Dear PoPville – Refinancing a home with a legal basement unit?

Photo by PoPville flickr user clif_burns

“Dear PoPville,

We bought a home two years ago in Bloomingdale with very little down payment and, given the rise in prices in the area, we are thinking on refinancing to get better terms in the loan. We are quite confident that we have more than 20% equity in the house considering numerous recent comparables.

Our surprise is that some lenders are offering more stringent terms because the house has a separate legal basement unit. When we bought the house two years ago it already had a Certificate of Occupancy and it was already classified with a use code 24 (Residential-Conversions less than 5 units). However, no lender raised the question of the second unit, and we closed without any problems or amended terms.

We would be interested in knowing how people are financing the houses that have legal rental units with C of O nowadays. If the terms are indeed more stringent for houses with C of O, that would be yet another reason not to go through the painful process of “legalizing” an english basement.”

27 Comment

  • If you have a stairwell still in place in your house the basement can be classified as an “In Law Suite”. As long as you only tell the lender and appraiser to classify it as an in law suite, you should get by fine, but keep it that way without tenants for the loan process. Though I could rent out my basement I choose to not get a C of O because of the skrewed L&T court system in DC.

    • The basement unit is completely separated from the main house. It has separated front and back entrance and separated Pepco meter. It is a fully legal rental unit (hence the C of O).

      • FWIW, my lender told me that banks they use the presence of separate electrical service rather than a C of O to classify number of units.

        • That did not happen to me. I have a different electrical service for each floor of my house and it did not count as two units when I refinanced.

  • Did you originally finance with a larger bank? If so, I’d recommend reaching out to a local bank or credit union since they might be more willing to work with you. Membership in a credit union shouldn’t be an issue since you live within DC boundaries.

  • We had a different issue. We bought a house in Petworth, and legally converted townhouse to a two unit flat (and now have a C of O to that effect) so that we could legally rent out our basement. However, when we tried to refinance last year, we were unable to use any of the comps in our neighborhood because they were all singe family dwellings, and according to the appraiser, there were not “comparable.” The only comps that the appraiser considered comparible were either two unit flats that were either several years old (and thus much much lower in value) or were four-unit apartments that weren’t even in Petworth and looked like total dumps. The comps actually came in less than when we bought the house, and really mucked up our refinance.

  • I did a HELOC, not a refinance but I found lenders were all over the place regarding my (legal – C of O) apt. Some would count it, some would not. In addition, DC records do not always list it accurately. But I had good luck & smooth sailing with TD bank. (Interestingly, because one of their loan officers reads PoPville , read my travails and contacted me!)

  • Our lender required 25% down on a row house with a licensed English basement apartment. It was also a jumbo loan, though I don’t know if that affects the result. It is, apparently, part of the rules required by Fannie/Freddie for syndication.

  • My lender decided on their own to count my 2unit as a single family with in law suite though it is completely separate.

    • We were told we had to get a commercial loan. It worked out okay in that we got a low interest rate, but did get hit with paying PMI because we put less than 20 percent down. Even though we have more than 20 percent equity in the house, we were told we have to pay the PMI for the full 5 years.

  • Not a refi, but when we bought our house (with legal basement rental), we couldn’t get a traditional loan because the bank considered it an investment property. We were still able to get a great fixed rate, but it wasn’t straight forward. Get yourself a good loan officer.

    Ps. Your story reminds me of the glory days of 0% down/wait for magic equity.

  • You shouldn’t have a problem refinancing. We have a similar situation (lower level with a separate CofO, legally rented out) and refinanced without issue. If you shop lenders (which it sounds like you are doing), in some cases you will be better off, i.e. they will count the rental income as household income. At the time we refinanced, Wachovia, for example, would do that. Good luck w/the process —

  • Hi I’m the lender that replied to Victora below (hi Victoria). I’d love to discuss with you.


    • Hi Justin! And by the way – the niece who’s student loans I got the HELOC to pay off just got married! (Wedding gifts might take a whack out of the loan balance!)

    • Justin at TD will get this refi done for you. He did the exact same thing for me last year for my 2-unit Bloomingdale rowhouse:

      – Refi out of original FHA loan
      – Put in place stupidly cheap 30-yr fixed
      – Added bonus: HELOC with commitment up to 89.9% CLTV (priced at P+25 bps)

      Justin will find a way to get it done. I believe TD portfolios a lot of their loans, so they have some discretion on terms and conditions.

  • When purchasing in 2005 we were able to be classified as a single family home despite having a completely separate unit; they just said that they would not include the rental income when computing income. When we refinanced about 3 years ago, they said that because it was a completely separate unit it would have to be considered a two-unit building. I asked the appraiser about the difference. He paused, then said, “Yeahh… we can’t really do that anymore.” There was only about a 1/8 or 1/4 point difference, and the rate was still much lower than before.

