The Federal Housing Administration (FHA), which is part of
the Department of Housing and Urban Development (HUD),
administers various single family mortgage insurance
programs. These programs operate through FHA-approved
lending institutions which submit applications to have the
property appraised and have the buyer's credit approved.
These lenders fund the mortgage loans which the
Department insures. HUD does not make direct loans to help
people buy homes.
The Section 203(k) program is the Department's primary
program for the rehabilitation and repair of single family
properties. As such, it is an important tool for community
and neighborhood revitalization and for expanding
homeownership opportunities. Since these are the primary
goals of HUD, the Department believes that Section 203(k)
is an important program and we intend to continue to
strongly support the program and the lenders that
participate in it.
the Department of Housing and Urban Development (HUD),
administers various single family mortgage insurance
programs. These programs operate through FHA-approved
lending institutions which submit applications to have the
property appraised and have the buyer's credit approved.
These lenders fund the mortgage loans which the
Department insures. HUD does not make direct loans to help
people buy homes.
The Section 203(k) program is the Department's primary
program for the rehabilitation and repair of single family
properties. As such, it is an important tool for community
and neighborhood revitalization and for expanding
homeownership opportunities. Since these are the primary
goals of HUD, the Department believes that Section 203(k)
is an important program and we intend to continue to
strongly support the program and the lenders that
participate in it.
Rehab a Home w/HUD's 203(k) Rehab
Program
Program
Many lenders have successfully used the Section 203(k) program in partnership with
state and local housing agencies and nonprofit organizations to rehabilitate properties.
These lenders, along with state and local government agencies, have found ways to
combine Section 203(k) with other financial resources, such as HUD's HOME, HOPE,
and Community Development Block Grant Programs, to assist borrowers. Several state
housing finance agencies have designed programs, specifically for use with Section
203(k) and some lenders have also used the expertise of local housing agencies and
nonprofit organizations to help manage the rehabilitation processing.
The Department also believes that the Section 203(k) program is an excellent means
for lenders to demonstrate their commitment to lending in lower income communities
and to help meet their responsibilities under the Community Reinvestment Act (CRA).
HUD is committed to increasing homeownership opportunities for families in these
communities and Section 203(k) is an excellent product for use with CRA-type lending
programs.
If you have questions about the 203(k) program or are interested in getting a 203(k)
insured mortgage loan, we suggest that you get in touch with an FHA-approved lender
in your area or the Homeownership Center in your area.
Introduction
Section 10 1 (c) (1) of the Housing and Community Development Amendments of
1978 (Public Law 95557) amends Section 203(k) of the National Housing Act (NHA).
The objective of the revision is to enable HUD to promote and facilitate the restoration
and preservation of the Nation's existing housing stock. The provisions of Section
203(k) are located in Chapter II of Title 24 of the Code of Federal Regulations under
Section 203.50 and Sections 203.440 through 203.494. Program instructions are in
HUD Handbook 4240-4. HUD Handbooks may be ordered online from The HUD
Compendium or from HUDCLIPS.
203(k) - How It Is Different
Most mortgage financing plans provide only permanent financing. That is, the lender
will not usually close the loan and release the mortgage proceeds unless the condition
and value of the property provide adequate loan security. When rehabilitation is
involved, this means that a lender typically requires the improvements to be finished
before a long-term mortgage is made.
When a homebuyer wants to purchase a house in need of repair or modernization, the
homebuyer usually has to obtain financing first to purchase the dwelling; additional
financing to do the rehabilitation construction; and a permanent mortgage when the
work is completed to pay off the interim loans with a permanent mortgage. Often the
interim financing (the acquisition and construction loans) involves relatively high
interest rates and short amortization periods. The Section 203(k) program was
designed to address this situation. The borrower can get just one mortgage loan, at a
long-term fixed (or adjustable) rate, to finance both the acquisition and the
rehabilitation of the property. To provide funds for the rehabilitation, the mortgage
amount is based on the projected value of the property with the work completed,
taking into account the cost of the work. To minimize the risk to the mortgage lender,
the mortgage loan (the maximum allowable amount) is eligible for endorsement by
HUD as soon as the mortgage proceeds are disbursed and a rehabilitation escrow
account is established. At this point the lender has a fully-insured mortgage loan.
Eligible Property
To be eligible, the property must be a one- to four-family dwelling that has been
completed for at least one year. The number of units on the site must be acceptable
according to the provisions of local zoning requirements. All newly constructed units
must be attached to the existing dwelling. Cooperative units are not eligible.
Homes that have been demolished, or will be razed as part of the rehabilitation work,
are eligible provided some of the existing foundation system remains in place.
In addition to typical home rehabilitation projects, this program can be used to convert
a one-family dwelling to a two-, three-, or four-family dwelling. An existing multi-unit
dwelling could be decreased to a one- to four-family unit.
An existing house (or modular unit) on another site can be moved onto the mortgaged
property; 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.
A 203(k) mortgage may be originated on a "mixed use" residential property provided:
(1) The property has no greater than 25 percent (for a one story building); 33 percent
(for a three story building); and 49 percent (for a two story building) of its floor area
used for commercial (storefront) purposes; (2) the commercial use will not affect the
health and safety of the occupants of the residential property; and (3) the
rehabilitation funds will only be used for the residential functions of the dwelling and
areas used to access the residential part of the property.
Condominium Unit
The Department also permits Section 203(k) mortgages to be used for individual units
in condominium projects that have been approved by FHA, the Department of Veterans
Affairs, or are acceptable to FNMA under the guidelines listed below.
The 203(k) program was not intended to be a project mortgage insurance program, as
large scale development has considerably more risk than individual single-family
mortgage insurance. Therefore, condominium rehabilitation is subject to the following
conditions:
Owner/occupant and qualified non-profit borrowers only; no investors;
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;
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;
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 individual
structures must be detached.
Example: A project might consist of six buildings each containing four 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.
How the Program Can Be Used
This program can be used to accomplish rehabilitation and/or improvement of an
existing one-to-four unit dwelling in one of three ways: To purchase a dwelling and
the land on which the dwelling is located and rehabilitate it.
To purchase a dwelling on another site, move it onto a new foundation on the
mortgaged property and rehabilitate it.
To refinance existing indebtedness and rehabilitate such a dwelling.
To purchase a dwelling and the land on which the dwelling is located and rehabilitate
it, and to refinance existing indebtedness and rehabilitate such a dwelling, the
mortgage must be a first lien on the property and the loan proceeds (other than
rehabilitation funds) must be available before the rehabilitation begins.
To purchase a dwelling on another site, move it onto a new foundation and rehabilitate
it, the mortgage must be a first lien on the property; however, loan proceeds for the
moving of the house cannot be made available until the unit is attached to the new
foundation.
Eligible Improvements
Luxury items and improvements that do not become a permanent part of the real
property are not eligible as a cost rehabilitation. However, the homeowner can use the
203(k) program to finance such items as painting, room additions, decks and other
items even if the home does not need any other improvements. All health, safety and
energy conservation items must be addressed prior to completing general home
improvements.
Required Improvements
All rehabilitation construction and/or additions financed with Section 203(k) mortgage
proceeds must comply with the following:
A. Cost Effective Energy Conservation Standards
(1) Addition to Existing Structure. New construction must conform with local codes and
HUD Minimum Property Standards in 24 CFR 200.926d.
