Do you have a home that could use some serious updates? And maybe you don’t have the cash on hand to pay for these renovations out of pocket. If so, FHA 203k refinancing may be the solution you seek.
How does 203k refinancing work?
Even if the mortgage you currently have isn’t an FHA loan, you can still take advantage of refinancing that’s backed by the Federal Housing Administration. With an FHA 203k loan, you can borrow money to cover renovation costs and roll that sum into the monthly payments of your existing mortgage. A move may makes sense given today’s low interest rates. These 203k refinance loans often have low down payments (3.5% is the minimum) and low credit score requirements. Add in competitive interest rates compared to many other types of loans and you’ve got a great option to give your home a much-needed upgrade.
The Two Flavors of 203K Refinancing
There are two options with FHA 203k refinancing: Limited 203k loans and Standard 203k loans. Overall, they’re similar but do have key differences.
- A Limited 203k has no minimum dollar amount and is capped at $35,000, while a Standard loan has no upper limit, but a minimum loan amount of $5,000.
- Limited 203k loans are for smaller projects and can’t be used for major structural upgrades; Standard 203k loans are meant for major renovations.
- Limited loans have more flexibility in choosing contractors, while Standard 203k loans require licensed contractors.
- Projects under $15,000 don’t require inspections with Limited loans, while all work with Standard 203k refinancing, no matter the cost, requires inspections.
Home Improvements With FHA 203Ks
Cash-out isn’t the only option for home improvements; FHA 203K Rehabilitation Loans are designed specifically for this purpose, from upgrades, such as bathroom and kitchen makeovers, to significant reconstruction. And your initial mortgage doesn’t have to be an FHA Loan — anybody can do refinancing using an FHA 203K. There are two types of 203K refinancing: limited and standard.
- Limited 203K refinancing goes as high as $35,000. If projects come in under $15,000, inspections aren’t required. But you can’t do most major structural work with a Limited 203K. For those, you need a Standard 203K.
- Standard 203K refinancing starts with projects that cost $5,000 and is usually for big stuff like replacing plumbing systems or adding on extra rooms.
Are there any requirements that I should know about?
A few. The list of eligible home-improvement projects with 203k loans is long, ranging from plumbing, roofing, and flooring to landscaping, a host of energy-efficient improvements, and more. But luxury upgrades aren’t allowed. So no swimming pools, tennis courts, hot tubs, barbecue pits, and the like. While home offices are fine, you can’t use 203k loans to turn part of your home into a commercial business. 203k loans require FHA mortgage insurance. And there are closing costs with FHA 203k loans, which are about the same amount as one would pay with other refinancing methods.
Most Popular Home Improvements
So you know that your home could use some major upgrades. And have the means to pay for them with 203k refinancing. You’re probably considering big structural stuff such as roofs and plumbing and heating systems, which often top the upgrade lists of many homeowners. Where else might you want to put your refinancing dollars? Here are some top home improvement projects to consider:
- Windows. Replacing old windows with new energy-efficient ones makes financial sense; the U.S. Department of Energy estimates that windows often account for 25% to 30% of heat loss and gain in homes. Beyond upgrades, adding more windows is a popular trend, with homeowners installing skylights, floor-to-ceiling windows, and even replacing entire walls with glass.
- Home offices. Millions of office workers shifted to telecommuting with the onset of the coronavirus pandemic. And many will stay that way, making home offices more important than ever. From converting an existing space, such as a bedroom, to add-on construction, creating a dedicated at-home workspace is a practical idea.
- Flooring. Replacing old worn-out carpets with new ones is a popular home upgrade. And while carpeting remains a top choice for many, other flooring trends are on the rise. Today’s luxury vinyl isn’t like the flimsy stuff from the old days, with modern high-quality vinyl flooring that is nearly indistinguishable from wood, stone, and ceramic. And traditional wood flooring is always a great way to go.
- Disaster preparedness. As weather events related to climate change are increasingly bearing down on homeowners, fortifying homes against Mother Nature has become more common. These upgrades include flood-mitigation measures such as increased drainage and installing flood-proof windows and sea-wall barriers, as well as backup power systems, storm shutters, and more.
Using 203K Loans for Investing
While 203k rehabilitation loans are designed for primary residences, there are some ways they can be used for investment properties. One way is to refinance the mortgage on the home you live in, using the loan to make renovations on that residence. Then, one year after the loan closes, you may move out and rent the home to someone else. With some stipulations. The FHA requires that your move has to be for a legitimate reason, such as the need to relocate for a new job or the very real need for more space with a growing family. In essence, it’s possible if you planned to stay in the home for more than a year, but factors beyond your control changed that plan.
It’s also possible to use 203k loans for purchasing investment properties. Savvy investors may wish to use 203k loans to purchase fixer-uppers with the intention of flipping the properties for profits. However, that’s not feasible; 203k mortgages, whether they are for purchases or for upgrades on existing properties, are restricted for use with primary residences — the borrower must reside at the property. But it is possible, and common, for the owner of a property to live there and utilize the rest of the property as an investment with rental units.
