HUD Brochure 203k Rehab Loans
HUD Brochure - 203k Rehab Loans
Department of Housing and Urban Development
Questions and Answers
Section 203(k) Rehabilitation Mortgage
Insurance
1. Is there a secondary mortgage market for Section 203(k) mortgage
loans?
- Yes. The Government National Mortgage Association (GNMA) permits the
Section 203(k) mortgage to be placed in both GNMA I and II pools with
Section 203(b) mortgages. GNMA accepts the 203(k) mortgage once it has
been endorsed by HUD. The Federal National Mortgage Association (Fannie
Mae) and the Federal Home Loan Mortgage Corporation (Freddie Mac) will
also purchase a Section 203(k) first mortgage.
2. Is the Section 203(k) program restricted to single-family dwellings?
- No. The program can be used for one to four unit dwellings. Maximum
mortgage limitations are the same as for properties under Section
203(b).
3. Can Section 203(k) be used to improve a condominium unit?
- Yes, however, condominium rehabilition is subject to the following
conditions:
- a. Owner/occupant and qualified non-profit
borrowers only; no investors;
- b. Rehabilitation is limited only to the interior
of the unit. Mortgage proceeds are not to be used for the rehabilitation
of exteriors or other areas which are the responsibility of the
condominium association, except for the installation of firewalls in the
attic for the unit;
- c. Only the lesser of five units per condominium
association, or 25 percent of the total number of units, can be
undergoing rehabilitation at any one time;
- d. The maximum mortgage amount cannot exceed 100
percent of after-improved value.
After rehabilitation is complete, the individual buildings within
the condominium must not contain more than
four units. By law, Section 203(k) can only be used to rehabilitate
units in one-to-four unit structures. However, this does not mean that
the condominium project, as a whole, can only have four units or that
all indivdual structures must be detached.
Example: A project might consist of 6 buildings
each containing 4 units, for a total of 24 units in the project and,
thus, be eligible for Section 203(k). Likewise, a project could
contain a row of more than four attached townhouses and be eligible
for Section 203(k) because HUD considers each townhouse as one
structure, provided each unit is separated by a 1 1/2 hour firewall
(from foundation up to the roof).
Similar to a project with a condominium unit with a mortgage
insured under Section 234(c) of the National Housing Act, the
condominium project must be approved by HUD prior to the closing of
any individual mortgages on the condominium units.
4. Can Section 203(k) be used to convert a one family dwelling to a two,
three, or four-family dwelling (or vice versa)?
- Yes.
5. Can Section 203(k) be used to move an existing house onto another
site?
- Yes. However, release of loan proceeds for the existing structure on
the non-mortgaged property is not allowed until the new foundation has
been properly inspected and the dwelling has been properly placed and
secured to the new foundation.
At closing, funds would be released to purchase the site and the
rest of the mortgage proceeds would be placed in the Rehabilitation
Escrow Account. The Borrower would have the site prepared to accept
the dwelling. The first release would be based on the improvements
made to the site, including the installation of the existing structure
on the new foundation.
6. What is the minimum amount of rehabilitation required for a Section
203(k) mortgage?
- There is a minimum $5,000 requirement for the eligible improvements
on the existing structure on the property. Minor or cosmetic repairs by
themselves are unacceptable; however, they may be added to the minimum
requirement.
7. What eligible improvements are acceptable under the $5,000 minimum
requirement?
- A. Structural alterations and reconstruction
(e.g., repair or replacement of structural damage, chimney repair,
additions to the structure, installation of an additional bath(s),
skylights, finished attics and/or basements, repair of termite damage
and the treatment against termites or other insect infestation, etc.)
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B. Changes for improved functions and modernization
(e.g., remodeled bathrooms and kitchens, including permanently
installed appliances, i.e., built-in range and/or oven, range hood,
microwave, dishwasher).
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C. Elimination of health and safety hazards
(including the resolution of defective paint surfaces or lead-based
paint problems on homes built prior to 1978).