(2) Rehabilitation of Existing Structure. To improve the thermal efficiency of the
dwelling, the following are required:
a) Weatherstrip all doors and windows to reduce infiltration of air when existing
weatherstripping is inadequate or nonexistent.
b) Caulk or seal all openings, cracks or joints in the building envelope to reduce air
infiltration.
c) Insulate all openings in exterior walls where the cavity has been exposed as a
result of the rehabilitation. Insulate ceiling areas where necessary
d) Adequately ventilate attic and crawl space areas. For additional information and
requirements, refer to 24 CFR Part 39.
(3) Replacement Systems.
a) Heating, ventilating, and air conditioning system supply and return pipes and ducts
must be insulated whenever they run through unconditioned spaces.
b) Heating systems, burners, and air conditioning systems must be carefully sized to be
no greater than 15 percent oversized for the critical design, heating or cooling, except
to satisfy the manufacturer's next closest nominal size.
B. Smoke Detectors. Each sleeping area must be provided with a minimum of one (1)
approved, listed and labeled smoke detector installed adjacent to the sleeping area.
Required Appraisals
In order to determine the maximum mortgage amount, the 203(k) valuation analysis
consists of two separate determinations of value.
A. As-is Value. A separate appraisal (Uniform Residential Appraisal Report) may be
required to determine the as-is value. However, the lender may determine that an
as-is appraisal is not feasible or necessary. In this instance, the lender may use the
contract sales price on a purchase transaction, or the existing debt on a refinance
transaction, as the as-is value, when this does not exceed a reasonable estimate of
value.
Further, on a refinance transaction, when a large amount of existing debt (i.e., first and
second mortgages) suggests that the borrower has little or no equity in the property,
the lender must obtain a current as-is appraisal on which to base the estimated as-is
value.
On a refinance, the borrower may have substantial equity in the property to assure
that no further down payment is required on the new loan amount. In some cases, the
borrower will not have an existing mortgage on the property. In this case, the lender
should obtain some comparables from a real estate agent/ broker to estimate an
approximate as-is value of the property.
Another way of establishing the as-is value is to obtain a copy of the local jurisdiction
tax valuation on the property.
B. Value After Rehabilitation. The expected market value of the property is determined
upon completion of the proposed rehabilitation and/or improvements.
For a HUD-owned property an as-is appraisal is not required and a DE lender may
request the HUD Field Office to release the outstanding HUD Property Disposition
appraisal on the property to the lender to establish the maximum mortgage for the
property. The HUD appraisal will be considered acceptable for use by the lender if. (1)
it is not over one year old prior to bid acceptance from HUD; and (2) the sales contract
price plus the cost of rehabilitation does not exceed 110 percent of the "As Repaired
Value" shown on the HUD appraisal. If the HUD appraisal is insufficient, the DE Lender
may order another appraisal to assure the market value of the property will be
adequate to make the purchase of the property feasible. For a HUD-property, down
payment for an owner-occupant or non-profit organization is three percent of the
accepted bid price of the property and 100 percent financing on all other costs.
Recently Acquired Properties
Homebuyers who purchase a property with cash can refinance the property using
203(k) within six (6) months of purchase, the same as if the buyer purchased the
property with a 203(k) insured loan to begin with. Evidence of interim financing is not
required; the mortgage calculations will be done the same as a purchase transaction.
Cash back will be allowed to the borrower in this situation less any down payment and
closing cost requirement for the 203(k) loan. A copy of the Sales Contract and the
HUD-1 Settlement Statement must be submitted to verify the accepted bid price (as-is
value) of the property and the closing date.
Architectural Exhibits
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. The
homebuyer may decide to employ an architect or a consultant to prepare the proposal.
The homebuyer must provide the lender with the appro priate architectural exhibits
that clearly show the scope of work to be accomplished. The following list of exhibits
are recom mended, but may be modified by the local HUD Field Office as required.
A. A Plot Plan of the Site is required only if a new addition is being made to the existing
structure. Show the location of the structure(s), walks, drives, streets, and other
relevant details. Include finished grade elevations at the property corners and building
corners. Show the required flood elevation.
B. Proposed Interior Plan of the Dwelling. Show where structural or planning changes
are contemplated, including an addition to the dwelling. (An existing plan is no longer
required.)
C. Work Write-up and Cost Estimate. Any format may be used for these documents,
however, quantity and the cost of each item must be shown. Also include a complete
description of the work for each item (where necessary). The Rehabilitation Checklist
in Appendix 1 of Handbook 4240.4 REV-2 should be used to ensure all work items are
considered. Transfer the costs to the Draw Request (form HUD-9746-A).
Cost estimates must include labor and materials sufficient to complete the work by a
contractor. Homebuyers doing their own work cannot eliminate the cost estimate for
labor, because if they cannot complete the work there must be sufficient money in the
escrow account to get a subcontractor to do the work. The Work Write-up does not
need to reflect the color or specific model numbers of appliances, bathroom fixtures,
carpeting, etc., unless they are nonstandard units.
The consultant who prepares the work write-up and cost estimate (or an architect,
engineering or home inspection service) needs to inspect the property to assure: (1)
there are no rodents, dryrot, termites and other infestation; (2) there are no defects
that will affect the health and safety of the occupants; (3) the adequacy of the existing
structural, heating, plumbing, electrical and roofing systems; and (4) the upgrading of
thermal protection (where necessary).
Definitions for Use in the 203(k) Program
A. Insurance of Advances. This refers to insurance of the 203(k) mortgage prior to the
rehabilitation period. A mortgage that is a first lien on the property is eligible to be
endorsed for insurance following mortgage loan closing, disbursement of the mortgage
proceeds, and establishment of the Rehabilitation Escrow Account.
The mortgage amount may include funds for the purchase of the property or the
refinance of existing indebtedness, the costs incidental to closing the transaction, and
the completion of the proposed rehabilitation. The mortgage proceeds allocated for the
rehabilitation will be escrowed at closing in a Rehabilitation Escrow Account.
B. Rehabilitation Escrow Account. When the loan is closed, the proceeds designated for
the rehabilitation or improvement, including the contingency reserve, are to be placed
in an interest bearing escrow account insured by the Federal Deposit Insurance
Corporation (FDIC) or the National Credit Union Administration (NCUA). This account
is not an escrow for the paying of real estate taxes, insurance premiums, delinquent
notes, ground rents or assessments, and is not to be treated as such. The net income
earned by the Rehabilitation Escrow Account must be paid to the mortgagor. The
method of such payment is subject to agreement between mortgagor and mortgagee.
The lender (or its agent) will release escrowed funds upon completion of the proposed
rehabilitation in accordance with the Work Write-Up and the Draw Request (Form
HUD-9746,A).
C. Inspections. Performed by HUD-approved fee inspectors or on the HUD-accepted
staff of the DE lender. The fee inspector is to use the architectural exhibits in order to
make a determination of compliance or non-compliance. When the inspection is
scheduled with a payment, the inspector is to indicate whether or not the work has
been completed. Also, the inspector is to use the Draw Request form (Form
HUD-9746-A). The first draw must not be scheduled until the lender has determined
that the applicable building permits have been issued.
D. Holdback. A ten (10) percent holdback is required on each release from the
Rehabilitation Escrow Account. The total of all holdbacks may be released only after a
final inspection of the rehabilitation and issuance of the Final Release Notice. The
lender (or its agent) may retain the holdback for a maximum of 35 calendar days, or
the time period required by law to file a lien, whichever is longer, to ensure that no
liens are placed on the property.
E. Contingency Reserve. At the discretion of the HUD Field Office, the cost estimate
may include a contingency reserve if the existing construction is less than 30 years
old, or the nature of the work is complex or extensive. For properties older than 30
years, the cost estimate must include a contingency reserve of 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 the utilities were not
turned on for inspection, a minimum fifteen (15) percent is required. If the scope of
work is well defined and uncomplicated, and the rehabilitation cost is less then $7500,
the lender may waive the requirement for a contingency reserve.
