Can’t Get A Loan on Your Fixer Upper? No Rehab Loan Needed

Clever Way to Finance Repairs:

So you found a great deal on a fixer, but now there are big hoops in getting it financed, as usual. This blog will show you how to finance fixers without using a costly and complex 203k loan, “Homestyle loan” or a construction rehab loan. Sellers who have lots of repairs issues do not want to fix them before the close of escrow, nothing new. The problem is that repairs cannot always be credited toward the sales price or be granted as a credit in the transaction (explained later) but for some reason, both listing agents and buyer’s agents seem to keep trying to credit repairs in the sales contract, only to find this many times will not work unless it is an all cash sale. We will discuss some clever ways to make this work, but if the repairs become known to the lender, the bank will not allow any money credited to offset the repairs, but I will show you a clever way to get around this. The reason is two fold: First of all, the lender does not want to be liable for any health and safety issues related to those unfinished repairs that could turn into a lawsuit and 2nd, the lender has a “reps and warrantee” clause built into its mortgage sales contract (should the lender ever sell the loan back to Fannie Mae or Freddie mac) that says the home is in good condition and in good working order. In other words, it is move in ready.


The technique I am about to explain to you will save your borrower and seller tons of time, paperwork and money. I developed this technique 30 years ago and have used it several times in closing transactions. I have been told by listing agent’s and selling agent’s brokers that it could not be done due to the liability and the wrong handling of the escrow deposit before the close of escrow, but I assure you, after legal consultation, I was able to proceed and close each loan and convince the brokers.

Let’s discuss the 4 ways we can handle repairs on fixer uppers:

1. Rehab loans, 203ks and Homestyle (worst option)

These loans are a pain in the neck for any purchase transaction because of the cost and paperwork involved in these loans. And this is the usual solution to handling repairs if the buyer is not paying cash. Also, you have to involve a builder and the county building department in the process. This means that the borrower will have to get a bid, contractor resume and plans from a builder. The builder also has to get three references and get approved by the lender. Then the builder has to submit his plans to the lender and building department. All this can take days and hold up the purchase. On top of that, the bid goes on top of the purchase price. So if the sale’s price was $550,000 and the cost of repairs is estimated as $50,000, that amount is added to the sales price and financed unless the buyer wants to come out of pocket for it plus the down payment. If you do a FHA 203k loan, you will have to have a FHA facilitator (inspector) over see the process, unless the repairs are under $35,000. This inspector costs about $1500 to $2000 and adds to the red tape. The repairs have to be done by licensed builders and you can’t do them yourself as the buyer, even if you are a licensed contractor!

2. Credit the repairs in the form of recurring and non-recurring closing costs

You can substitute some or all of the repair costs by paying all the buyer’s closing costs instead of reimbursing repairs. Most lenders allow the seller to pick up, or credit back, up to 9% of the purchase price, in recurring and non-recurring closing costs, depending on down payment. (See chart at the end of this blog for credit back percentages). If it is a FHA loan, the lender will allow 6% credited back in closing costs. What that means is if the purchase price is $450,000, the lender will allow up to $27,000 in closing costs to be credited back to the borrower. So instead of crediting repairs, just credit closing costs. One limitation is that your repair costs may exceed closing costs. In that case, you can reduce the sales price of the home by the difference. These costs include title, escrow, and lender fees as well as all tax and insurance impounds. So if the repair costs are up to $27,000, then this can be credited back to the buyer up to all the recurring and non-recurring closing costs. The problem is there will not be $27,000 in closing costs. It is more likely that the costs on a $450,000 loan will be about $10,000. Next it is important to understand, that if the lender is not made aware of the repairs, there is still a way to credit some or all of those repairs back to the buyer.

Let’s say there are $8500 in deck repairs and the lender is not aware of the deck damage. More importantly, no repairs or damage issues are mentioned in any portion of the purchase agreement or addendums and finally, the appraiser does not mention them in his report. So isn’t this defrauding a lender? No there is no requirement to disclose any repair issues to the lender as long as the appraiser didn’t find them either. Yet there are limitations to this approach because the repairs may be more than the recurring and non recurring closing costs
But if you are concerned as an agent about these disclosures, all issues can be disclosed in the Seller’s Transfer Disclosure Statement (TDS) and that is where I recommend disclosing it. Simply ask the seller’s agent to add to it. The lender does not see this.

