Hud.gov explains what a 203K inspection is:
Section 10 1 (c) (1) of the Housing and Community
Development Amendments of 1978 (Public Law 95557) amends Section 203(k) of the National Housing Act (NHA). The objective of
the revision is to enable HUD to promote and facilitate the restoration and preservation of the Nation's existing housing
stock. The provisions of Section 203(k) are located in Chapter II of Title 24 of the Code of Federal Regulations under Section
203.50 and Sections 203.440 through 203.494. Program instructions are in HUD Handbook 4240-4. HUD Handbooks may be ordered
online from The HUD Compendium or from HUDCLIPS.
203(k) - How It Is Different
Most mortgage financing plans provide only permanent financing. That is, the lender
will not usually close the loan and release the mortgage proceeds unless the condition and value of the property provide adequate
loan security. When rehabilitation is involved, this means that a lender typically requires the improvements to be finished
before a long-term mortgage is made.
a homebuyer wants to purchase a house in need of repair or modernization, the homebuyer usually has to obtain financing first
to purchase the dwelling; additional financing to do the rehabilitation construction; and a permanent mortgage when the work
is completed to pay off the interim loans with a permanent mortgage. Often the interim financing (the acquisition and construction
loans) involves relatively high interest rates and short amortization periods. The Section 203(k) program was designed to
address this situation. The borrower can get just one mortgage loan, at a long-term fixed (or adjustable) rate, to finance
both the acquisition and the rehabilitation of the property. To provide funds for the rehabilitation, the mortgage amount
is based on the projected value of the property with the work completed, taking into account the cost of the work. To minimize
the risk to the mortgage lender, the mortgage loan (the maximum allowable amount) is eligible for endorsement by HUD as soon
as the mortgage proceeds are disbursed and a rehabilitation escrow account is established. At this point the lender has a
fully-insured mortgage loan.
To be eligible, the property must be a one- to four-family dwelling that has been completed for at least one year.
The number of units on the site must be acceptable according to the provisions of local zoning requirements. All newly constructed
units must be attached to the existing dwelling. Cooperative units are not eligible.
Homes that have been demolished, or will be razed as part of the rehabilitation work,
are eligible provided some of the existing foundation system remains in place.
In addition to typical home rehabilitation projects, this program can be used to convert a
one-family dwelling to a two-, three-, or four-family dwelling. An existing multi-unit dwelling could be decreased to a one-
to four-family unit.
An existing house (or
modular unit) on another site can be moved onto the mortgaged property; however, release of loan proceeds for the existing
structure on the non-mortgaged property is not allowed until the new foundation has been properly inspected and the dwelling
has been properly placed and secured to the new foundation.
A 203(k) mortgage may be originated on a "mixed use" residential property provided: (1) The property has
no greater than 25 percent (for a one story building); 33 percent (for a three story building); and 49 percent (for a two
story building) of its floor area used for commercial (storefront) purposes; (2) the commercial use will not affect the health
and safety of the occupants of the residential property; and (3) the rehabilitation funds will only be used for the residential
functions of the dwelling and areas used to access the residential part of the property.
Luxury items and improvements are not eligible as a cost rehabilitation. However, the homeowner can use the 203(k)
program to finance such items as painting, room additions, decks and other items even if the home does not need any other
improvements. All health, safety and energy conservation items must be addressed prior to completing general home improvements.
All rehabilitation construction and/or additions
financed with Section 203(k) mortgage proceeds must comply with the following:
- A. Cost Effective Energy Conservation Standards
(1) Addition to existing structure. New construction must conform
with local codes and HUD Minimum Property Standards in 24 CFR 200.926d.
(2) Rehabilitation of Existing Structure. To improve the thermal efficiency of the dwelling, the following
all doors and windows to reduce infiltration of air when existing weatherstripping is inadequate or nonexistent.
b) Caulk or seal all openings, cracks or joints in the building
envelope to reduce air infiltration.
Insulate all openings in exterior walls where the cavity has been exposed as a result of the rehabilitation. Insulate ceiling
areas where necessary
d) Adequately ventilate
attic and crawl space areas. For additional information and requirements, refer to 24 CFR Part 39.
a) Heating, ventilating, and air conditioning system supply
and return pipes and ducts must be insulated whenever they run through unconditioned spaces.
b) Heating systems, burners, and air conditioning systems must be carefully
sized to be no greater than 15 percent oversized for the critical design, heating or cooling, except to satisfy the manufacturer's
next closest nominal size.
Detectors. Each sleeping area must be provided with a minimum of one (1) approved, listed and labeled smoke detector
installed adjacent to the sleeping area.
