How Does a HUD 203k Loan Inspection Differ from a Standard Home Inspection?

When homeowners ask me if my inspection as a 203k loan consultant can take the place of a standard home inspection, I usually tell them that is does not.  There are several reasons it doesn’t, but the main one is because the two inspections have two different purposes.

I am a trained home inspector with many years of experience and thousands of inspections completed.  In my capacity as a HUD 203k consultant, when I go out to a house to assess it for a homeowner who is considering borrowing funds under the 203k loan program, my inspection has a very specific focus.  My main goal is to inspect the property to see if it meets the “Minimum Property Standards” as set forth by HUD.

HUD’s “Minimum Property Standards” are found in their manuals online and are an extensive compilation of criteria that applies to things such as, construction and material standards, safety and health requirements, compliance with local codes and access requirements for handicapped and the elderly for their housing.  The main area of the HUD Standards that applies to the 203k loan program has to do with health and safety and the longevity of the building throughout the life of the loan.

FHA insures the 203k loan and before they take that risk, they want to make sure that the property meets their standards so their investment will be preserved.  Although a homeowner may borrow funds to remodel their kitchen or bathroom, or to build an addition, HUD will still require the loan to include budget items to cover repairs to bring the property up to their standards.  The kinds of items they want to see present, or upgraded if deficient, are things such as a good quality roof, a solid and stable foundation, functional and intact structure, functional doors and windows and a general state of function and good repair of house as a whole.

From and health and safety perspective, the property needs to have potable and hot water, functional sewage system and a functional and sound plumbing system.  Bathroom and kitchen facilities need to be in good repair, not too aged and serving their intended purpose.  Heating, and cooling where appropriate for the climate, are major safety concerns and no house can be without these systems.  A sound and functioning electrical system that is safe and without issues is also important and required.  To an extent, the consultant is looking out for FHA’s best interest in terms of the loan, but by doing so, he is also looking out for the homeowner’s interest.

Contrast this to the standard home inspection where the inspector is hired by and works purely for the homeowner or homebuyer.  A home inspector has a different set of standards he work from such as the California Real Estate Inspection Association Standards (CREIA), The American Society of Home Inspectors (ASHI), or International Standards of Practice for Performing a General Home Inspection, through The International Association of Certified Home Inspectors (InterNACHI).

The various standards by which a home inspector conducts his inspection can be much more rigorous than the HUD Standards.  Certainly there is overlap between to the two, however a home inspector will do a much more detailed and exhaustive inspection, followed up by an itemized inspection report.  This is great for the homeowner as he can have an itemized list of every little thing that is wrong with his house.  The inspection report generated by the HUD 203k consultant is mainly for his use only to compile a budget and have a record of what he saw while inspecting the property.  It is not usually forwarded to the homeowner for his review or records. Another very important thing to keep in mind is that home inspectors typically carry errors and omissions insurance that will cover them in case they miss large and costly repair items.  Their main purpose is the find out everything they can, given the limits of a visual inspection, that is going on with the house.  They will comment all items, whether they are in acceptable condition or not.  An experienced home inspector will generate a very thorough report that can be relied upon for accuracy, future repairs and as a resource of valuable information about the house.

A full-scale, extensive home inspection can cover many things such as the general home inspection, sewer main line inspection, chimney inspection, mold inspection and termite and pest inspection.  Having these different experts assess the condition of the property from their perspective only helps a homeowner get fully informed and know exactly what he is getting into when buying a house.  When refinancing a house, these inspections may not be necessary as the homeowner would already be familiar with the issues concerning his house.

The 203k loan can be used when buying a house and also for refinancing.  I recommend that a homebuyer take advantage of the various specialty inspections when buying so he understands his purchase very thoroughly.  A HUD 203k consultant inspection will not get into any of these specialty inspections as they require the expertise of numerous trained persons.  It is certainly in the best interest of the homeowner to understand these differences and what they address so he can make the most informed decision possible.

When using the 203k loan program for refinancing, it will be the homeowner’s choice whether or not he wants to have specialty inspections.  There is no requirement from HUD that he does so other than the inspection done by the consultant.  Certainly if he wants the information and the understanding it would be his choice.

