Taking on a rehab? Think about a 203k loan

Given the glut of foreclosures available on the market, it's no surprise that many homeowners and real estate investors are looking for various ways to finance their rehab projects.

Enter the 203k Rehab Loan. Rehab + home financing all in one. However, before you sign on the dotted line, there are a few things you ought to know as this loan isn't for everyone.

What is a 203k loan?

A 203k Rehab Loan allows you to finance the cost of a rehab and the home purchase all in one loan. These loans tend to be popular because they are backed by the government and often have lower interest rates than their commercial counterparts. With this option, homebuyers can apply for a mortgage to improve or upgrade the home before moving in.

What are the advantages to using a 203k loan?

One application: The 203k loan allows you to apply for general financing, in addition to the funds needed for the rehab, in one loan. The alternative is to go through the typical mortgage closing process and then secure funds elsewhere for your renovations through other financing. This loan lets you wrap it all up in one application process.

Low interest rate: This is a government-backed loan so banks are covered in the event of a loan default. This also means you can expect a lower than average rate than you would see in the commercial lending market or even hard money, which is traditionally very expensive but used by many investors.

Save your money: This one is obvious. By utilizing a 203k loan, you are using someone else's money to pay for the rehab while saving your own. In the unfortunate event that you're unable to sell the home after the rehab, you won't risk having your own money tied up in the project.

What are the disadvantages?

Longer application process: The loan process can take anywhere from two to six weeks. This is something to keep in mind if you're on a tight deadline for your project.

Must use the contractor listed on the application: If you've ever hired a contractor that you hated by the end of a project, then you understand the significance of this requirement. Not all contractors are created equal, and issues may arise that warrant a parting of the ways while you hire a new contractor. Not so fast with a 203k loan. You are bound to using the contractor listed on the application so you'll need to make sure that you are on the same page with them before proceeding.

Do your research around the 203k loan and make sure that you understand all angles as the process is very detailed and, for some, time-consuming. Still, the potential pros may outweigh the cons depending on your situation.