K loan. The streamline 203K loan has fewer restrictions as far as qualifying for the mortgage, but you can only borrow up to $35,000 to fix up the home and you can’t make any structural changes to the home. The full 203K loan allows you to borrow up to 115% of the improved value of the home, but you’ll have more paperwork and red tape to get through.
Both the streamline and full 203K loan require a 3.5% down payment. The good news, though, is that the FHA allows you to receive the full amount of the down payment as a gift. If you have a relative, employer, or charitable organization that will provide you with the down payment, you can use it for the loan and put no money of your own into it. Keep in mind that you can only use this option if you have at least a 580 credit score.
The FHA 203K loan has similar underwriting guidelines as a standard FHA loan:
- 580 credit score for a 3.5% down payment or 500 credit score for a 10% down payment
- Stable income and employment
- Housing ratio no higher than 31%
- Total debt ratio no higher than 41%
- Proof that you’ll occupy the property as your own
- The ability to move into the home within six months of closing
- Proof that the renovations will begin within 30 days of the closing
If you decide to use the benefits of the full 203K loan, you’ll need to get blueprints for the work that will be done. You also need to hire a loan consultant. This professional will have a construction background as well as completely understand the mortgage industry. The loan consultant will serve as your go-between with your lender and contractor.
A part of the process with the 203K loan is to hire reputable contractors that can work within the timeframe that the 203K requires. Because there is a lot of back and forth between the lender and the contractors, the loan consultant can help you by managing these relationships, negotiating the cost of the renovations, and overseeing the entire project.
The FHA 203K is one loan that gets disbursed at the closing, before any work starts on the home. Once the closing is complete, the contractor will receive any contracted disbursements the lender agreed to and will start the work. The contractor will receive disbursements as he agreed to receive them in the contract, but only after the work completed is approved.
If you use the FHA 203K streamline program, you’ll go through the same steps, but anything the loan consultant would do becomes your responsibility.
The Fannie Mae HomeStyle Loan
If you want a conforming loan, the Fannie Mae HomeStyle loan offers similar benefits. With this program, just like any other conforming loan, you’ll need good credit, though. Typically, this means a credit score of at least 680. You’ll also need to make a down payment of at least 5% to use this financing method.
Fannie Mae loans have stricter guidelines including a 28% housing ratio and 36% total debt ratio. The HomeStyle guidelines also require that the renovations do not total more than 50% of the after-improved value and that the property be your primary residence.
Fannie Mae, just like the FHA, requires that a licensed and experienced contractor do the work. The lender will work with you to find a qualified contractor. They do, however, offer a DIY option. If the repairs don’t total more than 10% of the after-repaired value and you have the experience/time to do the work, you may be able to do so.
Both the FHA and the Fannie Mae loans offer the opportunity to buy a home that has seen better days. You can use the funds provided to make sure the home is up to code as well as fix it up the way you want it. With both loans, you’ll have only one mortgage payment and even one closing to manage.