Are you thinking of purchasing property for your personal property, investment property or for your college kid(s), but feeling overwhelmed by the loan lingo and acronyms that seem like another language? Whether you are a real estate warrior buying and selling for decades or whether this is your first -time real estate experience, or more commonly, been several years since home ownership, it is rarely easy to determine which loan program(s) are best for you, i.e., conventional loan, an FHA loan or any of the other loan types available.
Mortgage lending officers will be your main resource for this, so it is ultimately important to find someone you trust and who is experienced in your market. They will be familiar with the ebbs and flows of the different types of mortgage programs available, and they will also be able to provide an informed and educated perspective on your current financial situation helping to match you to the best mortgage loan options available.
I am not a lender. I am a Realtor and I cannot give counsel on loans in particular, nor do I have anything to do with originating or getting them approved. I work with a handful of excellent lenders, and I love them all. I can, however, provide some basic information that anyone can gather from diligent research, and I can put it together hopefully in a meaningful and useful series of words for your benefit.
Government agencies such as the Federal Housing Administration (FHA), the Farmers Home Administration (FmHA), U.S. Department of Agriculture, and the Department of Veterans Affairs (VA) can insure or guarantee loans. The FHA is a part of the Department of Housing and Urban Development (HUD) and insures residential mortgage loans made by private lenders. The FmHA provides financing to farmers and other qualified borrowers who may have trouble getting loans. VA loans are for veterans or members of the military and can have a lower down payment.
The most common government insured loan I see is through the FHA. I hear a lot of people think that these are for first-time homebuyers and I hear a lot of untrue conjecture from both professional and from lay people regarding ever-changing FHA rules. A Basic Home Mortgage Loan 203(b) is designed to provide mortgage insurance for a person to purchase or refinance a principal residence. The mortgage loan is funded by a lending institution, such as a mortgage company, bank, savings and loan association and the mortgage is insured by HUD.
The eligibility requirements are much different than what most people quote or even cite in written materials. The following are the eligibility requirements as published by FHA on their website:
- The borrower must meet standard FHA credit qualifications.
- The borrower is eligible for approximately 96.5% financing. The borrower is able to finance the upfront mortgage insurance premium into the mortgage. The borrower will also be responsible for paying an annual premium.
- Eligible properties are one-to-four unit structures.
Now, each property must be approved and meet certain criteria for the FHA to insure them, meaning that the FHA requires a certain type of inspection/ appraisal. This disqualifies a lot of homes and particularly those being sold ‘as-is’ from FHA buyers. That meant a few years ago that FHA buyers were not eligible to even bid on certain properties. That has changed somewhat through the streamlining of an FHA program that is designed to help buyers rehab certain properties while being insured by the FHA.
The FHA Section 203(k) program is insurance that enables homebuyers to finance both the purchase of a house and the cost of its rehabilitation through a single mortgage. Section 203(k) fills a unique and important need for homebuyers. When buying a house that needs repair or modernization, homebuyers usually have to follow a complicated and costly process. The traditional interim acquisition and improvement loans often have relatively high interest rates, short repayment terms and a balloon payment. However, FHA Section 203(k) offers a solution that helps both borrowers and lenders, insuring a single, long term, fixed or adjustable rate loan that covers both the purchase and rehab of a property. Section 203(k) insured loans save borrowers time and money. They also protect the lender by allowing them to have the loan insured even before the condition and value of the property may offer adequate security according to government guidelines.
Section 203(k) insures mortgages covering the purchase or refinancing and rehabilitation of a home that is at least a year old. A portion of the loan proceeds is used to pay the seller to pay off the existing mortgage, and the remaining funds are placed in an escrow account and released as rehabilitation is completed. The cost of the rehabilitation must be at least $5,000, but the total value of the property must still fall within the FHA mortgage limit for the area. The value of the property is determined by either (1) the value of the property before rehabilitation plus the cost of rehabilitation, or (2) 110 percent of the appraised value of the property after rehabilitation, whichever is less.
The extent of the rehabilitation covered by Section 203(k) insurance may range from relatively minor (though exceeding $5000 in cost) to virtual reconstruction: a home that has been demolished or will be razed as part of rehabilitation is eligible, for example, provided that the existing foundation system remains in place. Section 203(k) insured loans can finance the rehabilitation of the residential portion of a property that also has non-residential uses. The types of improvements that borrowers may make using Section 203(k) financing include:
- structural alterations and reconstruction
- modernization and improvements to the home’s function
- elimination of health and safety hazards
- changes that improve appearance and eliminate obsolescence
- reconditioning or replacing plumbing; installing a well and/or septic system
- adding or replacing roofing, gutters, and downspouts
- adding or replacing floors and/or floor treatments
- major landscape work and site improvements
- enhancing accessibility for a disabled person
- making energy conservation improvements
These are not easy deals to put together and I highly recommend utilizing an experience and informed team. If you have the money to put down, you may want to consider a conventional loan. At one point in the United States, conventional loans were the only mortgage loans available and they were all issued by local lenders such as banks, savings and loans, and credit unions. These private lenders kept and serviced these loans in their own portfolio until they were either paid in full or foreclosed on – kind of like the movie, It’s a Wonderful Life. A conventional mortgage is a loan that is not guaranteed or insured by any government agency. It is typically fixed in its terms and rate.
An advantage to selecting an FHA over Conventional is that easier credit standards can be met to obtain financing. Typically, FHA requires a low down payment amount, lower credit scores are allowed, less elapsed time is needed for major credit problems (foreclosures and bankruptcies) and, if needed, you can use a non-occupant co-borrower (who is a relative) to help qualify for the loan using blended ratios. Blended ratios are debt-to-income ratios that equally blend the borrower’s and non-occupant co-borrower’s income and monthly payments to qualify for the loan. I am writing next week about Kiddie Condo Loans through the FHA.
Conventional mortgages are typically a 30-year fixed rate loan. That means the loan has a fixed interest rate for the 30 year term of the mortgage. Conventional mortgages also typically require at least a 20% down payment. For example, if a house costs $200,000, the lender will loan up to 80% of the appraised value. So, $160,000 is financed, and the borrower pays $40,000 cash.
The major advantages to conventional loans is that you have more autonomy toward the property you want to purchase and your payments will be lower if you put more down. The most obvious advantage is that the Private Mortgage Insurance charged to conventional loans over 80% of the appraised value will be dropped from your payment as soon as your principal is paid down to 78% or less of the appraised value of the loan. FHA Mortgage Insurance is consistent and does not ever adjust from your payment.
There are too many conventional loan programs to go into here, but call me to help you shop and find the right mortgage lender or ask around to your friends and family and find the person/ institution you trust. Please give me a call to talk a little about what I know about these programs, your choices in lenders, and in properties available that fall into each of these categories. Remember that I am your friend and expert in real estate, and I love referrals too! Feel free to share my newsletter with your friends and family. Call me any time – 512-507-1498 or email me at firstname.lastname@example.org