Does this make sense? (FHA loan use)

Question

Hi everyone. I have the opportunity to use my pre-approved FHA loan to purchase a home in Dallas, stop paying rent and possibly enjoy the appreciation that the market is having.

I've been analyzing a lot of deals and I'm really having a hard time finding anything (in MLS and with agent) that will cash flow once the first year goes by and I decide to rent out.  I think this is twofold, one because the prices have been driven very high (and I'm late to the party) and the FHA payments usually are also higher (including insurance, etc.), and two because it's difficult to get the FHA loan on a property that is 70-80% and needs repairs, so nothing from my current wholesaler contacts would work.

A lot of people in this market swear that it's still going to get higher, while a few financial "experts" seem to think that "winter is coming" (a correction).

Besides the regular investment strategies (which I'm starting to implement soon), I really have the bug to put that FHA to work and get started (this would be my 2nd property, first is already a rental in Austin), I just think I'm missing something and I'd like your opinions.

Thanks BP!

Pepe Matuk

Matt Turbitt · Answer

@Jose Matuk Some good links for govt foreclosures are hudhomestore.com homepath.com and homesteps.com. The advantage to these places are they give priority to owner occupants over investors.  Also can I ask why you are going FHA? do you need FHA due to DTI or credit score? Or are you doing it for the 3.5% downpayment?

Reason I ask is most conventional lenders will offer a 5% down option on a personal residence. you'll still pay monthly PMI but it's far cheaper then the FHA options. Keep in mind with FHA PMI there is an upfront 1.8xx% that you pay on closing then you also have monthly PMI and it never falls off the loan until you refinance(at above 20% equity).

The reason I say refinance after 12 months is 95% of banks require a home to 'season' for 12 months between the initial sale and a refinance in order to take advantage of a higher home value. Some banks require 6 months and a few require only 30 days but these are far and few between and your going to pay for that with higher fees. The federal lending handbook says 12 months (the guidelines for most conventional banks) so most follow that.

I'd imagine your goal would be to do something like this: buy a slightly distressed house for $80,000. Live in it for a year while fixing it up, paint, floors, minor bathroom and kitchen upgrades, fix anything damaged or old. After 12 months refinance to a conventional 30yr mortgage, aim to have done enough updates your house is now worth $100,000+(your realtor can help you with a free rough valuation at this point). Now that you have 20% equity when you refinance the PMI will drop off you also can lock in a low interest rate that is not available to you if it's a rental vs occupied home. Then you move out and rent it.

Chris Mason · Answer

Hi @Jose Matuk,

FHA has slightly higher property requirements than conventional. Slightly. Many real estate agents think it needs to be a pristine turnkey almost-new construction to go FHA because of some nonsense that went down in 2005-2007, and they are mostly wrong about FHA property standards.

The question is, are you willing to be scrappy and industrious? If the fixes to make it go FHA are easy/cheap, just do it before the appraiser comes out. It's going to be older/neglected real estate, so the sellers will generally go along with it if it helps get the house sold.

Example:

• Identified a below-grade un-permitted basement bathroom with a jenky pump lifting the toilet waist up to ground level and into the sewer system that was all sorts of a hot mess, no way anything about that bathroom is up to code. 
• We tore the toilet out, put a sanitary cover over the hole, took off a shower head, tore off the shower door, put both the toilet and shower head on the shower floor, placed an upside down box on top of both hiding them, randomly put the shower door in another room in the house, threw a bunch of other boxes and crap in there (it may have included boxed "first night in new home toiletries and celebratory whiskey"...), and I suggested that the agent use the term "storage closet" as he opened the door for the appraiser. 
• Appraisal came back "as is" and issue free, documenting the room as "[the room] was once a bath room. There is a sink, BUT no toilet or shower. The room is NOT a functional bath room. It is now a storage room. The subject property meets FHA minimum building guidelines" (exact quote, the CAPS are from appraiser, not from me... he writes "was once" like it was 10 years ago, not 2 days ago, muahaha). 
• It's not my business, nor do I care, if they put that toilet back in 30 seconds after closing. We only moved the toilet about three feet to the shower, so it's not like it's long distance heavy lifting to put it back, if they want.
• 108 year old house, FHA and HUD and income taxes didn't even exist when it was built.
• There was also some other little stuff that was a few hours in an afternoon of work for the buyers. Electric tape around exposed wiring. Sanding and priming chipped paint in two spots. One other little thing I can't remember. 
• Closed using FHA financing.

Good luck!

Jose Matuk · Answer

@Matt Turbitt thanks again for the thorough response, what you are saying makes sense. Yes the FHA is because of down payment, but in a few months I'm going to be in position to have 5% or more. Like I stated in the op, I guess it's the bug to go out there and do something right away, take action!

Best regards.

Jose Matuk · Answer

@Matt Turbitt thanks for the tip, I will look into HUD's (because I don't know yet if we have many here) but it's a great tip. ALso about the refi, is one year all it takes to be able to get out of the FHA? Sounds like a good plan to me.

@David Ferrette your right on about the PMI, it does kill it. I'm actually looking into this for my first property as well, since I didn't have but 10% for down payment at the time, it also includes a PMI in the mortgage. Since it has appreciated some, I might be able to refi into another loan without that, correct? Also will be looking into 203k for sure, thanks!

David Ferrette · Answer

@Jose Matuk

You might want to think about buying a distressed property and doing a 203k loan to rehab the place.  The PMI will kill your cash flow but if you can find a good deal, you might be able to make it work.

Matt Turbitt · Answer

What I'd imagine you'd be looking for is something that has some potential value. I don't know if you have many HUD homes in your area but that's where I'd start. They are fha friendly, and almost always have value to add. I'd imagine the goal for you would be to buy something slightly distressed that needs alot of the cosmetic fixes. Fix it up while living in it for the first year and the  refiance out of the fha and the pmi.

Does this make sense? (FHA loan use)

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