What is a Rehab Loan?

[John Worley]

Oftentimes a subject of some debate is the reality of what is a renovation or “rehab” loan. Simply put, a rehab loan is a specialty loan program that allows the borrower to purchase a run-down home and to finance an additional amount of money above and beyond the sales price to use in renovating or “rehabbing” that home. In some cases the loan may also allow the borrower to finance the closing costs, so that he/she comes to the closing table with very little, if any, money out of pocket. This makes the program ideal for many real estate investors who wish to put as little of their own money as possible into their rehab projects. Terms and conditions for these rehab loans will vary widely from one lender to the next, from very short term, high interest loans to more conventional long term, low interest loans. Things that are usually taken into consideration during the underwriting process for these loans include: the borrower’s personal credit and finances, the size of the proposed renovation or “rehab”, the condition of the home being financed, the area where that home is located, and the borrower’s plans for repayment of the “rehab” loan.

What a rehab loan is not is a “hard money” loan (although the terminology is used interchangeably across the industry). “Hard money” loans are very short term, high interest loans used to help struggling homeowners try and avoid foreclosure. These loans are usually underwritten based more on a borrower’s character and situation rather than their personal credit.

It is important that borrowers understand this difference so that they do not walk into a potential loan situation with the wrong idea of what to expect. While some rehab loans may have similar terms to a “hard money” loan, they are not used for the same purpose and therefore will be underwritten differently.

A borrower for a “hard money” loan is someone who is usually facing the foreclosure process on their own home. Their credit is most likely in pretty bad shape and they will usually have next to no savings in the bank.

On the flip side of things, a borrower for a rehab loan is a businessman. Regardless of the terms and conditions offered for the loan program, it is expected that the borrower will have very good or excellent personal credit and that they will have at least a minimum amount liquid cash reserves in the bank with which to run their business.

Knowing and understanding these differences can make your next rehab loan experience a more smooth and efficient transaction.

John Worley
RTL Financial