What Is a Rehab Loan and How Does It Work

What Is a Rehab Loan and How Does It Work

Last Updated on September 15, 2022 by admin

Home prices increased by nearly 17% in 2021. That makes the prospect of buying a home tough for many people.

It’s not just first-time homebuyers who are waiting for prices to go down. Investors are giving a second thought to buying in this market because the prices seem a little too inflated.

It’s hard to make a real estate investment work if you’re buying at the peak of the market. The next best thing to do is to get a fix and flip home.

With a rehab loan, you can purchase the property below market value, fix it up, and sell it for a profit.

How can you get a rehab mortgage? Read on to learn what rehab loans are, how to get them, and tips to make your next fix and flip a successful one.

What Is a Rehab Loan?

A rehab loan is a type of real estate loan that allows you to purchase a property and renovate it. You can also use these loans to renovate a home your plan to live in or sell the property for a profit.

Some of these loans are short-term loans, while others are conventional real estate loans.

Types of Rehab Loans

There are two main types of rehab loans. The first is a conventional loan or an FHA 203k loan. This loan is backed by the Department of Housing and Urban Development.

You can get a Standard or Limited FHA 203k loan, depending on the amount of money you need and the types of renovations.

The FHA 203k loan is only for people who plan to live in the home after renovations are completed. There are a lot of other qualifications that are required for these loans as well.

For instance, you have to get some projects inspected by HUD-approved inspectors. You have more paperwork to deal with. You also have to have mortgage insurance.

This is an option if you’re renovating a duplex where you live in one unit and rent the other. It’s also an option if you want to purchase your first property and rent it out down the road.

The other types of rehab loans are hard money rehab loans. These are loans that get funded by private investors.

These are short-term loans for 6-24 months. They allow you to finance the purchase and renovation of an investment. You don’t need to live on the property to qualify.

Other Ways to Finance a Home Rehab Project

You still have other options to finance renovation projects. Do you have other rental properties with equity?

You could refinance those properties and use the proceeds to purchase and renovate another property. With interest rates as low as they are, this could be a very lucrative move for you.

The other option is to get a personal loan for the renovation. The downside is that personal loans have higher interest rates than real estate loans.  

How to Get a Rehab Loan

Do you have a fix and flip property in mind? Let’s look at how you can get a rehab loan for the project.

If you plan to get an FHA 203k loan for the project, you’ll need to look at your credit report. This is a lender’s primary criteria to approve you for the loan.

Hard money rehab loans usually get funded based on the investment, not on your personal credit. This is good news if you have a great investment opportunity and a mediocre credit score.

Once you decide on the type of loan you need for the project, look for reputable lenders. 

Each lender has its own approval process. Find fix and flip loans here to learn more about the qualifications and approval process. Most lenders have an application, require a business plan, and appraisal.

The business plan should include details about the renovation project, such as the costs, timeline, and potential risks of the project.

Tips for a Successful Fix and Flip

Not every fix and flip is a successful one. You don’t want to get optimistic and think that you’re bound to succeed.

Be sure to research the property before you buy it. Check out the history of the real estate market and look at data to determine where the market is going.

Estimate the cost of work and sales prices. Use the 70% rule that says you shouldn’t spend more than 70% of the home’s value after repairs get made, and subtract the cost of the renovations.

For example, a home’s value after repairs is $250,000. It costs about $40,000 to repair the home. Take the $250,000 and multiply by .7, which gives you $175,000.

Now subtract the cost to renovate the home, which is $40,000. You shouldn’t spend more than $135,000 on the home.

Some investors do a straight 70% calculation of the after-repair value. This is often risky because you forget the renovation costs and underestimate the after-repair value of the property.

Be sure to hire a great contractor to do the renovations. Work with a company that is highly recommended by people you trust.

Take the timing of the purchase and the sale into account. The real estate market might be blazing hot now. Where will the market be when you’re ready to sell the home?

If interest rates climb sooner than expected, that could cause the market to cool off and affect your sales price.  

As long as you plan for what could go wrong, you’ll be able to overcome the challenges and have a profitable fix and flip.

You’ll be able to scale and become a successful investor.

Make the Most of a Rehab Loan

If you want to make the most out of real estate investments in this market, you need to buy a fix and flip property. It’s not an easy project to finance, but you can with the right rehab loan.

A rehab mortgage lets you purchase and renovates a property. A loan like the FHA 203k loan requires you to live in the property. Hard money rehab loans let you sell the property for a profit.

With a good rehab loan, you’ll be able to get a great deal on your real estate purchase.

Head over to the Home Improvement section of this site for more home renovation tips.

Read more: How to effective and efficient does the rehab center provide services?