MORE INFORMATION AVAILABLE THRU THE GOVERNMENT WEBSITE WWW.HUD.GOV
Additional Information to Assist you in your Decision
Congratulations on your choice
of the HUD 203K rehab loan program to assist you in your home purchase or refinance! This type of loan has been around for
over 20 years and has undergone a number of ‘face lifts’ but the heart of the program has remained the same: to
allow buyers or homeowners the opportunity to either purchase or improve distressed properties without having the money up
front for the repairs. We will define ‘distressed’ as any condition that reduces the value of the home since a
homeowner can do major remodeling of a home they already own under the 203K program as well. You’ve
already discovered that even though this is a win-win opportunity for you there are added steps and requirements you would
not normally face with a conventional loan. One of those is the involvement of the 203K consultant. In the financial environment
we face today home inspections are a common choice for anyone purchasing a home and that is no different for the 203K loan,
but under certain conditions a separate inspection must be performed by a third party inspector to determine if the home is
in compliance with HUD’s minimum standards, and then prepare a specialized report detailing those items not in compliance
and estimated costs to repair them. That third party inspector must have proven to HUD that he or she is qualified both through
training and experience to do this particular type of inspection and report, and must be listed on HUD’s 203K consultant
The purpose of this handbook is to take some of the mystery and confusion out of the process and answer some common
questions before you have the need to ask them. It is also intended to inform you about the HUD minimum standards so you better
understand the consultant’s report and reasons behind some of the requirements he or she may make. Let’s begin
with some questions: 1.
When is a consultant
required? Answer: when the loan is
considered a full 203K and not a streamline. The guidelines for the designation between the two are fairly straight forward
but there are exceptions when the lender decides to require a consultant regardless of other conditions. Check with your lender
about your particular loan.2. Do I need to have a separate home inspection in addition to the consultant’s report? Answer: no. The consultant’s report satisfies all requirements
for any home inspection on the property. If you are considering a 203K loan you should use a consultant rather than a regular
home inspector unless you know for certain that your loan will be a streamline and the lender is not going to require a consultant.
3. What will the consultant do?
Answer: he or she will make an appointment with you to meet at the property and conduct a thorough inspection looking specifically
at the HUD minimum standards for compliance or non-compliance (these standards are listed here below). In addition, he or
she will take your list of desired upgrades or improvements and include them in the report with cost estimates. The consultant
is also responsible for obtaining any required architectural plans or drawings from the contractor to provide to the lender
as part of the total package used for closing.4. What does the bank do with the consultant’s report? Answer: once the borrower, contractor, and consultant are in agreement with what is to be done and
how much it will cost the consultant’s final report goes to an appraiser who develops a value for the home as if all
repairs and/or upgrades have been completed. Once the loan closes the consultant’s report becomes the guide that the
lender uses to oversee the rehab work and disburse funds.5. Is the initial report the end of the consultant’s work? Answer: no, if the lender requires at least one progress inspection before disbursing
funds. These are called draw inspections and are required for full 203K loans but are optional at the request of the lender
on Streamline 203Ks. Draw inspections typically are initiated by the contractor when he/she is ready for a progress payment
(or final payment) and the consultant will inspect the project, take photos of completed work, and determine what monies are
due as part of that inspection. He/she will prepare the necessary paperwork, sign it, and forward to the homeowner and contractor
for their signatures as well. Once they return the signed documents to the consultant he/she will forward them to the lender
with photos and an invoice for the inspection fee which is typically escrowed as part of the loan. The lender processes the
paperwork and disburses the funds from the reserve account to the homeowner, usually as a two-party check made out to the
homeowner and the contractor.6. Does a contractor have to accept the consultant’s estimates for a project? Answer: no, unless he agrees that he can do the work for the amount the consultant
included. Once the consultant provides the initial report the buyer shares it with the contractor(s) for use in preparing
quotes to do the scope of work as listed by the consultant. Those bids are then sent to the consultant who reconciles his
report to the bids and produces the final version for the appraiser.7. Once the loan closes, what other responsibilities
does the consultant have besides draw inspections? Answer:
the consultant is the point of contact the lender has for any questions concerning what is physically taking place on the
project or in dealing with disputes or questions that may arise between the homeowner and the contractor. In addition, extra
work arises often in the 203K process either as a result of unforeseen repairs (hidden damage, etc) or changes to the scope
for upgrades or improvements not originally considered. Quite often the homeowner changes their mind about the particular
upgrades or improvements they want to do after the loan closes and the consultant must be a part of the process to get changes
made to the reserve for proper disbursement of funds. A change order is used for such cases and lists the desired changes
with prices as required. It is generated by the consultant at the request of either the homeowner or contractor and then signed
by all parties before being sent to the lender. It should be sent before the work is done so that the lender can approve it
but often that does not happen. Here is a major area of potential conflict between the homeowner and the contractor.
