Earlier this year a young lawyer bought a pre-1900's fixer in San Francisco. She had over $200,000 in the bank and yet chose to use a regular FHA loan with a 3.5% down payment.
At the same time, east of San Francisco, another run down house was being purchased in an affluent suburban neighborhood. Again, the engineer with a PHD and his pharmacist wife had plenty of money for a down payment, but instead chose FHA for to keep the down payment to the bare minimum.
Why?
Both buyers realized this: By making the minimum down payment and using the cash to fix the house they could:
- Generate equity in the house quickly by maintaining their liquidity for the fix up
- Have just the house they wanted, appointed in their taste
- Have a bigger write off from a bigger loan
- Eliminate the need to tack on an equity line or other loan which would appear as "revolving credit" on their credit report
But didn't this "cost" them because they had to pay mortgage insurance on the FHA loan? Well, yes. But the increase in value from the fix up far exceeded the mortgage insurance cost. So mortgage insurance was a "carrying cost" of the project.
But wasn't it difficult to get an FHA appraisal on fixer properties? Not as difficult as most agents believe. The holy grail for an FHA appraisal is SAFETY and LIVABILITY. An FHA appraiser does not care about outdated kitchens, master bedrooms painted lime green or "smells". But if there is a missing window, or ripped out bathroom, then that must be fixed.
Note: Most common repair on my FHA loans is peeling paint (on houses old enough where this could be lead paint).
Both couples eventually refinanced out of the FHA loans by flipping their financing into a conventional loan to eliminate monthly mortgage insurance. They were able to do this because they had generated 20% equity via the fix up.
I will grant you that the market helped them along since rates sunk lower, and values inched higher.
Take away: FHA loans are not only for first time buyers with limited cash. As long as buyer intends to occupy the property, an FHA is a way to fund a fixer by leveraging the cash that would have been used for the down payment.
NOTE: In San Francisco and the surrounding counties the maximum FHA loan amount is $729,750 for a single family home or condo. Please check with your mortgage professional for the FHA loan limit in your area.
Written by Janet Guilbault, Mortgage Banker for RPM Mortgage in the San Francisco Bay Area
NMLS # 238304
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