However, the homeowner needs to understand the HUD 203k consultant inspection does not take the place of a thorough inspection by a qualified home inspector.

Steven Laszlo,

HUD 203k Consultant

www.hudconsultant.net

I got a call the other day from a contractor who said that his client was in the middle of remodeling their home and they ran out of cash to finish the remodel.  Their previous contractor underestimated the costs of the materials and the home owner was using thier own cash to fund the remodel.  They ended up being $20,000 short.

Luckily they had equity in the property, but they didn’t want to use it.  They tried to get a home equity loan to finish the project but were turned down because the lender wouldn’t give them a loan while they were in the midst of a remodel.  Lenders feel that if they funded this type of loan, and the loan went into default and the work was never finished, that they the lender would have to spend the money to finish the remodel which is the reason why a lender will not lend on a property which is in the process of being remodeled.

However, the 203k refinance loan will work for this situation.  The 203k refinance loan allows the loan to close with the property in as-is condition.  The contractor I spoke with said that it was mainly the flooring, kitchen cabinets, and countertops that were missing from the remodel.  This is not to be considered as structural work, it’s cosmetic in nature.

The 203k Streamline loan can do the job.  In this case I would recommend a HUD Consultant (even though they aren’t required on the 203k Streamline loan) to get involved with this project.  The HUD Consultant will survey the property and do a work writeup on what needs to be done to finish the project and what expected costs should be.  This should keep the home owner at ease to ensure they don’t run into the same situation, being short.  A 203k Loan Originator can point you in the direction on where to find a HUD Consultant.

There is also a 203k Standard loan which is different than the 203k Streamline loan, it does bigger jobs, that are structural in nature, like room additions.  The 203k Standard loan requires a HUD Consultant. So depending on the scope of work that needs to be done, there’s a 203k loan that should be available to help.

In the case above, what would happen is that the existing first mortgage gets paid off by the 203k Streamline loan, and than the dollar amount needed to complete the remodel gets added on top of that.  So it’s a first mortgage and remodel loan, all in in one on one low 30 year fixed rate.

The loan closes, and than an escrow type of account is set up by the lender, who than gets the contractor bids you provided that shows all the remodeling work, and than in the case of the 203k Streamline loan, sets up two advances to finish the remodel.  One of the advances is approximately 7 days (varies by lender) after escrow closes and is for half of the remodeling funds, so in this case if $20,000 is needed for the remodel, $10,000 is advanced.  The other half, $10,000, is advanced after the entire remodel is finished and a document is signed off by the home owner to the effect saying the remodel is done.

Most people don’t realize that a 203k loan can be used for a refinance, but it can.  There are a few rules that go along with the 203k refinance loan such as the property can not be an unfinished newly constructed home, and 203k lenders have their own rules they set forth that can vary from lender to lender.  But nevertheless the 203k refinance loan can be available for starting or finishing a remodeling or rehabilitation project for an existing home owner.

Best,

KW

A 203k loan isn’t any more difficult to qualify for a regular FHA loan or conventional loan.  You have to give the same income, asset and liability documentation and as long as you have at least a 3.5% down payment you can be considered for a 203k loan.  You don’t have to have any reserves (reserve money in an institution that can be used to make emergency mortgage payments) either.  Being that the 203k loan gives allows you to buy a home and receive repair/remodeling funds-all in one loan, with a low 30 year fixed rate, you would think that the qualifying for this unique loan is much more difficult than a regular FHA or conventional loan, this is not true at all.

So what’s different about qualifying for a 203k loan?  Usually your Realtor will ask you for a prequalification letter from a lender that shows that you are qualified to buy a home for say $250,000.  With a 203k loan your final loan amount can not be determined until after the appraisal of the property you are looking to buy is done, which means your Loan Originator can not give you an exact prequalified loan amount upfront.  This is different from the regular FHA 203b loan and Fannie Mae and Freddie Mac conventional loans.  This is what confuses Realtors, sellers and home buyers which in turn scares them away from the 203k loan, but once you understand the process, and you, your Realtor and your Loan Originator do your homework upfront before you make an offer, there is nothing to be afraid of.