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D. Changes for aesthetic appeal and elimination
of obsolescence (e.g., new exterior siding, adding a second story to
the home, covered porch, stair railings, attached carport).
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E. Reconditioning or replacement of plumbing
(including connecting to public water and/or sewer system), heating,
air conditioning and electrical systems.
Installation of new plumbing fixtures is acceptable, including
interior whirlpool bathtubs.
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F. Installation of Well and/or Septic System. The
well or septic system must be installed or repaired prior to beginning
any other repairs to the property. A property less than 1/2 acre with
a separate well or septic system is not acceptable; also, a property
less than 1 acre with both a well and a septic system is unacceptable.
Lots smaller than these sizes, usually have problems in the future;
however, the local HUD Field Office can approve smaller lot size
requirements where the local health authority can justify smaller
lots.
The installation of a new well or the repair of an existing well
(used for the primary water source to the property) can be allowed
provided there is adequate documentation to show there is reason to
believe the well will produce a sufficient amount of potable water for
the occupants. (A well log of surrounding properties from the local
health authority is acceptable documentation.) Refer to HUD Handbook
4910.1, Appendix K, for additional information.
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G. Roofing, gutters and downspouts.
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H. Flooring, tiling and carpeting.
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I. Energy conservation improvements (e.g., new
double pane windows, steel insulated exterior doors, insulation, solar
domestic hot water systems, caulking and weather stripping, etc.).
-
J. Major landscape work and site improvement,
patios, decks and terraces that improve the value of the property
equal to the dollar amount spent on the improvements or required to
preserve the property from erosion. The correction of grading and
drainage problems is also acceptable. Tree removal is acceptable if
the tree is a safety hazard to the property. Repair of existing walks
and driveway is acceptable if it may affect the safety of the
property.
(Fencing, new walks and driveways, and general landscape work
(i.e., trees, shrubs, seeding or sodding) cannot be in the first $5000
requirement.)
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K. Improvements for accessibility to a disabled person
(e.g., remodeling kitchens and baths for wheelchair access, lowering
kitchen cabinets, installing wider doors and exterior ramps, etc.).
Related fixtures such as new cooking ranges, refrigerators, and
other appurtenances, as well as general painting are also eligible;
however, it must be in addition to the $5,000 requirement.
8. Can a detached garage or another dwelling be placed on the mortgaged
property?
- Yes. However, a new unit must be attached to the existing dwelling,
and must comply with HUD's Minimum Property Standards in 24 CFR 200.926d
and all local codes and ordinances.
9. Is there a time period on the rehabilitation construction period?
- Yes. The Rehabilitation Loan Agreement contains three provisions
concerning the timeliness of the work. The work must begin within 30
days of execution of the Agreement. The work must not cease prior to
completion for more than 30 consecutive days. The work is to be
completed within the time period shown in the Agreement (not to exceed 6
months); the lender should not allow a time period longer than that
required to complete the work.
10. What happens if the Borrower fails to perform under the terms of
the Agreement?
- The lender may refuse to make further releases from the
Rehabilitation Escrow Account. The funds remaining in the Account can be
applied to reduce the mortgage principal. Also, the lender has the
option to call the mortgage loan due and payable.
11. Does the rehabilitation construction have to comply with HUD's
Minimum Property Standards?
- Yes. The improvements must comply with HUD's Minimum Property
Standards (24 CFR 200.926d and/or HUD Handbook 4905.1) and all local
codes and ordinances.
12. Can Section 203(k) be processed under the Direct Endorsement
program?
- Yes. Direct Endorsement Lenders are required to attend special
training prior to processing 203(k) loans and they must submit test
cases as determined by the local office.
13. Does HUD always require a contingency reserve to cover unexpected
cost increases?
- Typically, yes. On properties older than 30 years and over $7,500 in
rehabilitation costs, the cost estimate must include a contingency
reserve. The reserve must be a minimum of ten (10) percent of the cost
of rehabilitation; however, the contingency reserve may not exceed
twenty (20) percent where major remodeling is contemplated. If utilities
were not turned on for inspection, a minimum fifteen (15) percent is
required.
