Recently I was speaking with an investor who buys old houses or foreclosures to rehab and sell. His business model is not to retain these homes and lease to tenants. Rather he buys, rehabs and sells for a profit to replenish his cash. He was telling me he uses all his own cash as he hasn’t found a bank to do financing for his small rehab business. Typically he will buy and rehab 4 or 5 houses each year. I imagine he would be able to do more if he had a source of rehab financing. I spoke to him about the advantages of using a rehab mortgage for investors with a 20% down payment.
As a Loan Officer who specializes in this type of renovation financing I do have something to offer any investor who can meet the qualifications for a Conventional mortgage in this area. The loan is called HomeStyle and is a conventional loan guaranteed by Fannie Mae. What I like to promote about it is this type of mortgage is accessible to investors or rehabbers who either sell the homes or lease them to tenants. There is no requirement for an investor to live in the house or occupy it for any period of time. That is huge for small investors who may want to buy, rehab and flip a house or two every year as a side business or on a full time basis. Below are the highlights of HomeStyle for Investors:
- 1 Unit type Investor purchase ( condo, townhouse, single family) requires 20% down payment
- 1 unit type Investor refinance to 75% of value ( meaning an Investor owned property in need of rehab can use HomeStyle to replace an existing mortgage(s) to secure funds to rehab the property)
- An Escrow account may optionally be created for up to 6 months of mortgage payments if the house is unable to be occupied during construction for same number of months ( this allows the owner to add these house payments into the rehab funds while the house is not generating rental income or it can be owner’s own funds added in; any unused funds will be subtracted from the final loan size)
- An emergency reserve must be created based on 10% of the rehab budget to be held aside until renovation is complete should any unexpected additional repairs be discovered during rehab (any unused funds can be subtracted from the final loan size or used for rehab extras or reimburse the borrower for cost of appliances, etc., with appropriate receipts)
- Funds for any required Architects Plans, Project Review fees, title updates, draw processing fees and local Building Department Permits can also be financed into the HomeStyle mortgage; funds for Architectural Plans and building Permits can be released to the borrower on closing day
- All renovation work must be completed by a licensed contractor to be validated by the Lender
- Contractors are never paid in advance with HomeStyle; Rehabs funds are paid out in phases called “draws” after each phase of work is completed; funds are sent to the borrower as a two party check payable to both borrower(s) and contractor
- A Project Review Consultant is assigned by the HomeStyle lender to approve the contractor’s proposal to be sure all health, safety and sanitation issues are covered as well as any building code violations, etc.; the Consultant also approves each “draw” of funds and stays on the project until completion to protect both the borrower and lender
- HomeStyle mortgages are approved on what the property value will become with the rehab completed rather than current value
- An Appraiser will walk the property with the contractor’s rehab proposal in hand showing costs of labor & materials to be installed in order to arrive at the “as finished” property value
- Rehab funds are limited to 50% of the “as finished” value of the property; see example below
- HomeStyle has a 1 unit conventional loan limit of $417,000 in all areas except High Cost counties in selected states where it is higher
- Most any type of rehab is allowed with HomeStyle including mold remediation, gut renovations, garages, additions, decorating, desired updates, appliances, HVAC, energy efficiency improvements, etc.
- On condominiums HomeStyle renovation funds cannot be spent on any common areas
- Fannie Mae limits the borrowers to four financed property mortgages active at once
- All rehab work must be completed in 6 months typically
- Multi-unit properties are not allowed for Investors, only 1 unit properties
Here is an example to illustrate how HomeStyle can work for a Rehabber or Investor:
- Single Family House is bought for $50,000 and needs $50,000 total in repairs including a 10% emergency reserve
- Down payment is 20% of the sum of both or $20,000
- Appraiser determines the “as finished” appraised value to be $150,000 which meets the requirement of rehab funds piece ($50,000) not being greater than half of the appraised value
- The loan is closed with the rehab escrow fund of $50,000 to be paid out only after the contractor finishes the first phase of work and after each subsequent phase until completion
- HomeStyle loans have no pre-payment penalties so the Investor is free to sell the house after completion and pay off the loan in order to move onto the next project, using HomeStyle again
I hope I have presented an example of how a rehabber or Investor now has a source of reliable rehab financing. This model can be used in most any area, most any state. Not all Lenders or Banks do the HomeStyle loan. I’m happy to answer questions anytime. My Blog has other HomeStyle stories as well. But here I wanted to write how a small investor can do a rehab & house flip project with just 20% of their own money plus closing costs.
I hope this post has been helpful and encouraging to those that may have thought a Renovation project was too complex or beyond their ability to manage. My intent is always to inform, educate, and generate discussion. Please call me or email me directly or visit my website for more information on renovation loans. I welcome your comments and questions!