The 203k loan appraisal is different as well, where a value of the home is estimated, has two values: An as-is value and an after improved value.  The after improved value takes into account the improvements that are to be done to the home before the repairs are actually done.  So depending on what repairs are done to the property will have a direct outcome on the after improved value, which affects your final loan amount.

Once the appraisal is finished and delivered to the lender, which is a few weeks into the process after your offer has been accepted, than your Loan Originator will work the numbers for you.

Your down payment amount is figured off of the after improved value of the home as well, not the as-is value, but again if coached upfront correctly this isn’t a deal breaker.  If you buy a home with an as-is value of $300,000 and the after improved value is $325,000, your minimum 3.5% down payment goes from $10,500 to $11,375.  It’s best to pad numbers a bit when estimating loan amounts, down payments and repairs, so there’s no surprises later.

Having a knowledgeable group of people who know the 203k loan and its nuances is critical.  The Realtor, Loan Originator and contractor should know the 203k loan process.  You the borrower should also do some research on the 203k loan before applying for a loan.  I have a free 203k loan video on my website, as well as a free 203k Streamline guide.  Take a few minutes and familiarize yourself with the basics.  The 203k loan is a worthwhile endeavor and it’s popularity is growing.

In qualifying for the 203k loan, it takes the same amount of paperwork and time, there’s no smoke and mirrors.  If you get any push back from your Realtor or Loan Originator on the 203k loan, it probably means they don’t understand it or didn’t get involved with the right team of people who could get the loan done.  Don’t fret, keep your vision and shop around for a team of people who understand the loan and are receptive to it.

For more information on learning on what needs to be done upfront on the 203k loan to ensure a successful transaction,  feel free to contact me or click here.

Best,

KW

Yet another way to use the 203k loan. A home buyer can purchase and remodel up to a four unit building as long as it is to be owner occupied. Again no investors allowed. The FHA 203k maximum loan limits on units is higher than for a single family unit, you just have to check your individual county for those limits. The 203k maximum loan amounts are different for 2 units, 3 units and 4 units. Feel free to call me for the me for these limits. You can even take a 6 unit building and make it a 4 unit building as well or take a 2 unit and make it a 4 unit. Talk about a flexible loan which can help supplement your income, the 203k loan is an awesome tool that helps revitalize neighborhoods as well as providing options to a home buyer that aren’t available on any other loan. Best KW

I’ve ran into a few people and have seen some blogs out there recently that state that the HUD Consultant steered the home buyer, or so they say, toward a certain General Contractor to do the work on the home.  As a home buyer please understand that this is not necessarily a bad thing but you do need to do your own due diligence in checking into the relationship between the HUD Consultant and the General Contractor.  Make sure and Google the HUD Consultant and the General Contractor. Ask for references from past jobs from both the HUD Consultant and the GC and call the past clients.  This is no different from any other business you contract with.

The HUD Consultant is used on the 203k loan, the 203k Standard loan in particular, and part of their job is that they are supposed to serve as a buffer of sorts between the homeowner and the General Contractor and make sure that the materials and labor charged by the GC are fair and at market rate which protects both the lender and homeowner.  Their relationship at times can be testy because the HUD Consultant may be making some adjustments to the General Contractor project(s) or maybe the HUD Consultant is wanting the GC to do more work before they ask the lender to advance the GC more money to finish or start another project which is being financed by the 203k loan.  The process works, but you want to make sure that the HUD Consultant and GC relationship isn’t compromised in any way and the best way to make sure of that is to do your own due diligence before you agree to do work with either of them, and that goes for Loan Originators too!

As I previously mentioned in a past article, make sure and get your General Contractor selected early, before you make an offer on a home, and make sure they have worked with the 203k loan in the past.  There are several 203k loan directories for contractors out there on the web.  Check out a few of them for contractors in your area.  These contractors have gone out of their way to learn about the 203k loan and its nuances.