The contingency reserve account can be used by the borrower to make additional
improvements to the dwelling. A Request for Change Letter must be submitted with the
applicable cost estimates. However, the change can only be accepted when the lender
determines: (1) It is unlikely that any deficiency that may affect the health and safety
of the property will be discovered; and (2) the mortgage will not exceed the appraised
value of the property less the statutory investment requirement. If the mortgage
exceeds the appraised value less the statutory investment, then the contingency
reserve must be paid down on the mortgage principal. If a borrower feels that the
contingency reserve will not be used and he wishes to avoid having the reserve
applied to reduce the mortgage balance after issuance of the Final Release Notice, the
borrower may place his own funds into the contingency reserve account. In this case, if
monies are remaining in the account after the Final Release Notice is issued, the
monies may be released back to the borrower.
If the mortgage is at the maximum mortgage limit for the area or for the particular
type of transaction, but a contingency reserve is necessary, the contingency reserve
must be placed into an escrow account from other funds of the borrower at closing.
Under these circumstances, if the contingency reserve is not used, the remaining funds
in the escrow account will be released to the borrower after the Final Release Notice
has been issued.
F. Mortgage Payment Reserve. Funds not to exceed the amount of six (6) mortgage
payments (including the mortgage insurance premium) can be included in the cost of
rehabilitation to assist a mortgagor (whether a principal residence or an investment
property) when the property is not occupied during rehabilitation. The number of
mortgage payments cannot exceed the completion time frame required in the
Rehabilitation Loan Agreement. The lender must make the monthly mortgage payments
directly from the interest bearing reserve account. Monies remaining in the reserve
account after the Final Release Notice must be applied to the mortgage principal.
G. Approval of Non-Profit Agencies. A non-profit agency, before it can be approved as
an eligible mortgagor and obtain the same mortgage amount as available to
owner-occupants on Section 203(k) mortgages, must demonstrate its experience as a
housing provider to HUD and meet all other requirements described in HUD Handbook
4155.1 REV-4, paragraphs 1-5. It must also be able to provide satisfactory evidence
that it has the financial capacity to purchase the properties.
Maximum Mortgage Amount
The mortgage amount, when added to any other existing indebtedness against the
property, cannot exceed the applicable loan-to-value ratio and maximum dollar amount
limitations prescribed for similar properties under Section 203(b). The Mortgage
Payment Reserve is considered a part of the cost of rehabilitation for determining the
maximum mortgage amount.
A. Maximum Mortgage Calculation. The value is defined as the lesser of:
1) The as-is value of the property before rehabilitation plus the cost of rehabilitation;
or
2) 110 percent of the expected market value of the property upon completion of the
work.
Principal Residence (Owner-Occupant) & HUD Approved Non-Profit Organization. For
purchases with 203(k) financing: the maximum mortgage amount is to be based upon
the HUD estimate of value in 1) or 2) above, less the statutory investment
requirement. For refinances under the 203(k) program: the maximum mortgage
amount is to be based upon 97/95/90 percent of the HUD estimate of value in 1) or 2)
above.
B. Cost of Rehabilitation. Expenses eligible to be included in the cost of rehabilitation
are materials, labor, contingency reserve, overhead and construction profit, up to six
(6) months of mortgage payments, plus expenses related to the rehabilitation such as
permits, fees, inspection fees by a qualified home inspector, licenses and consultant
and/or architectural/engineering fees. The cost of rehabilitation may also include the
supplemental origination fee which the mortgagor is permitted to pay when the
mortgage involves insurance of advances, and the discounts which the mortgagor will
pay on that portion of the mortgage proceeds allocated to the rehabilitation.
C. Exemption of the Market Value Limitation. The 203(k) regulations allow for a
waiver of the market value limitation, which allows the appraiser to go outside the
targeted area to obtain the value of comparable properties. Such requests must be
forwarded to the Assistant Secretary of Housing-Federal Housing Commissioner at the
HUD Headquarters.
Requests must include documentation that the following conditions are present:
1) The property is located within an area which is subject to a community sponsored
program of concentrated redevelopment or revitalization (See 24 CFR Part 220).
2) The market value loan limitation prevents the use of the program to accomplish
rehabilitation in the subject area.
3) The interests of the borrower and the Secretary of HUD are adequately protected.
D. Solar Energy Increase. The mortgage is eligible for an increase of up to 20 percent
in the maximum insurable mortgage amount if such an increase is necessary for the
installation of solar energy equipment.
The solar energy system's contribution to value will be limited by its replacement cost
or by its effect on the value of the dwelling.
E. Energy Efficient Mortgage Program. Under the FHA EEM Program, 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 and without further credit qualification of the borrower. To be eligible
for inclusion into the mortgage, the energy efficient improvements must be "cost
effective," i.e., the total cost of the improvements (including maintenance costs) must
be less than the total present value of the energy saved over the useful life of the
improvements. The cost of any improvement to the property that will increase the
property's energy efficiency and that is determined to be "cost effective" is eligible for
financing into the mortgage and its cost may be added to the mortgage amount up to
the greater of:
1) 5 percent of the property's value (not to exceed $8000) or,
2)$4000.
"Cost effective" means that the total cost of the improvements, including any
maintenance costs, is less than the total present value of the energy saved over the
useful life of the energy improvement. The FHA maximum loan limit for the area may
be exceeded by the cost of the energy efficient improvements. However, the entire
mortgage cannot exceed 110 percent of the value of the property
The cost of the energy improvements and the estimate of the energy savings must be
determined based upon a physical inspection of the property by a home energy rating
system (HERS) or energy consultant. For a 203(k) loan, the entire cost of the HERS or
the energy consultant can be included in the mortgage.
On new construction (an addition or new building on an existing foundation), the
energy improvement must be over and above those required for compliance with the
current FHA energy conservation standards for new construction. The estimate of the
energy savings in new construction must be based upon a comparison of plans and
specification of the house with the additional energy saving improvements to those of
the basic house which complies with the current FHA energy conservation standards.
Presently, these standards are those of the 1992 CABO Model Energy Code (MEC).
The energy inspection of the property must be performed prior to completion of the
work writeup and cost estimate to assure there is no duplication of work items in the
mortgage. After the completion of the appraisal, the cost of the energy improvements
are calculated by the lender to determine how much can be added to the mortgage
amount.
Seven Unit Limitation
HUD regulations and policies state that an investor should not be allowed to rapidly
accumulate FHA insured properties that clearly and collectively constitute a multifamily
project. In general, a borrower may not have an interest in more than seven rental
units (FHA, VA, conventional or owned free and clear of any mortgage) in the same
subdivision or contiguous area. For 203(k) purposes, HUD defines a contiguous area
as within a two block radius.
The seven unit limitation does not apply if (1) the neighborhood has been targeted by a
State or local government for redevelopment or revitalization; and (2) the State or
local government has submitted a plan to HUD that defines the area, extent and type of
commitment to redevelop the area. A restriction may still be imposed (by HUD) within
a redevelopment area (or sub-area) in order to prevent undesirable concentrations of
units under a single (or group) ownership. H U D will determine that the seven unit
limit is inapplicable only if: (1) the investor will own no more than 10 percent of the
housing units (regardless of financing type) in the designated redevelopment area or
sub-area; and (2) the investor has no more than eight units on adjacent lots.
Interest Rate and Discount Points
These are not regulated and are negotiable between the borrower and the lender. The
amortization of the loan will be for 30 years; however, provisions of the Section
203(k) mortgage (described in Section 203.21 of the Regulations) are the same as
prescribed under Section 203(b).