All too often verbal agreements are made on the project to trim something here and add something there or include extra work
with the understanding that it will get worked out at the end of the project, only to result in a squabble about what was
done and how much is either owed or should be credited for it. Absolutely no changes to the scope or amounts allocated
should be made without written change orders signed by the contractor and homeowner before the work is done. Any
deviation from this puts all parties at their own risk financially.8. Can the loan be renegotiated once closed to include
other improvements? Answer: no, the 203K loan does not
allow for any renegotiation of the agreed upon financed amount. The total available in the loan for all work and associated
fees is the total rehab amount plus the contingency amount plus any escrowed amounts for other fees such as permits, consultant’s
fees, etc. All of these are clearly spelled out at closing so there will be no confusion later. Once the loan closes there
is a finite amount of money available and not one penny more.9. What is the contingency and how is it used? Answer: HUD requires a percentage of the total rehab amount be set aside as an additional reserve
to be used for unforeseen repairs such as covered electrical or plumbing that could not be inspected prior. The contingency
is normally 10% but in some cases it gets increased to 15% or 20% and sits in an escrow account until it is needed. At the
end of the project any unused contingency funds can either be applied back against the principle of the loan or the homeowner
can use them for additional improvements. The contingency is accessed through the use of change orders.10.
are the minimum HUD standards for residential housing?Following is a partial list of the minimum HUD housing standards.
These are the ones that most affect the borrower and/or homeowner and will have the most bearing on the consultant’s
inspection and report. They come from HUD Handbook 4905.1, HUD Minimum Property Standards, and HUD Handbook 4910.1, Appendix
K:· The property must comprise a single readily marketable real estate entity·
Each living unit must be able to
be used and maintained individually without trespass upon adjoining properties. Any easement required must run with the land·
Utilities must be independent for
each living unit except that common services, such as water, sewer, gas, and electricity may be provided for living units
under a single mortgage or ownership· Individual utilities serving a living unit shall not pass over, under, or through
another living unit, unless provision is made for repair and maintenance of utilities without trespass on adjoining properties
or legal provision is made for permanent right of access for maintenance and repair of utilities.·
There must be a continuing supply
of safe and potable water· Sanitary facilities and a safe method of sewage disposal must be provided·
There must be adequate heating
for healthful and comfortable living conditions· The home must have domestic hot water·
There must be electricity for lighting
and for equipment used in the living unit· If the home has a well and septic, the water quality must meet the requirements
of the health authority having jurisdiction· Connection must be made to public or community water/sewage disposal systems whenever
feasible· Each property must be provided with a safe and adequate pedestrian or vehicular access from a public
or private street· All streets must have an all-weather surface·
Access to the living unit must
be provided without passing through any other living unit· Access to the rear yard must be provided without passing through
any other living unit· Defective construction, poor workmanship, evidence of continuing settlement, excessive
dampness, leakage, decay, termites, or other conditions impairing the safety, sanitation or structural soundness of the dwelling
shall render the property unacceptable until the defects or conditions have been remedied and the probability of further damage
eliminated· Each living unit must be provided with space necessary to assure suitable living, sleeping, cooking
and dining accommodations and sanitary facilities· Mechanical systems must be safe to operate, be protected from
destructive elements, have reasonable future utility, durability and economy, and have adequate capacity and quality·
Natural ventilation of structural
space such as attics and crawl spaces, must be provided to reduce the risk of excess heat and moisture which are conducive
to decay and deterioration of the structure· The roof covering must prevent entrance of moisture and provide reasonable future
utility, durability and economy of maintenance· The property must be free of hazards which may adversely affect
the health and safety of the occupants or the structural soundness of the improvements, or which may impair the customary
use and enjoyment of the property by the occupants. The hazards can be subsidence, flood, erosion, defective lead base paint,
or the like· There must be adequate access to the crawl space·
The floor joists must be sufficiently
above the highest level of the ground to provide access for maintenance and repair of ductwork and plumbing·
The crawl space must be clear of
all debris and properly vented· Any excessive dampness or ponding of water in the crawl space must be corrected·
The site must be graded so as to
provide positive, rapid drainage away from the perimeter walls of the dwelling and prevent ponding of water on the site·
A well cannot be located within
the foundation walls of a dwelling except in arctic or subarctic regions·
Water which comes from any soil
formation which may be polluted, contaminated, fissured, creviced or less than 20 feet below the natural ground surface is
not acceptable, unless acceptable to local health authority· Any well shall be the following minimum distances from sources
of pollution:1. Property line
10’2. Septic Tank
50’3. Septic drain field
100’*4. Sewer lines with PermanentWatertight joints
10’5. Other sewer lines
50’6. Chemically poisoned soil
25’**7. Dry Well
50’8. Any other recommendation or requirement of local health officials.(* This distance may be reduced to 50’ where the ground surface is effectively
separated from the water bearing formation by an extensive continuous impervious strata of clay, hardpan, or rock. The well
must be constructed so as to prevent the entrance of surface water and contaminants, in example, the well casing firmly imbedded
in limestone and sticking above the ground. This must be verified by a licensed well driller.)(**This distance may be reduced to 15’ only where the ground surface is
effectively separated from the water bearing formation by an extensive continuous impervious strata of clay, hardpan, or rock.) Well, there you have it: all you ever wanted to know about the 203K consultant but were afraid
to ask! Since each loan and home are unique, there will always be other issues or questions that will require attention but
this should give you a good leg up on the process. Your loan officer or broker is very knowledgeable and
is your best resource. Don’t be afraid to ask questions. We wish you the best!