Unfortunately there are unscrupulous people in every profession.  Just like anything else you have to look out for yourself.  I as a Loan Originator am looking after your best interests as well, but ultimately it’s the home owner’s name that goes on the offer contract, the loan documents, the HUD Consultant contract and the General Contractor’s contract.  Take the time to look out for yourself and check everyone out you are working with and you’ll be on your way to a successful transaction.

Best,

KW

One of the main issues on the Standard 203k, (the one that does the bigger jobs such as adding on a room), I’ve been hearing about is that the home buyers got their home looked at by a contractor AFTER they made an offer to buy a home.  This can cause huge headaches.

It’s best to have a contractor, who is experienced with the 203k loan and it’s nuances, look at the property before you make your offer.  Give your contractor your wish list on what improvements you want to do and get a bid as to how much these upgrades are going to cost.  You need to know this upfront!

Also keep in mind if there are any health and safety issues such as dry rot damage, or a broken HVAC unit, broken windows and such, the lender will demand these items to be fixed before any of your requested repairs are to be done, so your repair amount may be increased to take care of these items.  This is where a trained 203k loan experienced contractor comes into play.  They will have an idea of what these health and safety items are.

Another reason why a contractor bid is needed upfront before you qualify for a 203k loan is that the repairs are part of the formula which calculates your final loan amount.  It’s best to get an idea on how much of a loan you qualify for, including the repairs as early in the process as possible.  It’s common sense, and you would think the lender would be guiding the home buyer on this, but many times they don’t.

To summarize, have your contractor selected before you make an offer on a home.  Walk thru the property and check it out thoroughly with the contractor and go back to the property if necessary a few times before you make the offer.

Also make sure the lender does both the 203k Standard loan as well as the 203k Streamline loan.   The 203k Streamline loan only gives $30-35k in funds for repairs and upgrades and if you are doing the 203k Streamline and if you go over budget and your lender only does the 203k Streamline loan, your home purchase is in serious jeopardy because you’ll have to switch lenders and possibly have to pay for a new appraisal.

Best

KW

The 203k loan is like taboo to some Realtors.  To the 20 year experienced Realtor the 203k loan may be looked at as a loan that is problematic and associated with fraud.

Realtors who have been in business for 10 years or more may have never seen the need for the 203k loan because there were home equity loans available to fix up homes or in many parts of the country FHA financing was an after thought due to the maximum  FHA loan amount being too low compared to home selling prices.

To a Realtor licensed 5 years or less the 203k loan may be a loan they have heard about, but most of what they have heard has been not so good, or to just stay away from it and wait for the cash offer to roll in from an investor.

In all fairness, the 203k loan earned this reputation years ago but it has had a makeover and if structured correctly can become a big player in the pursuit in rebuilding America and helping first time home buyers and repeat buyers compete with the cash investors when buying properties that need some TLC.

Educating Realtors and the general public is key when it comes to the 203k loan.  Most of the fraud on this loan happened well over 20 years ago when HUD didn’t have a handle on the investor and contractors who were using this loan.  That’s right the 203k loan used to be allowed for investors, but than that went away many years ago.  HUD has Consultants who oversee the standard 203k loan to make sure fraud is at a minimum and for the most part they have done a good job in protecting the home buyer.

The 203k Streamline loan was introduced within the last decade, but truthfully it should have been renamed to stay away from the 203k loan stigma that existed from the standard 203k loan.  So this cloud of sorts hangs over both loans in the form of a bad reputation.

Home equity loans are now a thing of the past unless you have 25% equity to begin with, and now that FHA has raised it’s maximum loan limits to be more in line with conventional lending, the FHA 203k loan is now poised in becoming a hero in this real estate market.

But why aren’t Realtors more receptive to the 203k loan?  Here’s a list of reasons I’ve heard from Realtors as to why they don’t like this loan as well as my response to their reasoning.

“It takes too long to get a 203k loan done”.  This can be true if it’s not structured correctly upfront, but typically it may take 10 days longer to close, but they can close just as fast as a conventional loan again if structured correctly and proper expectations have been set.