Maximum Charges and Fees
The statutory requirements and administrative policies of Section 203(k) result in
deviations from the maximum amount of charges and fees permitted under Section
203(b).
A. Supplemental Origination Fee. When the Section 203(k) mortgage involves
insurance of advances, the lender may collect from the mortgagor a supplemental
origination fee. This fee is calculated as one and one-half percent (1-1/2%) of the
portion of the mortgage allocated to the rehabilitation or $350, whichever is greater.
This supplemental origination fee is collected in addition to the one percent origination
fee on the total mortgage amount.
B. Independent Consultant Fee. A borrower can have an independent consultant
prepare the required architectural exhibits. A borrower can also use a contractor to
prepare the construction exhibits or prepare the exhibits themselves. The use of a
consultant is not required; however, the borrower should consider using this service in
order to expedite the processing of the 203(k) loan. When a consultant is used, HUD
does not warrant the competence of the consultant or the quality of the work the
consultant may perform for the borrower. The consultant must enter into a written
agreement with the borrower that completely explains what services the consultant
will perform for the borrower and the fee charged. The fee charged by the consultant
can be included in the mortgage. A fee of $400 is acceptable for a property with
repairs less than $7,500; $500 for repairs between $7,501 and $15,000; $600 for
repairs between $ 15,001 and $ 30,000; and $ 700 for repairs between $30,001 and
$50,000; $800 for repairs between $50,001 and $75,000; $900 for repairs between
$75,001 and $100,000; and $ 1,000 for repairs over $100,000. An additional fee of
$25 can be charged for each additional unit in the property under the same FHA case
number. For this fee, the consultant would inspect the property and provide all the
required architectural exhibits. State licensed architect or engineer fees are not
restricted by this fee schedule. The architect and engineer fees must be customary and
reasonable for the type of project.)
C. Plan Review Fee. Prior to the appraisal, a HUD-accepted plan reviewer (or fee
consultant) must visit the site to ensure compliance with program requirements. The
utilities must be on for this site review to take place. The fee is as follows and may not
be changed without HUD Headquarters approval:
1) Initial review prior to appraisal:
Cost of Repairs/Fee: <$15,000=$100.00, >$15,001 but less than or equal
to<$30,000=$150.00, >$30,001=$200.00
2) Additional unit review (two to four units with same case number)-$50.00/unit.
3) Additional review (reinspection of the same unit)-$50.00. When travel distance
exceeds 30 miles round trip from the reviewer's place of business, a mileage charge
(established by HUD Field Office) may be applied to the above charges, including toll
road and other charges where applicable.
D. Appraisal Fee. To process a Section 203(k) mortgage, two appraisals can be
performed: (1) As-is value of the property; and (2) Estimated market value of the
property assuming completion of the rehabilitation. The maximum fee which a lender
may collect for these two appraisals is one and one-half times the amount permitted
for a Section 203(b) proposed construction appraisal, as established by the HUD Field
Office. If only one appraisal is done, the fee will be the same as a proposed
construction appraisal.
E. Inspection Fee (during the rehabilitation construction period). Established by the
local HUD Field Office.
(1) Fees for a maximum of five draw inspections will be allowed for inclusion in the
cost of rehabilitation. If all inspections are not required, remaining funds will be
applied to the principal after the Final Release Notice is issued.
(2) If additional inspections are required by the lender to ensure satisfactory
compliance with exhibits, the borrower or contractor will be responsible for payment;
however, the lender has ultimate responsibility.
F. Title Update Fee. To protect the validity of the mortgage position from mechanic's
liens on the property, reasonable fees charged by a title company may be included as
an allowable cost of rehabilitation. When the mortgage position is protected and is not
in jeopardy, this fee may not apply Borrowers may wish to obtain lien protection, but
the fees must be paid by the borrower where such lien protection is not required to
ensure the validity of the security instrument. The allowable fee should not exceed
$50.00 per draw release. If all draw inspections are not made, monies left in escrow
must be applied to reduce the mortgage balance.
Application Process
This describes a typical step-by-step application/mortgage origination process for a
transaction involving the purchase and rehabilitation of a property. It explains the role
of HUD, the mortgage lender, the contractor, the borrower, consultant, the plan
reviewer, appraiser and the inspector.
A. Homebuyer Locates the Property.
B. Preliminary Feasibility Analysis. After the property is located, the homebuyer and
their real estate professional should make a marketability analysis prior to signing the
sales contract. The following should be determined:
1) The extent of the rehabilitation work required;
2) Rough cost estimate of the work; and
3) The expected market value of the property after completion of the work. Note: The
borrower does not want to spend money for appraisals and repair specifications
(plans), then discover that the value of the property will be less than the purchase
price (or existing indebtedness), plus the cost of improvements.
C. Sales Contract is Executed. A provision should be included in the sales contract that
the buyer has applied for Section 203(k) financing, and that the contract is contingent
upon loan approval and buyer's acceptance of additional required improvements as
determined by HUD or the lender.
D. Homebuyer Selects Mortgage Lender. Call HUD Field Office for a list of lenders.
E. Homebuyer Prepares Work Write-up and Cost Estimate. A consultant can help the
buyer prepare the exhibits to speed up the loan process. If a plan reviewer is the
consultant, item G can be skipped and the exhibits can go directly to the appraisal
stage.
F. Lender Requests HUD Case Number. Upon acceptance of the architectural exhibits,
the lender requests the assignment of a HUD case number, the plan reviewer,
appraiser, and the inspector.
G. Plan Reviewer Visits Property. The homebuyer and contractor (where applicable)
meet with the plan reviewer to ensure that the architectural exhibits are acceptable
and that all program requirements have been properly shown on the exhibits.
H. Appraiser Performs the Appraisal.
I. Lender Reviews the Application The appraisal is reviewed to determine the
maximum insurable mortgage amount for the property
J. Issuance of Conditional Commitment/Statement of Appraised Value. This is issued by
the lender and establishes the maximum insurable mortgage amount for the property.
K. Lender Prepares Firm Commitment Application. The borrower provides information
for the lender to request a credit report, verifications of employment and deposits, and
any other source documents needed to establish the ability of the borrower to repay
the mortgage.
L. Lender Issues Firm Commitment. If the application is found acceptable, the firm
commitment is issued to the borrower. It states the maximum mortgage amount that
HUD will insure for the borrower and the property.
M. Mortgage Loan Closing. After issuance of the firm commitment, the lender prepares
for the closing of the mortgage. This includes the preparation of the Rehabilitation Loan
Agreement. The Agreement is executed by the borrower and the lender in order to
establish the conditions under which the lender will release funds from the
Rehabilitation Escrow Account. Following closing, the borrower is required to begin
making mortgage payments on the entire principal amount for the mortgage, including
the amount in the Rehabilitation Escrow Account that has not yet been disbursed.
N. Mortgage Insurance Endorsement. Following loan closing, the lender submits copies
of the mortgage documents to the HUD office for mortgage insurance endorsement.
HUD reviews the submission and, if found acceptable, issues a Mortgage Insurance
Certificate to the lender.
O. Rehabilitation Construction Begins. At loan closing, the mortgage proceeds will be
disbursed to pay off the seller of the existing property and the Rehabilitation Escrow
Account will be established. Construction may begin. The homeowner has up to six (6)
months to complete the work depending on the extent of work to be completed.
(Lenders may require less than six months.)
