As a Chicago 203k lender I hear often from Realtors when I speak to them about FHA 203K renovation loans and other types of rehab loans that they don’t like them and will not suggest them to their buyer clients. Now I understand that Realtors do want to make money and have their transactions close as soon as possible. I do get that and I do realize no one likes a deal that takes extra long to close. I know I don’t like having to tell everyone their sale can’t close on time due to some lending issue or another. That doesn’t make me popular with anyone. But for the buyers’ interests renovation loans can be truly the best deal they may ever see. So I ask realtors to please be patient with me and let me explain.
One of the reasons Realtors give me they don’t like renovation loans is because the rates are higher than other loans. Another reason is they can take longer to close. Both are valid concerns I want to address. The rates on any type of renovation loan are higher, usually by a half percent or a bit more sometimes than a regular purchase loan. That is due to the risk involved in lending funds for both acquisition and construction all in one loan for a 30 year term length. What I want to explain is that these are not meant to be a “forever” loan like a 30 year fixed. A renovation loan is really meant to be temporary, in place for up to 6 months during renovation. Then I try very hard to replace that loan with a regular non-renovation loan. I just don’t ever get to explain this thoroughly to Realtors and that there is a huge advantage to this 2 step approach. The reason renovation loans will usually take longer than say 30 days to close is we have to validate the Contractor or multiple Contractors a buyer may interview and get proposals from each one. We don’t always get the fastest response from Contractors. Validating a Contractor is critical in that we all need to see current insurance, licenses, references, etc. in order for a Contractor to be fully vetted and trusted to participate and complete the job. This is all for the protection of the buyer client. I will be up front about the extra time and if that just wont work for the buyer or seller then it is best for all to move on to another house perhaps. It is not unusual for a renovation loan to take 45 or even 55 calendar days to close. I believe everyone respects me for being honest and frankly not all my competitors will be as forth coming. That’s why Realtors often want to avoid a renovation situation. But being honest at the start I believe is valuable to all concerned.
The best way I can illustrate it is to tell you about a client I had recently on an FHA 203k renovation loan. She saw a foreclosed home selling for $43,000 in her neighborhood. It was about 50 years old and in need of a new kitchen, a new bathroom, the wood floors had to be refinished, new lighting was needed , new doors and of course painting. The house was vacant and had been foreclosed, ending up in Fannie Mae’s inventory of homes to sell on their homepath.com website. The buyer was excited to have her first home and fix it up exactly the way she wanted it. The Contractor involved forecasted the renovation work would cost $21,000 to repair everything. Doing the math the buyer paid $43,000 plus $21,000 to renovate totals $64,000. The buyer put in a 3.50% down payment on both sums or $2240.00 plus her closing costs. Remember that the buyer is into the house for a total of $64,000. The Appraiser always values the purchase with a renovation loan to the future value or “as repaired” value based on reading the Contractor’s detailed description of work with labor and materials cost or in this case $21,000. The appraised value came back at $85,000 as it was to be completed. That means the buyer has an increase in value or in equity of $21,000 over what she paid and what she borrowed to renovate it. She now has more than 20% equity in the house and is set up to refinance into a non-renovation loan for 80% of the value at a lower interest rate and not incidentally with no FHA monthly mortgage insurance fee to pay.
This story is very similar to other renovation loans where the buyer gets a boost in value and no longer needs the renovation loan at its higher rate. It did take some 55 day to close this loan from start to finish. The buyer is very happy. Her Realtor now sees the value in working with more clients on homes using a renovation loan because it opens the door to working with more buyers which adds to the Realtors income.