“I’ve heard horror stories about the 203k loan”.  Again true but that story may have come from the 20 year veteran Realtor who remembers the fraud days of the 203k loan.  Structuring the loan upfront with an experienced 203k loan agent, a contractor who is familiar with the 203k loan process and a HUD Consultant who is dually licensed as a home inspector can iron out most of the wrinkles up front.

“The asset manager (of the REO lender) doesn’t accept 203k financing”.  But why is that?  When I asked for more information I found out it was the Realtor who wasn’t familiar with the 203k loan and didn’t want to take the time to learn the program and ask for the 203k loan financing option to be allowed.  They would both rather just wait for the low ball cash investor.  This attitude doesn’t help first time home buyers.  I do understand not wanting to make waves with the asset manager but there is a bigger picture here.

“Why would someone want to use the 203k loan to buy a fixer when they can just buy a move in ready property”.  A home may be be ready to move into, but numbers prior to the home equity meltdown showed the average home buyer put up to $10,000 into their newly purchased home in the first year they bought the home.  Homeowners want to be able to pick their colors, appliances, and put their touches on a property.  So even though there is a nice bland color carpet and neutral paint colors and it looks nice doesn’t mean that’s what’s going to stick and with the home equity loan being all but extinct, the 203k loan is one of the only options left to obtain funds to do home improvement/remodeling.

“I can’t get a preapproval letter with the 203k loan”.  This is partly true because the final loan amount on the 203k loan isn’t determined until after the appraisal is done.  That’s one of the differences with the 203k loan.  The loan amount is determined on the after improved value, not the as-is value.  So how to get around this?  Just pad the loan amount.  If the property is for sale for $300,000 and they want to put in $30,000 in repairs/remodeling, than a $330,000 prequalification (not a preapproval) letter should do the trick.  Show all parties that you are padding the loan amount as well as showing the automated underwriting approval and list of improvements and bids by the contractor to demonstrate due diligence has been done.

“I’m not comfortable with the way this loan works and it puts my client (seller) in jeopardy”.  Seriously?  Obtaining a conventional loan approval is more difficult than obtaining an FHA 203k loan approval.  FHA loan underwriting guidelines are more lax than conventional underwriting.  This is simply someone who hasn’t gone the extra mile to educate themselves on the 203k loan.

This last Realtor reason for not liking the 203k loan came from a Realtor on my street who was selling a home with an illegally converted garage.  ” I don’t need the hassle of the 203k loan. Besides the home will sell quickly and we’ll get close to market value since it’s in a good location”  The house sat for 8 months before it sold, and a cash investor came in and bought it at a low ball price and killed our neighborhood values.  It would have cost roughly $10,000 to reconvert the garage and why not entice the buyer with the 203k loan funds to use to do this and get a higher sales price? It boggles my mind.  Now the investor is attempting to re-sell the same property, didn’t reconvert the garage back, and guess what?  8 months later it hasn’t sold either and he’s going to have to take a deep discount to dump it.

I do understand the Realtor hesitance on the 203k loan.  However, it needs to be understood that the 203k loan can solve a myriad of problems and create a win-win for all involved.  The 203k loan just isn’t for foreclosures.  The 203k loan can help create a vision for home buyers who want to use the loan for remodeling purposes on a property that needs updating and it’s comforting to know that you have a loan that can both buy a home and carry financing for upgrades all in one.

Best KW

It is within the FHA rules to allow do it yourself work on the 203k Streamline loan and the 203k Standard loan.  However just because FHA has this guideline doesn’t mean a lender may not put an additional overlaying guideline on top of that to not allow it.  Lenders who offer the 203k loan can put any overlay on the the product that they want.  Lenders are increasingly shying away from do it yourself work on the both 203k loans.  Why?  It gets sticky.  There is a myriad of forms that have to be explained to the do it yourselfer on how to fill them out ledgibly and correctly.  This causes frustration and delays on both ends of the process.  Fraud is another possibility.  The do it yourselfer must also demonstrate that they are a master at the project they are working on.  They may need to demonstrate that they have an active license as a contractor, and possibly show proof of past clients work, and if they have a crew working on the project have ample workmans compensation insurance.  If the lender ends up foreclosing on the property they want to make sure the work done is up to code and in a worksmanlike manner.  This is now the mentality of a lender in todays market.