14. How many draw releases can be scheduled during the rehabilitation
period?
- As many as five releases (four plus a final) can be scheduled. The
number of releases is normally dictated by the cash-flow requirements of
the contractor. An inspection is always required with a scheduled
release; however, inspections may be scheduled more often than releases
if necessary to ensure compliance with the architectural exhibits, HUD's
Minimum Property Standards and all local codes and ordinances. If the
cost of rehabilitation exceeds $10,000, then additional draw inspections
may be authorized under certain circumstances.
15. Can the architectural exhibits, including the cost estimate, be
modified after the mortgage loan is closed?
- Yes. The changes must be approved by HUD or a DE lender prior to
beginning the work. If the change affects the health, safety or
necessity of the dwelling, the contingency reserve can be used to pay
for the change. However, if the health, safety or necessity of the
dwelling is not affected and an increase in cost occurs, the Borrower
must apply monies into the contingency reserve fund to pay for the
change. Should the change result in a reduced cost of rehabilitation,
the difference will be placed in the contingency reserve fund; if
unused, it will be applied as a mortgage prepayment after completion of
construction.
16. What happens if the cost of the rehabilitation increases during the
rehabilitation period? Can the 203(k) mortgage amount be increased to
cover the additional expenses?
- No. This emphasizes the importance of carefully selecting a
contractor who will accurately estimate the cost of the improvements and
satisfactorily complete the rehabilitation at or below the estimate.
17. How long will it take after the sales contract is signed to go to
closing?
- If the cost estimates are completed within two weeks of signing the
sales contract, the loan should close within 60 to 90 days, assuming
there are no title problems and, of course, your borrower is qualified.
18. Can a Section 203(k) mortgage be an Adjustable Rate Mortgage?
- Yes. An Adjustable Rate Mortgage is available to an owner-occupant
only. Investors and non-profits are not eligible for an ARM.
19. Does a Direct Endorsement lender who is approved for the 203(k)
program need to be approved in another HUD office?
- No; however, the lender needs to submit their approval to the other
HUD office where they wish to originate 203(k) loans. Preclosing review
in the new HUD office will not be necessary.
20. Can a DE lender sponsor a correspondent lender to originate 203(k)
loans?
- Yes. The correspondent lender can even use the DE sponsor's staff
appraisers, inspectors and plan reviewer/consultants for processing.
21. Can an investor use the 203(k) program?
- Yes. Investors must have a 15% downpayment and can purchase (or
refinance) and rehabilitate properties for rental purposes or sell the
property (and get their profit using the Escrow Commitment Procedure) to
a qualified Homebuyer (who assumes the loan).
22. Can a local government agency or a nonprofit organization use the
203(k) program?
- Yes. The same qualification requirements will be used as for an
owner-occupant of the property.
23. Can mortgage payments (PITI) be included in the mortgage?
- Yes. Up to 6 months of payments may be included in the mortgage if
the property is not occupied during the rehab period.
24. Can a six (or more) unit building be done using the 203(k) program?
- No. However, the building could be renovated and reduced to a four
unit building.
25. Can a dwelling be converted to provide access for a disabled
person?
- Yes. A dwelling can be remodeled to improve the kitchen and bath to
accommodate a wheelchair access. Wider doors and handicap ramps can also
be included in the cost of rehabilitation.
26. Is a contractor required to do the work?
- No. However, if the borrower wants to do any work or be the general
contractor, they must be qualified to do the work, and do it in a timely
and workmanlike manner. It is very important that the work be done in a
time frame that will assure the completion of the work that will be
agreed upon in the Rehabilitation Loan Agreement (signed at closing). A
borrower doing their own work can only be paid for the cost of the
materials. Monies saved can be allocated to cost overruns or additional
improvements.
27. If the borrower does the work, how is the cost for work estimated?
- The cost estimate must be the same as if a contractor is doing the
work, in case the borrower cannot (for some reason) complete the work.
28. Can cost savings on the rehabilitation be given back to the
borrower?
