In a recent blog post we discussed the FHA Energy Efficient Mortgage Loan (EEM) and some of the basics of the program. The FHA EEM is for new purchase and refinancing mortgages and lets the borrower finance additional costs of energy-efficient upgrades or improvements to the home.

Because the FHA loan program has loan limits and specific rules that govern those limits, it is easy to see how borrowers new to the FHA loan program could be confused by the terms of such a loan. After all, if a borrower can add at least $4,000 (or as much as $8,000 depending on the circumstances) to the FHA loan, how does one roll the costs of the improvements into the mortgage without exceeding the FHA loan limit for that purchase?

According to FHA loan rules, “The EEM is initially underwritten as if the energy package did not exist, using standard FHA underwriting guidelines, qualifying income ratios, and maximum mortgage/minimum downpayment requirements, without regard to the energy package.” That basically means that the additional money included in the loan for the upgrades does not count against the FHA loan maximum.

The rules also address another question common to EEM loans–is a second appraisal needed to determine the value of the property, once upgrades and improvements are finished? “On an EEM, there is no need for a second appraisal that reflects the expense of the energy package and the improvements. The appraisal does not need to reflect the value of the energy package that will be added to the property for either new or existing construction.”

On EEM loans, the borrower is required to provide an energy rating report and an EEM worksheet that would show the cost of the improvements and the projected savings/efficiency once the improvements are completed. (The borrower must hire an energy consultant for this according to FHA rules.) “Once the borrower and the property are determined eligible for FHA-insured financing, the lender, using the energy rating report and the EEM worksheet, determines the dollar amount of the cost-effective energy package that may be added to the mortgage amount.”

How much can be added to the mortgage amount at this point? FHA guidelines for energy efficient mortgages state that either five percent of the property value (not to exceed $8,000) or $4,000 can be added, whichever amount is higher. “Regardless of the property’s value, every borrower who otherwise qualifies can finance at least $4,000 of the costs of the energy package, if the cost exceeds $4,000.”