When Emre Bicer bought a home in Clifton, Bergen County, he decided to have the roof replaced, a bathroom renovated and wood floors refinished before moving in.
“It looks like a brand-new house,” said Bicer, 25, an information technology professional who bought the home with his brother.
The Bicers paid for the work with a special type of loan backed by the Federal Housing Administration. The loan, called a 203(k), is used for renovations and is different in several crucial ways from a home equity loan.
It’s not right for everyone, but it is useful for homeowners or buyers who don’t have much equity in the property or who would like extra oversight on their contractors’ work.
Bill Trees, a vice president with Wells Fargo, calls 203(k)s “one of the industry’s best-kept secrets.” Some lenders are pitching these loans to homeowners whose houses were badly damaged by Hurricane Sandy.
“You have people who have been affected by Sandy who think the only thing that’s available is FEMA (the Federal Emergency Management Agency) or insurance,” said Jeff Onofrio of AnnieMac, a mortgage lender in Mount Laurel.
But, he said, 203(k)s can help some of these homeowners if their insurance doesn’t cover all the needed repairs. Onofrio said banks typically won’t lend on a badly damaged house because it has little value, but a 203(k) allows homeowners to borrow against the after-improvement value of the home.
The 203(k)s, which are not available to investors, generally come with higher fees and interest rates than home equity loans, because they carry FHA insurance.
The interest rate is typically about three-eighths of a percentage point higher than a similar home equity loan, according to Steve Marshall, national director of renovation loans at Real Estate Mortgage Network in River Edge. And the homeowner must pay a fee to a consultant who oversees the construction work and may also face an extra lender’s origination fee of up to $350.
The loans also require more paperwork, lenders say.
“There are more steps than a typical refinance or a typical home equity loan,” said Trees.
These loans have grown in popularity during the housing bust, which has poured millions of distressed homes onto the market across the nation. In 2012, more than 21,000 of these loans were written nationwide, according to the federal Department of Housing and Urban Development. That’s up from only 3,635 in 2007, before the housing market’s collapse.
The 203(k) loans can be used either when a home is bought, as in Bicer’s case, or later, after the owner already lives there. There are two types _ a regular 203(k), for extensive repairs, and a streamlined version, for more modest upgrades worth up to $35,000.
When borrowers apply for a 203(k), the lender qualifies them based on their credit scores, as with other loans.
With a regular 203(k) loan, borrowers must provide a detailed estimate from the contractor.
The homeowners then must hire a consultant trained by HUD, who will go to the property and see if the work plan is feasible and if there are any health or safety issues that must be corrected. The borrower pays the HUD consultant $250 to $1,200, depending on the complexity of the project. (The streamlined 203(k) does not require the services of a consultant.)
If the loan is approved, the interest rate is negotiable between the borrower and the lender. When the loan is made, the money goes into escrow and is paid to the contractors in stages, only after the HUD consultant checks the work. (Under the streamlined option, the lender can choose to pay the contractor up to 50 percent of the project cost upfront.)
For homeowners, the extra layer of oversight can be a comfort. Mohamad Salem of Hackensack, for example, borrowed through a 203(k) to add a bathroom and make other improvements to his family’s home.
“The contractor didn’t get all the money upfront,” said Salem, a technology professional. “I just trusted the process a lot more. It wasn’t just, ‘Here’s some money; good luck.’ I would recommend it to anybody who wants that extra security, and the ability to monitor the whole process.”
“The great thing, from the homeowner’s perspective, is that protection,” said Dave Anico of DMF Construction in Scotch Plains, who works with homeowners using 203(k) loans. “You get a large amount of work done without any money down.”
One problem for homeowners, however, is that it’s not always easy to find contractors willing to work with such a payment schedule. Anico said that most contractors can’t afford to start a renovation job without an upfront payment.
“They don’t have the cash or the credit to finance that initial cost,” he said.
Even with that drawback, Anico said, 203(k) loans offer benefits to contractors. Because the scope of work must be approved in advance by the lender, there’s less room for homeowners to make time-consuming changes later. And Anico knows the money is there to pay him, which is sometimes an issue with homeowners.
Bicer, for one, is happy with the results of his 203(k), which allowed him to pay for home improvements over time, rather than out of pocket.
The upgrades to his home, he said, were “worth every single penny.”