3. Reduce the sale’s price by the amount of the repairs if limited funds are not an issue.

In this scenario, the seller just reduces the sale’s price by the amount of the repairs.
Again, no mention of damage or repairs can be mentioned any where in the contract. The addendum simply says, sales price to be reduced to $427,000. Don’t give a reason. It is not necessary. This is never the solution for those who want those items fixed or they have little or no down payment. Example: Original sales price: $445,000. Recurring and non recurring closing costs come to $10,000. Actual repairs is $18,000. Since we are short by $10,000, reduce sales price to $435,000. Addendum should read, Sales price to be $435,000 and seller to pay $8,000 in recurring and non-recurring closing costs.

4. Allow the buyer’s down payment in escrow to be used to fix the repairs. (best

solution)

In this option, the buyer’s down payment is passed through escrow to the seller to fix the repairs prior to the close of escrow. Isn’t this risky? Sure it has some risk, but I have never had a transaction have an issue with this if you use my order of events. Below are the order of events. Let’s assume there are $14,000 in repairs and sales price is $500,000 for 3% down conventional loan. So buyer’s down payment is $15,000.

So agents can raise sale’s price to $515,000 and down payment is passed through escrow to fix repairs, see below.


a. All repairs needed to be done can be laid out in the contract because they are going to be fixed or you can just let the appraiser call them out and only those items will have to be fixed.
b. Minimum deposit is put into escrow at beginning.
c. Appraiser mentions what repairs need to be done in their report.
d. Contract to have increased deposit of total down payment on a certain date,after all inspections and contingencies are signed off. These increase deposits should be either the whole down payment or the amount necessary to fix repairs.
e. Get all bids for work to be done. (keep in mind, when done this way, all work does not need to be done by licensed contractors as long as work is signed off by appraiser at end.) The buyer and seller need to agree on this process.
f. After bids are done, this will be the amount of the repairs and this will become an addendum to the contract. The amount of the repairs could change the sales price and how much the repairs will actually be, so an addendum may be necessary to change this.

g. Hopefully the amount of the repairs is equal to or less than the buyer’s total down payment. If it is more than the buyer’s down payment you can either cancel the transaction, or the seller can step up for the difference at that time.
h. The amount of repairs is reduced from seller’s proceeds at close of escrow. (In other words, seller is paying for these repairs but is using the buyer’s deposit and down payment to do so. In this case, the seller can raise the sales price by the amount of the repairs if they choose to, but of course this needs to be done before the appraisal is performed. If slaes price remains the same, this is the same thing as a credit to the buyer for repairs. These proceeds reduction is what reimburses buyer’s down payment at close.)
i. All lender conditions should be signed off, with nothing left to clear, before the down payment is released from escrow to perform the repairs.
j. Performing the repairs is the last conditions of the loan.
k. All contractors or workers will bill escrow for work done or if they chose to get paid in advance, a check is cut from escrow. I always ask them to bill escrow or get paid out of escrow at the end.
l. Appraiser comes out and performs a re-inspection after all repairs are done, form 1004D.
m. Loan docs sent to escrow after re-inspection done.
n. Repairs are put on the seller side of the transaction which reimburses borrower for down payment at close of escrow. If the sales price was raised by the amount of the repairs at the beginning or in the middle, then all is good.

Congratulations! You just financed your repairs using your client’s or borrower’s down payment.

Closing Cost Maximum Seller Contributions



The above represents the max percentage the seller credits can be of sales price. For example, if the borrower is putting 3% down, then on a conventional Fannie Mae loan, the seller can credit 3% of the sales price toward recurring and non-recurring closing costs.


Example: Sales price is $450,000 x3% =$13,500

Good luck,

Ralph Migliozzi,

Broker Originator Serving Northern California 

NMLS 282851 DRE #01002038

(p) 530-330-3073

rc-advantage.com

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