According to FHA rules, a borrower can purchase a multi-family building with two to four units, or a structure that they’ll convert into a similar multi-unit property, using a 203k. On the condition that the borrower lives in one of the units for at least 12 months. After that? Then the borrower is free to move out (again, conditionally) and rent the unit that they once lived in. It’s worth noting that one can’t accumulate investment properties this way, by merely living in each newly acquired multi-family building for a year and moving on. A few exceptions aside, FHA 203k loans are one-at-a-time deals.
Whether it’s desperately needed home repairs or paying for improvements that make your dream home all the more dreamy, City Lending is here to meet your needs with the renovation loan that’s perfect for you.
With today’s attractive interest rates, now is a good time to refinance. The “when” part is clear. But what about the “why?” Why would you want to refinance your mortgage and what will you use the potential savings for? Let’s consider how your specific financial goals can be achieved through refinancing.
The Simple Goal of Saving Money
So how much can you save? Black Knight, a leader in mortgage data and analytics, says that an estimated six million people with mortgages could each save around $275 per month through refinancing. That’s over $3,000 per year for each homeowner who refinances. To put that amount into perspective, that means that in America, there’s a combined annual savings of close to $20 billion that’s not being realized.
How do you know if you’re a good candidate for refinancing? A chat with your lender would be helpful here, but in broad terms, borrowers who have home equity of 20% or more with credit scores that are 720 and up are well-positioned to seek refinancing. These homeowners, which Black Knight labels as “high-quality” candidates for refinancing, may be able to cut up to 0.75% from the rate they are currently paying on their mortgages. Some could see reductions of 1%.
Let’s look at how that kind of reduction would work in practice with a hypothetical $250,000 mortgage loan over 30 years at 4%. If that mortgage was to get refinanced at 3%, the monthly payments would decrease by $140 a month, with an annual savings of $1,680.
Can I refinance a second mortgage?
Yes. Sometimes called home equity loans, second mortgages can often reap the same refinancing benefits as primary ones. Notably by reducing monthly payments for short-term savings and/or offering long-term savings through paying less interest. Got high payments on a second mortgage? You might consider lengthening the loan’s term to give you some relief on monthly expenditures. Or you may wish to increase the amount of the loan, and just might have the increased borrowing power to do so; the unprecedented rise in home values across America of late has given many homeowners equally unprecedented home equity to tap into.
Could a cash-out refinance be right for you?
Just as it sounds, a cash-out refinance is used to put cash in your hand to use any way you wish. If you want to use the money to buy a diamond-studded hot tub, go right ahead. Though most folks use the money more practically. Data from the Federal Home Loan Mortgage Corporation (Freddie Mac) shows that around 40% of homeowners who do cash-out refinancing use the money to pay off debts, while about 30% of them invest in their homes through repairs or construction. 7% of borrowers use the cash-out money for college, 9% buy cars, and 14% of them put their refinancing savings in the bank.
Home Improvements With FHA 203Ks
As Freddie Mac data shows, home improvements are one of the leading reasons why homeowners turn to refinancing. But cash-out isn’t the only way to go here; FHA 203K Rehabilitation Loans are designed specifically for home improvements, whether it is upgrades, such as bathroom and kitchen makeovers, or significant reconstruction. As they’re backed by the Federal Housing Administration, 203Ks often have fewer requirements and more flexibility with qualification compared to conventional mortgages.
How do FHA 203K Rehabilitation Loans work with refinancing? To answer the first question of many, No, your initial mortgage doesn’t have to be an FHA Loan — anybody can do refinancing using an FHA 203K. And as with other refinancing options, the repayment of the loan can be rolled into your monthly mortgage payments. There are two types of 203K refinancing: limited and standard.
- Limited 203K refinancing, sometimes referred to as streamline loans, has no minimum cost threshold and offers as high as $35,000, with further flexibility in that homeowners can choose their own contractors and, in some cases, even do some of the improvements themselves. If projects come in under $15,000, inspections aren’t required. But you can’t do most major structural work with a Limited 203K. For those, you need a Standard 203K.
- Standard 203K refinancing starts with projects that cost $5,000 and up. No matter the cost of the renovations, all work needs to be inspected by a consultant who is approved by the U.S. Department of Housing and Urban Development (HUD). A few FHA-approved exceptions aside, homeowners must work with general contractors who are licensed. Standard 203K refinancing is usually for big stuff like replacing plumbing systems or adding on extra rooms.
Defining Your Goals
Knowing exactly what you want to do with the extra money you gain through mortgage refinancing is an important part of the process. What are your financial goals? Maybe you’re looking to pay off debt, put away money for retirement, or just make sure you have enough cash on hand to deal with any emergencies that life throws your way. For many, paying off a mortgage is a goal, and so refinancing from a 30-year mortgage down to a 15-year mortgage is a simple way to achieve that objective. Whatever you wish to achieve, you should go into the refinancing process with that singular goal in mind.
Consider Your Closing Costs
The closing costs of refinancing often run between 3% and 6% of the loan’s total amount. Your lender can give you a more precise idea of what the costs of your refinancing will be, and how they factor into the overall cost-benefit analysis you’ll have to make, calculating your break-even point. Say, for example, you refinance with $15,000 in closing costs to give you a monthly savings of $200. It would take 75 months for those savings to cancel out the closing costs and then all savings after those 75 months are the true cash-in-pocket gains.