So now several 203k loan lenders are putting an additional overlay on these loans to the effect that no do it yourself work can be done.  Some are even going as far as stating that all work must be done by one contractor.  It makes it easier for the lender this way.  Instead of having to deal with several contractors and explaining the 203k loan process to them, they just have one.  Taking it even a step further, some 203k big box lenders have a deal set up with Lowes, or Home Depot to do all the work which in my opinion is not good.  It limts your choices.

The 203k loan is not your everyday loan.  It does require some knowledge regardless on if you do the repairs yourself or if you hire a contractor to do the repairs.  203kcontractors.com have contractors who have been trained on the nuances of the 203k loan.  This is worth checking out to save you time and frustration on finding a contractor who is willing to accept the terms of the 203k loan.  Contractors don’t get paid right away on this loan which means they may have to float money until the entire rehab on the property is done.  This is not popular with contractors!

Just make sure that if you are a do it yourselfer and want to use the 203k loan to buy and rehab a home, that your lender of choice allows you to do the work yourself, and if they do, what parameters must be followed.  Do this upfront before applying for the loan to save yourself some headaches but either way the 203k loan is viable way to buy and rehab a home all in one low fixed rate loan.

The seller is willing to renegotiate and meet you halfway on the difference but that money was to be used for home improvements and now your plans are in shambles. Now what?

There is another way here that no one seems to be talking about.  Change the loan to an FHA 203k!  Add some home improvement items that need updating ie..carpet, countertops, cabinets and paint, get a bid for the work and have the home re-appraised by another appraiser.  The FHA 203k allows for a 10% “fudge factor” so if the appraised value vs. purchase price is less than a 10% difference you can possibly save a deal especially on a fixer home where the homeowner needs to keep as much personal funds as possible for home improvements.

Here’s how it works.  The 203k Streamline loan allows for up to $35k in repairs to be added to the purchase price of the home for remodeling purposes.  You obtain the purchase loan and remodeling funds all in one loan . The 203k loan has two appraisal figures on it’s appraisal instead of just one like a normal appraisal.  One value is the “as-is” value.  The other is a value including the repairs you are going to do to the home.

Let’s take a purchase price of $275,000.  The home appraisal comes in low at $268,000 using a conventional loan appraisal.  Flipping the loan to a 203k Streamline loan would trigger a new appraisal.  Let’s say the new 203k loan appraisal comes in at $268,000 as well,  that’s the “as-is” value. The seller will renotiate down to $271,00 and you’re left with coming up with $4,000 and you’re willing to do that since it’s a good deal, but now you’re also $4,000 short on home improvement funds. You can qualify for a slightly mortgage payment but you’re short on repair funds and you’re operating on a dime.  But with the 203k Streamline loan adds funds to your loan balance to do repairs and home improvements.  So now you’ve decided to add new countertops, cabinets, carpet and paint.  The total of updated improvements comes out to $20,000 which is double the home improvement budget you were planning to use (your own funds) and you can now hang on to that money.  The appraiser takes these improvements into account, and gives an after improvement value of $275,000.  Problem solved!

Granted the borrower is going to have to requalify for a higher loan amount.  If they were putting forth a down payment of 10% on the initial offer of $275,000 that would be $27,500 and a loan amount of $247,500.  On the 203k loan, the new loan amount is $259,200 ($268,000, new as-is appraised value + $20,000 in remodeling= $288,000 -10% down payment $28,800).  So the monthly payment may be $65.00 higher per month but……….they got upgrades financed into their loan at a low fixed rate, AND where else would they find a way to finance remodeling these days with having 10% equity/down payment?  HELOC lenders now require 25% equity before they’ll talk to you.

It’s a win-win for all involved.  Keep this option in mind when you have a low appraisal issue.  The seller sells their home and doesn’t have to relist it, and if that buyer really wants that house and they don’t have or want to come up with the full cash difference out of pocket to make it happen, think of the 203k Streamline. It can be used for remodeling financing and a deal saver at the same time.

Best,

KW