  • I don’t understand why people refinance. To get better terms? To take money out of the house? Please enlighten this lifetime renter!

    • One or both of the things you mentioned. Sometimes you might have gotten a higher interest rate due to your credit rating or financial situation. Perhaps your situation has improved or rates have dropped. A lower interest rate can be a significant savings over the life of the loan.
      If you have a considerable amount of equity and you also want a lower rate, you can do a cash out refinance to consolidate debt or pay for renovations etc.

    • You buy a house for $600k with a no money down and a high risk adjustable rate mortgage. Wait a couple years and hope your house is now worth $720k. Since you still owe ~$600k (which is now ~80% of the value), you magically have “20% down,” which will get you a nice low fixed rate mortgage.

      Great idea as long as banks and the market all cooperate.

  • I agree it’s simply a matter of getting the right lender. They are all over the place about this. Our rowhouse does not have a C of O for the basement, but our lender originally wanted at least 25% for a down payment (may even have been 30%). They didn’t care that we didn’t have a C of O; what caught their eye is that the house is not categorized on the DC tax rolls as a single family home but as a “residential conversion, less than 4.” We talked the lender down to ten percent only because we had a long history with them.

  • When it comes to lender restrictions and rules for 2-unit row homes, it completely depends on the lender’s own underwriting guidelines. Although there is a lot of overlap between underwriting guidelines, the exact requirements completely vary. As I found in my own recent purchase of row home with a separate rental unit, when it comes to such buildings, lender’s requirements can vary significantly – One lender required 40% down, another required 25%, and another (the one I went with) required 20%.

    In addition to equity requirements, lenders may charge more in origination fees and increase the interest rate. So definitely check with a lot of lenders and compare. Just because one lender says “that’s the way it is” does not actually mean that’s the universal rule.

    Whether a property is determined to be a 2-unit property, depends on the lender’s appraisal. Again, underwriter requirements may vary across lenders, but I’ve found the key items that appraiser’s look at to determine whether a property is a single family building or two-unit dwelling (triggering higher compliance requirements) are: (1) units are completely separate (no en-suite stairway), (2) separate metering, (3) building classification, and (4) utilities for the main level are located in the rental unit.

    I recommend you confirm with your lender that the appraiser you get is familiar with the DC market. You don’t want to get into a situation where an appraiser who focuses on suburban homes comes to DC, sees your basement, and automatically thinks that its for sure a two unit dwelling.

    Also, when it comes to appraising for a higher amount, it does help to tell the appraiser how much rental income you earn on the property.

    I recently worked with Jennifer Grillo George Mason Mortgage. George Mason requires only 20% down, and only adds an additional 1/8th of a percent to a interest rate if your property is determined to be a two unit dwelling.

    Good luck!

  • At both times — during my purchase and subsequent refinance — for my two unit row-house, I paid an interest rate with .25% greater rate due to my “two unit dwelling”. I find it fascinating to read the above comments which note that this increased rate may be an arbitrary lender’s underwriting standard.

    • Completely arbitrary – like almost all other standards. During a refi last year and a purchase this year, interest rates, fees, requirements, etc. varied so extremely that I could, for example, have ended up anywhere from saving over $300/mo on my payments to paying a little more than I currently was! Unless you’re doing an FHA loan (which is going to be fairly standardized due to the heavy government involvement), you need to apply to at *least* 5 different lenders, maybe more if you notice a lot of variation. All applications within a couple of weeks count as 1 credit inquiry when it comes to your score, but they all show up on the report, so expect to have to write a letter to the lender you ultimately go with explaining that these were shopping for the same mortgage.

  • Just to echo what’s been said: your experience will vary depending on the lender. My rowhouse has an unconnected English basement (CoO, &tc). When I bought the house in 2011, financing was more difficult because many companies require 25% down on a two-unit building, even though one of them is only a legal accessory unit. (But I should say I ended up having good luck with Chris Cox at Acacia Federal Savings Bank.) When I refinanced last year, I used Zillow’s mortgage marketplace to get quotes from several different lenders. I discovered when interviewing them that some insisted on treating the house as a 2-unit (with similar restrictive/more expensive requirements) while others were comfortable treating it as a single family home with an accessory unit. I ended up going with Ben Schott from Residential Finance.

    The appraisal was another story. Like Anonymous @ 2:48, the appraiser claimed she couldn’t find any recent comps that included an accessory unit, and so valued the house as if the basement didn’t exist. Only after I complained and presented several comps in the neighborhood did the appraiser raise the appraised value (to a # at least $50K less than what I could have sold it for).

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