P. Releases from Rehabilitation Escrow Account. As construction progresses, funds are
released after the work is inspected by a HUD-approved inspector. A maximum of four
draw inspections plus a final inspection are allowed. The inspector reviews the Draw
Request (form HUD-9746-A) that is prepared by the borrower and contractor. If the
cost of rehabilitation exceeds $10,000, additional draw inspections are authorized
provided the lender and borrower agree in writing and the number of draw inspections
is shown on form HUD-92700, 203(k) Maximum Mortgage Worksheet.
Q. Completion of Work/Final Inspection. When all work is complete according to the
approved architectural exhibits and change orders, the borrower provides a letter
indicating that all work is satisfactorily complete and ready for final inspection. If the
HUD-approved inspector agrees, the final draw may be released, minus the required
10 percent holdback. If there is unused contingency funds or mortgage payment
reserves in the Account, the lender must apply the funds to prepay the mortgage
principal.
state and local housing agencies and nonprofit organizations to rehabilitate properties.
These lenders, along with state and local government agencies, have found ways to
combine Section 203(k) with other financial resources, such as HUD's HOME, HOPE,
and Community Development Block Grant Programs, to assist borrowers. Several state
housing finance agencies have designed programs, specifically for use with Section
203(k) and some lenders have also used the expertise of local housing agencies and
nonprofit organizations to help manage the rehabilitation processing.
The Department also believes that the Section 203(k) program is an excellent means
for lenders to demonstrate their commitment to lending in lower income communities
and to help meet their responsibilities under the Community Reinvestment Act (CRA).
HUD is committed to increasing homeownership opportunities for families in these
communities and Section 203(k) is an excellent product for use with CRA-type lending
programs.
If you have questions about the 203(k) program or are interested in getting a 203(k)
insured mortgage loan, we suggest that you get in touch with an FHA-approved lender
in your area or the Homeownership Center in your area.
Introduction
Section 10 1 (c) (1) of the Housing and Community Development Amendments of
1978 (Public Law 95557) amends Section 203(k) of the National Housing Act (NHA).
The objective of the revision is to enable HUD to promote and facilitate the restoration
and preservation of the Nation's existing housing stock. The provisions of Section
203(k) are located in Chapter II of Title 24 of the Code of Federal Regulations under
Section 203.50 and Sections 203.440 through 203.494. Program instructions are in
HUD Handbook 4240-4. HUD Handbooks may be ordered online from The HUD
Compendium or from HUDCLIPS.
203(k) - How It Is Different
Most mortgage financing plans provide only permanent financing. That is, the lender
will not usually close the loan and release the mortgage proceeds unless the condition
and value of the property provide adequate loan security. When rehabilitation is
involved, this means that a lender typically requires the improvements to be finished
before a long-term mortgage is made.
When a homebuyer wants to purchase a house in need of repair or modernization, the
homebuyer usually has to obtain financing first to purchase the dwelling; additional
financing to do the rehabilitation construction; and a permanent mortgage when the
work is completed to pay off the interim loans with a permanent mortgage. Often the
interim financing (the acquisition and construction loans) involves relatively high
interest rates and short amortization periods. The Section 203(k) program was
designed to address this situation. The borrower can get just one mortgage loan, at a
long-term fixed (or adjustable) rate, to finance both the acquisition and the
rehabilitation of the property. To provide funds for the rehabilitation, the mortgage
amount is based on the projected value of the property with the work completed,
taking into account the cost of the work. To minimize the risk to the mortgage lender,
the mortgage loan (the maximum allowable amount) is eligible for endorsement by
HUD as soon as the mortgage proceeds are disbursed and a rehabilitation escrow
account is established. At this point the lender has a fully-insured mortgage loan.
Eligible Property
To be eligible, the property must be a one- to four-family dwelling that has been
completed for at least one year. The number of units on the site must be acceptable
according to the provisions of local zoning requirements. All newly constructed units
must be attached to the existing dwelling. Cooperative units are not eligible.
Homes that have been demolished, or will be razed as part of the rehabilitation work,
are eligible provided some of the existing foundation system remains in place.
In addition to typical home rehabilitation projects, this program can be used to convert
a one-family dwelling to a two-, three-, or four-family dwelling. An existing multi-unit
dwelling could be decreased to a one- to four-family unit.
An existing house (or modular unit) on another site can be moved onto the mortgaged
property; 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.
A 203(k) mortgage may be originated on a "mixed use" residential property provided:
(1) The property has no greater than 25 percent (for a one story building); 33 percent
(for a three story building); and 49 percent (for a two story building) of its floor area
used for commercial (storefront) purposes; (2) the commercial use will not affect the
health and safety of the occupants of the residential property; and (3) the
rehabilitation funds will only be used for the residential functions of the dwelling and
areas used to access the residential part of the property.
Condominium Unit
The Department also permits Section 203(k) mortgages to be used for individual units
in condominium projects that have been approved by FHA, the Department of Veterans
Affairs, or are acceptable to FNMA under the guidelines listed below.
The 203(k) program was not intended to be a project mortgage insurance program, as
large scale development has considerably more risk than individual single-family
mortgage insurance. Therefore, condominium rehabilitation is subject to the following
conditions:
Owner/occupant and qualified non-profit borrowers only; no investors;
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;
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;
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 individual
structures must be detached.
Example: A project might consist of six buildings each containing four 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.
How the Program Can Be Used
This program can be used to accomplish rehabilitation and/or improvement of an
existing one-to-four unit dwelling in one of three ways: To purchase a dwelling and
the land on which the dwelling is located and rehabilitate it.
To purchase a dwelling on another site, move it onto a new foundation on the
mortgaged property and rehabilitate it.
To refinance existing indebtedness and rehabilitate such a dwelling.
To purchase a dwelling and the land on which the dwelling is located and rehabilitate
it, and to refinance existing indebtedness and rehabilitate such a dwelling, the
mortgage must be a first lien on the property and the loan proceeds (other than
rehabilitation funds) must be available before the rehabilitation begins.
To purchase a dwelling on another site, move it onto a new foundation and rehabilitate
it, the mortgage must be a first lien on the property; however, loan proceeds for the
moving of the house cannot be made available until the unit is attached to the new
foundation.
Eligible Improvements
Luxury items and improvements that do not become a permanent part of the real
property are not eligible as a cost rehabilitation. However, the homeowner can use the
203(k) program to finance such items as painting, room additions, decks and other
items even if the home does not need any other improvements. All health, safety and
energy conservation items must be addressed prior to completing general home
improvements.
Required Improvements
All rehabilitation construction and/or additions financed with Section 203(k) mortgage
proceeds must comply with the following:
A. Cost Effective Energy Conservation Standards
(1) Addition to Existing Structure. New construction must conform with local codes and
HUD Minimum Property Standards in 24 CFR 200.926d.
(2) Rehabilitation of Existing Structure. To improve the thermal efficiency of the
dwelling, the following are required:
a) Weatherstrip all doors and windows to reduce infiltration of air when existing
weatherstripping is inadequate or nonexistent.
b) Caulk or seal all openings, cracks or joints in the building envelope to reduce air
infiltration.
c) Insulate all openings in exterior walls where the cavity has been exposed as a
result of the rehabilitation. Insulate ceiling areas where necessary
d) Adequately ventilate attic and crawl space areas. For additional information and
requirements, refer to 24 CFR Part 39.
(3) Replacement Systems.
a) Heating, ventilating, and air conditioning system supply and return pipes and ducts
must be insulated whenever they run through unconditioned spaces.
b) Heating systems, burners, and air conditioning systems must be carefully sized to be
no greater than 15 percent oversized for the critical design, heating or cooling, except
to satisfy the manufacturer's next closest nominal size.
B. Smoke Detectors. Each sleeping area must be provided with a minimum of one (1)
approved, listed and labeled smoke detector installed adjacent to the sleeping area.