- No. However, the savings can be transferred to cost overruns in
other work items or can be used to make additional improvements to the
property. If the cost savings are not used, the money must be applied to
the mortgage principal, but the mortgage payments will remain the same,
because the loan has already closed. To use the cost savings, it will be
necessary for a Change Order to be completed and approved by the lender.
29. Can any rehabilitation money be paid upfront to offset the startup
costs for the contractor?
- No. However, an exception can be allowed for kitchen and bath
cabinetry, or floor covering, where a contract is established with the
supplier and an order is placed with the manufacturer for delivery at a
later date.
30. Is there anyone available who can prepare the work writeup and cost
estimates?
- Yes. HUD allows fee inspectors to be an independent consultant with
the borrower. This is a time saver, because it can be completed in about
two weeks. After this step is completed, closing should occur within 60
to 90 days.
31. Can the borrower do their own work writeup and cost estimate?
- Yes. However, it will take them between three to six months to
complete. This slows down the process and will save only about $200, but
waste a lot of valuable time. Hiring an independent consultant will help
the closing occur within 60 to 90 days from completion of the work
writeup.
32. How can an investor purchase, rehab and sell a property at a profit
using the 203(k) program?
- Use the Escrow Commitment Procedure! This allows for good profits
when the property is purchased at a good price, rehabilitated and sold
at the after-improved value to an assuming borrower. A First Time
Homebuyer can assume this type of loan for no downpayment.
33. How can a homeowner refinance, rehab and sell a property at a
profit using the 203(k) program?
- Use the Escrow Commitment Procedure! This allows for good profits
when the property is purchased or refinanced at a good price,
rehabilitated and sold at the after-improved value to an assuming
borrower. A First Time Homebuyer can assume this type of loan for no
downpayment.
34. What is the definition of a First Time Homebuyer?
- A single person or an individual and his or her spouse who have not
owned a home (as a tenant in common or as a joint tenant by the
entirety) during the three years immediately preceding the date of
application for the 203(k) loan. Any individual who is legally separated
or divorced cannot be excluded from consideration, because the three
year waiting period does not apply, provided the individual no longer
has an interest in the home.
35. Is there a limitation on how many properties a person or
organization can have in any area of the community?
- Yes. A borrower can have not more than seven (7) units within a two
block radius of the property they want to purchase. However, if the
property is in a local community area that has been designated for
redevelopment or revitalization, then this seven unit limitation does
not apply.
36. Can nonresidential (storefront) property be eligible for a 203(k)
insured loan?
- Yes. Mixed use residential property is acceptable provided the
property has no greater than 25% (for a one story building); 33% (for a
three story building); and 49% (for a two story building) of its floor
area used for commercial (storefront) purposes. The rehab funds can only
be used for the residential functions of the dwelling and areas used to
access the residential part of the property.
37. Is only one appraisal required to establish the "after-rehab"
value of the property?
- Basically, yes, provided the lender can be assured that the contract
sales price is reasonable or the existing debt on the property is low
enough to assure a good equity position by the homeowner. On a HUD-owned
property, the lender can use HUD's appraisal for the after-rehab value.
38. Can HUD-owned properties be purchased using the 203(k) loan?
- Yes. However, the property must be advertised that it is eligible
for financing with a 203(k) loan. If the HUD-owned property is purchased
with other funds, a 203(k) loan can be made after the property is in the
buyers name. In this case, cash back will be allowed to the borrower for
a period of six months from purchasing the HUD-owned property.
39. Is the borrower required to enter into a contractual agreement with
the general contractor who will do the work on the property?
- No. However, it is strongly suggested that the lender protect their
interests to assure no liens are placed on the property.
40. Can an Energy Efficient Mortgage (EEM) be allowed using the 203(k)
program?
- Yes. A borrower can finance into the mortgage 100 percent of the
cost of eligible energy efficient improvements, subject to certain
dollar limitations, without an appraisal of the energy improvements
an without further credit qualification of the borrower.
U.S. Department of Housing and Urban Development
7th & D Street S.W.
Washington, D.C. 20410-3000
Official Business
Penalty for Private Use $300
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