While there are plenty of families fortunate enough to buy a brand-new house for their first home, plenty more are looking to move into older construction. Even homes that aren’t evident fixer-uppers often need some repairs and remodeling to make them more livable, but not all homebuyers have the extra cash to perform the necessary maintenance right away. Thankfully, lenders offer loan options to help homebuyers and homeowners afford fixing up their new properties. One of the most popular types of renovation loans is the 203(b) Repair Escrow Loan ― and here’s exactly how it works.
All About 203(b)
The Federal Housing Administration (FHA) is the segment with the Department of Housing and Urban Development (HUD) tasked with regulating and offering mortgages and mortgage insurance. One of the FHA’s most important programs is the FHA 203(b) loan insurance program, which is applicable to almost any home in the United States. Homebuyers looking to purchase or refinance a one-to-four bedroom family home in a rural or urban area are eligible for 203(b), even if they want to build a manufactured home on a permanent foundation. The terms are reasonable ― 15 to 30 years ― and borrowers typically find it easier to obtain a home loan thanks to less stringent credit requirements and no-money-down options. Interest rates must be negotiated with the lender, but most borrowers find that the FHA’s loan guarantee provides more affordable rates than they could otherwise obtain.
Perhaps one of the most valuable terms of the FHA 203(b) is its use for home repairs. Not all available homes are move-in ready; even those that are might not meet homebuyers’ standards for lifestyle or value. Thus, the FHA also offers a 203(b) Repair Escrow loan, which grants borrowers additional funds to make repairs after purchase. Like regular escrow, a repair escrow is an account held by neither the lender nor the borrower. As approved repairs are made, the lender withdraws funds from the account to pay contractors. The money borrowed for repairs is bundled into the overall home loan, so the homeowner continues to have one house payment every month.
Repair Escrow Rules and Options
The FHA is careful to regulate how homeowners can use their repair escrow funds. First, homes must be appraised and deemed “insurable with repair escrows.” Secondly, repairs must be initiated within 90 days of the loan finalization and completed within one year; the only exceptions to this rule are homes that require exterior repairs but are experiencing seasonal inclement weather ― like snow or rainstorms. Thirdly, necessary or desired repairs cannot exceed $5,000 ― or 150 percent of the value of the repairs, whichever is higher ― or be more than cosmetic in nature. Some examples of typical 203(b) repair escrow purchases are as follows:
- Interior and exterior painting
- Mold remediation
- Porch, patio, and deck repair
- Door and window replacement
- Basement waterproofing
- Energy-efficient appliances
Repairs that require architects or engineers are not eligible for the 203(b) program, so homeowners hoping to add rooms, landscape, or repair structural damage must find another renovation loan program. Additionally, any repairs intended to make the home habitable are not acceptable because the homes must already be fit for habitation for the loan to be approved. Even if such repairs cost less than $5,000, HUD and the FHA will not approve them for the 203(b) program.
There are three 203(b) repair escrow programs from which homebuyers can choose, should their repairs be particularly specific:
- Pool escrow allows homeowners add pools to their homes ― which would otherwise be a prohibited repair under the 203(b) limitations.
- Weather-related escrow helps homeowners renovate their properties to combat the changing climate. The funds from this account can repair weather-related damage or install more energy-efficient features, including insulation, double-pane windows, gutters, and more.
- Buyer/seller-funded escrow mandates that the buyer or seller place the funds for the repairs into the account. This might help some homebuyers negotiate price to afford their dream homes.
The FHA and HUD offer dozens of loan programs and loan insurance programs, but the 203(b) is among the most flexible and applies to most homebuyers’ needs. Not all lenders can offer the 203(b) program ― whether because they opt not to participate or are denied permission ― so homebuyers can usually trust lenders who are willing to issue an FHA 203(b) loan.