Required Appraisals
In order to determine the maximum mortgage amount, the 203(k) valuation analysis
consists of two separate determinations of value.
A. As-is Value. A separate appraisal (Uniform Residential Appraisal Report) may be
required to determine the as-is value. However, the lender may determine that an
as-is appraisal is not feasible or necessary. In this instance, the lender may use the
contract sales price on a purchase transaction, or the existing debt on a refinance
transaction, as the as-is value, when this does not exceed a reasonable estimate of
value.
Further, on a refinance transaction, when a large amount of existing debt (i.e., first and
second mortgages) suggests that the borrower has little or no equity in the property,
the lender must obtain a current as-is appraisal on which to base the estimated as-is
value.
On a refinance, the borrower may have substantial equity in the property to assure
that no further down payment is required on the new loan amount. In some cases, the
borrower will not have an existing mortgage on the property. In this case, the lender
should obtain some comparables from a real estate agent/ broker to estimate an
approximate as-is value of the property.
Another way of establishing the as-is value is to obtain a copy of the local jurisdiction
tax valuation on the property.
B. Value After Rehabilitation. The expected market value of the property is determined
upon completion of the proposed rehabilitation and/or improvements.
For a HUD-owned property an as-is appraisal is not required and a DE lender may
request the HUD Field Office to release the outstanding HUD Property Disposition
appraisal on the property to the lender to establish the maximum mortgage for the
property. The HUD appraisal will be considered acceptable for use by the lender if. (1)
it is not over one year old prior to bid acceptance from HUD; and (2) the sales contract
price plus the cost of rehabilitation does not exceed 110 percent of the "As Repaired
Value" shown on the HUD appraisal. If the HUD appraisal is insufficient, the DE Lender
may order another appraisal to assure the market value of the property will be
adequate to make the purchase of the property feasible. For a HUD-property, down
payment for an owner-occupant or non-profit organization is three percent of the
accepted bid price of the property and 100 percent financing on all other costs.
Recently Acquired Properties
Homebuyers who purchase a property with cash can refinance the property using
203(k) within six (6) months of purchase, the same as if the buyer purchased the
property with a 203(k) insured loan to begin with. Evidence of interim financing is not
required; the mortgage calculations will be done the same as a purchase transaction.
Cash back will be allowed to the borrower in this situation less any down payment and
closing cost requirement for the 203(k) loan. A copy of the Sales Contract and the
HUD-1 Settlement Statement must be submitted to verify the accepted bid price (as-is
value) of the property and the closing date.
Architectural Exhibits
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. The
homebuyer may decide to employ an architect or a consultant to prepare the proposal.
The homebuyer must provide the lender with the appro priate architectural exhibits
that clearly show the scope of work to be accomplished. The following list of exhibits
are recom mended, but may be modified by the local HUD Field Office as required.
A. A Plot Plan of the Site is required only if a new addition is being made to the existing
structure. Show the location of the structure(s), walks, drives, streets, and other
relevant details. Include finished grade elevations at the property corners and building
corners. Show the required flood elevation.
B. Proposed Interior Plan of the Dwelling. Show where structural or planning changes
are contemplated, including an addition to the dwelling. (An existing plan is no longer
required.)
C. Work Write-up and Cost Estimate. Any format may be used for these documents,
however, quantity and the cost of each item must be shown. Also include a complete
description of the work for each item (where necessary). The Rehabilitation Checklist
in Appendix 1 of Handbook 4240.4 REV-2 should be used to ensure all work items are
considered. Transfer the costs to the Draw Request (form HUD-9746-A).
Cost estimates must include labor and materials sufficient to complete the work by a
contractor. Homebuyers doing their own work cannot eliminate the cost estimate for
labor, because if they cannot complete the work there must be sufficient money in the
escrow account to get a subcontractor to do the work. The Work Write-up does not
need to reflect the color or specific model numbers of appliances, bathroom fixtures,
carpeting, etc., unless they are nonstandard units.
The consultant who prepares the work write-up and cost estimate (or an architect,
engineering or home inspection service) needs to inspect the property to assure: (1)
there are no rodents, dryrot, termites and other infestation; (2) there are no defects
that will affect the health and safety of the occupants; (3) the adequacy of the existing
structural, heating, plumbing, electrical and roofing systems; and (4) the upgrading of
thermal protection (where necessary).
Definitions for Use in the 203(k) Program
A. Insurance of Advances. This refers to insurance of the 203(k) mortgage prior to the
rehabilitation period. A mortgage that is a first lien on the property is eligible to be
endorsed for insurance following mortgage loan closing, disbursement of the mortgage
proceeds, and establishment of the Rehabilitation Escrow Account.
The mortgage amount may include funds for the purchase of the property or the
refinance of existing indebtedness, the costs incidental to closing the transaction, and
the completion of the proposed rehabilitation. The mortgage proceeds allocated for the
rehabilitation will be escrowed at closing in a Rehabilitation Escrow Account.
B. Rehabilitation Escrow Account. When the loan is closed, the proceeds designated for
the rehabilitation or improvement, including the contingency reserve, are to be placed
in an interest bearing escrow account insured by the Federal Deposit Insurance
Corporation (FDIC) or the National Credit Union Administration (NCUA). This account
is not an escrow for the paying of real estate taxes, insurance premiums, delinquent
notes, ground rents or assessments, and is not to be treated as such. The net income
earned by the Rehabilitation Escrow Account must be paid to the mortgagor. The
method of such payment is subject to agreement between mortgagor and mortgagee.
The lender (or its agent) will release escrowed funds upon completion of the proposed
rehabilitation in accordance with the Work Write-Up and the Draw Request (Form
HUD-9746,A).
C. Inspections. Performed by HUD-approved fee inspectors or on the HUD-accepted
staff of the DE lender. The fee inspector is to use the architectural exhibits in order to
make a determination of compliance or non-compliance. When the inspection is
scheduled with a payment, the inspector is to indicate whether or not the work has
been completed. Also, the inspector is to use the Draw Request form (Form
HUD-9746-A). The first draw must not be scheduled until the lender has determined
that the applicable building permits have been issued.
D. Holdback. A ten (10) percent holdback is required on each release from the
Rehabilitation Escrow Account. The total of all holdbacks may be released only after a
final inspection of the rehabilitation and issuance of the Final Release Notice. The
lender (or its agent) may retain the holdback for a maximum of 35 calendar days, or
the time period required by law to file a lien, whichever is longer, to ensure that no
liens are placed on the property.
E. Contingency Reserve. At the discretion of the HUD Field Office, the cost estimate
may include a contingency reserve if the existing construction is less than 30 years
old, or the nature of the work is complex or extensive. For properties older than 30
years, the cost estimate must include a contingency reserve of 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 the utilities were not
turned on for inspection, a minimum fifteen (15) percent is required. If the scope of
work is well defined and uncomplicated, and the rehabilitation cost is less then $7500,
the lender may waive the requirement for a contingency reserve.
The contingency reserve account can be used by the borrower to make additional
improvements to the dwelling. A Request for Change Letter must be submitted with the
applicable cost estimates. However, the change can only be accepted when the lender
determines: (1) It is unlikely that any deficiency that may affect the health and safety
of the property will be discovered; and (2) the mortgage will not exceed the appraised
value of the property less the statutory investment requirement. If the mortgage
exceeds the appraised value less the statutory investment, then the contingency
reserve must be paid down on the mortgage principal. If a borrower feels that the
contingency reserve will not be used and he wishes to avoid having the reserve
applied to reduce the mortgage balance after issuance of the Final Release Notice, the
borrower may place his own funds into the contingency reserve account. In this case, if
monies are remaining in the account after the Final Release Notice is issued, the
monies may be released back to the borrower.
If the mortgage is at the maximum mortgage limit for the area or for the particular
type of transaction, but a contingency reserve is necessary, the contingency reserve
must be placed into an escrow account from other funds of the borrower at closing.
Under these circumstances, if the contingency reserve is not used, the remaining funds
in the escrow account will be released to the borrower after the Final Release Notice
has been issued.
F. Mortgage Payment Reserve. Funds not to exceed the amount of six (6) mortgage
payments (including the mortgage insurance premium) can be included in the cost of
rehabilitation to assist a mortgagor (whether a principal residence or an investment
property) when the property is not occupied during rehabilitation. The number of
mortgage payments cannot exceed the completion time frame required in the
Rehabilitation Loan Agreement. The lender must make the monthly mortgage payments
directly from the interest bearing reserve account. Monies remaining in the reserve
account after the Final Release Notice must be applied to the mortgage principal.
G. Approval of Non-Profit Agencies. A non-profit agency, before it can be approved as
an eligible mortgagor and obtain the same mortgage amount as available to
owner-occupants on Section 203(k) mortgages, must demonstrate its experience as a
housing provider to HUD and meet all other requirements described in HUD Handbook
4155.1 REV-4, paragraphs 1-5. It must also be able to provide satisfactory evidence
that it has the financial capacity to purchase the properties.
Maximum Mortgage Amount
The mortgage amount, when added to any other existing indebtedness against the
property, cannot exceed the applicable loan-to-value ratio and maximum dollar amount
limitations prescribed for similar properties under Section 203(b). The Mortgage
Payment Reserve is considered a part of the cost of rehabilitation for determining the
maximum mortgage amount.
A. Maximum Mortgage Calculation. The value is defined as the lesser of:
1) The as-is value of the property before rehabilitation plus the cost of rehabilitation;
or
2) 110 percent of the expected market value of the property upon completion of the
work.
Principal Residence (Owner-Occupant) & HUD Approved Non-Profit Organization. For
purchases with 203(k) financing: the maximum mortgage amount is to be based upon
the HUD estimate of value in 1) or 2) above, less the statutory investment
requirement. For refinances under the 203(k) program: the maximum mortgage
amount is to be based upon 97/95/90 percent of the HUD estimate of value in 1) or 2)
above.
B. Cost of Rehabilitation. Expenses eligible to be included in the cost of rehabilitation
are materials, labor, contingency reserve, overhead and construction profit, up to six
(6) months of mortgage payments, plus expenses related to the rehabilitation such as
permits, fees, inspection fees by a qualified home inspector, licenses and consultant
and/or architectural/engineering fees. The cost of rehabilitation may also include the
supplemental origination fee which the mortgagor is permitted to pay when the
mortgage involves insurance of advances, and the discounts which the mortgagor will
pay on that portion of the mortgage proceeds allocated to the rehabilitation.
C. Exemption of the Market Value Limitation. The 203(k) regulations allow for a
waiver of the market value limitation, which allows the appraiser to go outside the
targeted area to obtain the value of comparable properties. Such requests must be
forwarded to the Assistant Secretary of Housing-Federal Housing Commissioner at the
HUD Headquarters.
Requests must include documentation that the following conditions are present:
1) The property is located within an area which is subject to a community sponsored
program of concentrated redevelopment or revitalization (See 24 CFR Part 220).
2) The market value loan limitation prevents the use of the program to accomplish
rehabilitation in the subject area.
3) The interests of the borrower and the Secretary of HUD are adequately protected.
D. Solar Energy Increase. The mortgage is eligible for an increase of up to 20 percent
in the maximum insurable mortgage amount if such an increase is necessary for the
installation of solar energy equipment.
The solar energy system's contribution to value will be limited by its replacement cost
or by its effect on the value of the dwelling.
E. Energy Efficient Mortgage Program. Under the FHA EEM Program, 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 and without further credit qualification of the borrower. To be eligible
for inclusion into the mortgage, the energy efficient improvements must be "cost
effective," i.e., the total cost of the improvements (including maintenance costs) must
be less than the total present value of the energy saved over the useful life of the
improvements. The cost of any improvement to the property that will increase the
property's energy efficiency and that is determined to be "cost effective" is eligible for
financing into the mortgage and its cost may be added to the mortgage amount up to
the greater of:
1) 5 percent of the property's value (not to exceed $8000) or,
2)$4000.
"Cost effective" means that the total cost of the improvements, including any
maintenance costs, is less than the total present value of the energy saved over the
useful life of the energy improvement. The FHA maximum loan limit for the area may
be exceeded by the cost of the energy efficient improvements. However, the entire
mortgage cannot exceed 110 percent of the value of the property
The cost of the energy improvements and the estimate of the energy savings must be
determined based upon a physical inspection of the property by a home energy rating
system (HERS) or energy consultant. For a 203(k) loan, the entire cost of the HERS or
the energy consultant can be included in the mortgage.
On new construction (an addition or new building on an existing foundation), the
energy improvement must be over and above those required for compliance with the
current FHA energy conservation standards for new construction. The estimate of the
energy savings in new construction must be based upon a comparison of plans and
specification of the house with the additional energy saving improvements to those of
the basic house which complies with the current FHA energy conservation standards.
Presently, these standards are those of the 1992 CABO Model Energy Code (MEC).
The energy inspection of the property must be performed prior to completion of the
work writeup and cost estimate to assure there is no duplication of work items in the
mortgage. After the completion of the appraisal, the cost of the energy improvements
are calculated by the lender to determine how much can be added to the mortgage
amount.
Seven Unit Limitation
HUD regulations and policies state that an investor should not be allowed to rapidly
accumulate FHA insured properties that clearly and collectively constitute a multifamily
project. In general, a borrower may not have an interest in more than seven rental
units (FHA, VA, conventional or owned free and clear of any mortgage) in the same
subdivision or contiguous area. For 203(k) purposes, HUD defines a contiguous area
as within a two block radius.
The seven unit limitation does not apply if (1) the neighborhood has been targeted by a
State or local government for redevelopment or revitalization; and (2) the State or
local government has submitted a plan to HUD that defines the area, extent and type of
commitment to redevelop the area. A restriction may still be imposed (by HUD) within
a redevelopment area (or sub-area) in order to prevent undesirable concentrations of
units under a single (or group) ownership. H U D will determine that the seven unit
limit is inapplicable only if: (1) the investor will own no more than 10 percent of the
housing units (regardless of financing type) in the designated redevelopment area or
sub-area; and (2) the investor has no more than eight units on adjacent lots.
Interest Rate and Discount Points
These are not regulated and are negotiable between the borrower and the lender. The
amortization of the loan will be for 30 years; however, provisions of the Section
203(k) mortgage (described in Section 203.21 of the Regulations) are the same as
prescribed under Section 203(b).
Maximum Charges and Fees
The statutory requirements and administrative policies of Section 203(k) result in
deviations from the maximum amount of charges and fees permitted under Section
203(b).
A. Supplemental Origination Fee. When the Section 203(k) mortgage involves
insurance of advances, the lender may collect from the mortgagor a supplemental
origination fee. This fee is calculated as one and one-half percent (1-1/2%) of the
portion of the mortgage allocated to the rehabilitation or $350, whichever is greater.
This supplemental origination fee is collected in addition to the one percent origination
fee on the total mortgage amount.
B. Independent Consultant Fee. A borrower can have an independent consultant
prepare the required architectural exhibits. A borrower can also use a contractor to
prepare the construction exhibits or prepare the exhibits themselves. The use of a
consultant is not required; however, the borrower should consider using this service in
order to expedite the processing of the 203(k) loan. When a consultant is used, HUD
does not warrant the competence of the consultant or the quality of the work the
consultant may perform for the borrower. The consultant must enter into a written
agreement with the borrower that completely explains what services the consultant
will perform for the borrower and the fee charged. The fee charged by the consultant
can be included in the mortgage. A fee of $400 is acceptable for a property with
repairs less than $7,500; $500 for repairs between $7,501 and $15,000; $600 for
repairs between $ 15,001 and $ 30,000; and $ 700 for repairs between $30,001 and
$50,000; $800 for repairs between $50,001 and $75,000; $900 for repairs between
$75,001 and $100,000; and $ 1,000 for repairs over $100,000. An additional fee of
$25 can be charged for each additional unit in the property under the same FHA case
number. For this fee, the consultant would inspect the property and provide all the
required architectural exhibits. State licensed architect or engineer fees are not
restricted by this fee schedule. The architect and engineer fees must be customary and
reasonable for the type of project.)
C. Plan Review Fee. Prior to the appraisal, a HUD-accepted plan reviewer (or fee
consultant) must visit the site to ensure compliance with program requirements. The
utilities must be on for this site review to take place. The fee is as follows and may not
be changed without HUD Headquarters approval:
1) Initial review prior to appraisal:
Cost of Repairs/Fee: <$15,000=$100.00, >$15,001 but less than or equal
to<$30,000=$150.00, >$30,001=$200.00
2) Additional unit review (two to four units with same case number)-$50.00/unit.
3) Additional review (reinspection of the same unit)-$50.00. When travel distance
exceeds 30 miles round trip from the reviewer's place of business, a mileage charge
(established by HUD Field Office) may be applied to the above charges, including toll
road and other charges where applicable.
D. Appraisal Fee. To process a Section 203(k) mortgage, two appraisals can be
performed: (1) As-is value of the property; and (2) Estimated market value of the
property assuming completion of the rehabilitation. The maximum fee which a lender
may collect for these two appraisals is one and one-half times the amount permitted
for a Section 203(b) proposed construction appraisal, as established by the HUD Field
Office. If only one appraisal is done, the fee will be the same as a proposed
construction appraisal.
E. Inspection Fee (during the rehabilitation construction period). Established by the
local HUD Field Office.
(1) Fees for a maximum of five draw inspections will be allowed for inclusion in the
cost of rehabilitation. If all inspections are not required, remaining funds will be
applied to the principal after the Final Release Notice is issued.
(2) If additional inspections are required by the lender to ensure satisfactory
compliance with exhibits, the borrower or contractor will be responsible for payment;
however, the lender has ultimate responsibility.
F. Title Update Fee. To protect the validity of the mortgage position from mechanic's
liens on the property, reasonable fees charged by a title company may be included as
an allowable cost of rehabilitation. When the mortgage position is protected and is not
in jeopardy, this fee may not apply Borrowers may wish to obtain lien protection, but
the fees must be paid by the borrower where such lien protection is not required to
ensure the validity of the security instrument. The allowable fee should not exceed
$50.00 per draw release. If all draw inspections are not made, monies left in escrow
must be applied to reduce the mortgage balance.
Application Process
This describes a typical step-by-step application/mortgage origination process for a
transaction involving the purchase and rehabilitation of a property. It explains the role
of HUD, the mortgage lender, the contractor, the borrower, consultant, the plan
reviewer, appraiser and the inspector.
A. Homebuyer Locates the Property.
B. Preliminary Feasibility Analysis. After the property is located, the homebuyer and
their real estate professional should make a marketability analysis prior to signing the
sales contract. The following should be determined:
1) The extent of the rehabilitation work required;
2) Rough cost estimate of the work; and
3) The expected market value of the property after completion of the work. Note: The
borrower does not want to spend money for appraisals and repair specifications
(plans), then discover that the value of the property will be less than the purchase
price (or existing indebtedness), plus the cost of improvements.
C. Sales Contract is Executed. A provision should be included in the sales contract that
the buyer has applied for Section 203(k) financing, and that the contract is contingent
upon loan approval and buyer's acceptance of additional required improvements as
determined by HUD or the lender.
D. Homebuyer Selects Mortgage Lender. Call HUD Field Office for a list of lenders.
E. Homebuyer Prepares Work Write-up and Cost Estimate. A consultant can help the
buyer prepare the exhibits to speed up the loan process. If a plan reviewer is the
consultant, item G can be skipped and the exhibits can go directly to the appraisal
stage.
F. Lender Requests HUD Case Number. Upon acceptance of the architectural exhibits,
the lender requests the assignment of a HUD case number, the plan reviewer,
appraiser, and the inspector.
G. Plan Reviewer Visits Property. The homebuyer and contractor (where applicable)
meet with the plan reviewer to ensure that the architectural exhibits are acceptable
and that all program requirements have been properly shown on the exhibits.
H. Appraiser Performs the Appraisal.
I. Lender Reviews the Application The appraisal is reviewed to determine the
maximum insurable mortgage amount for the property
J. Issuance of Conditional Commitment/Statement of Appraised Value. This is issued by
the lender and establishes the maximum insurable mortgage amount for the property.
K. Lender Prepares Firm Commitment Application. The borrower provides information
for the lender to request a credit report, verifications of employment and deposits, and
any other source documents needed to establish the ability of the borrower to repay
the mortgage.
L. Lender Issues Firm Commitment. If the application is found acceptable, the firm
commitment is issued to the borrower. It states the maximum mortgage amount that
HUD will insure for the borrower and the property.
M. Mortgage Loan Closing. After issuance of the firm commitment, the lender prepares
for the closing of the mortgage. This includes the preparation of the Rehabilitation Loan
Agreement. The Agreement is executed by the borrower and the lender in order to
establish the conditions under which the lender will release funds from the
Rehabilitation Escrow Account. Following closing, the borrower is required to begin
making mortgage payments on the entire principal amount for the mortgage, including
the amount in the Rehabilitation Escrow Account that has not yet been disbursed.
N. Mortgage Insurance Endorsement. Following loan closing, the lender submits copies
of the mortgage documents to the HUD office for mortgage insurance endorsement.
HUD reviews the submission and, if found acceptable, issues a Mortgage Insurance
Certificate to the lender.
O. Rehabilitation Construction Begins. At loan closing, the mortgage proceeds will be
disbursed to pay off the seller of the existing property and the Rehabilitation Escrow
Account will be established. Construction may begin. The homeowner has up to six (6)
months to complete the work depending on the extent of work to be completed.
(Lenders may require less than six months.)
P. Releases from Rehabilitation Escrow Account. As construction progresses, funds are
released after the work is inspected by a HUD-approved inspector. A maximum of four
draw inspections plus a final inspection are allowed. The inspector reviews the Draw
Request (form HUD-9746-A) that is prepared by the borrower and contractor. If the
cost of rehabilitation exceeds $10,000, additional draw inspections are authorized
provided the lender and borrower agree in writing and the number of draw inspections
is shown on form HUD-92700, 203(k) Maximum Mortgage Worksheet.
Q. Completion of Work/Final Inspection. When all work is complete according to the
approved architectural exhibits and change orders, the borrower provides a letter
indicating that all work is satisfactorily complete and ready for final inspection. If the
HUD-approved inspector agrees, the final draw may be released, minus the required
10 percent holdback. If there is unused contingency funds or mortgage payment
reserves in the Account, the lender must apply the funds to prepay the mortgage
principal.
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| USDA Loan Programs |
