How a Renovation Loan Helps Get You into the Home You Want (Warts and All!)

Home Inspection - Century 21 Cedarcrest RealtyYou’ve been looking at houses with your Cedarcrest Realty agent and found one that fits your budget—but needs a lot of cosmetic work to get them looking their best. You see the potential, but you might not see how you can pay for the remodeling the house requires.

You can get a renovation loan to finance the remodeling costs, and get into a home you might not otherwise be able to afford.

What is a home renovation loan?

Renovation financing is used when the home buyer purchases a property in disrepair to the point that it would not pass a regular appraisal inspection. Issues may be a bad heating system, faulty septic system, or substandard roof. The main criterion is that there is something that will not meet government health and safety requirements for a domicile.

A home renovation loan is bundled as part of your mortgage to finance your purchase and proposed renovation. Jeff Greenberg of Guaranteed Rate Mortgage, a CENTURY 21 Cedarcrest Realty expert resource, explains it this way:

“This type of loan product is not for distressed fix-and-flip properties. Renovation financing is meant for buyers to use on neglected properties they intend to use as their primary residence. The renovation loan is backed by a government agency and can help people buy homes that they ordinarily couldn’t afford to get into due to the subsequent renovation costs they’d have to finance.”

How a renovation loan works

If the buyer is using renovation financing, this information is included in the contract’s comment so the seller knows this is part of the transaction, and understands that the timing for the closing may be longer.

  • These loans require 45 to 60 days and have many elements to them. There are various disclosures to sign, a checklist for the contractor to complete, and a HUD consultant report must be prepared.
  • The home appraiser comes in and provides a report on the necessary work and the contractor writes up estimates based on the report.
  • The building contractor must be licensed and insured, provide three references, and understand how the money is disbursed. For example, the first payment is not disbursed until the first phase of work is completed.
  • The lender conducts a feasibility study before processing the loan to make sure the home’s value will be enhanced within fair market value.
    • The buyer cannot over-improve the home to the point it is taken out of the prevailing market price for similar properties
    • The lender will assess if the contractor’s estimates are in line with prevailing renovation costs
  • The renovation costs are financed into the mortgage (the seller won’t have to finance the construction costs on a credit card or go for a separate loan after the closing)
  • Rates are about .5% higher than a typical mortgage due to the risk involved if the contractor does not complete the job. (An incomplete house is not loan collateral in this circumstance.) The debt-to-income qualifications are the same as a first mortgage.
  • The buyer gives a down payment on the sale price and renovation amounts, and can also finance the closing costs on the renovation portion.
    • For example, a home sells for $400,000 and needs $50,000 in renovations. The buyer gives a down payment on the full $450,000 and finances the rest together in one mortgage product.
  • The buyer has six months from time of closing to complete the work and must hold the loan for at least six months. The buyer can extend the work timeline for another six months if time is needed to complete renovations.

Each government agency for mortgages (FHA, Fannie Mae, Freddie Mac, VA) has a renovation product with its own parameters in terms of loan amount and work allowed. The least restrictive is the FHA, which allows buyers to do any kind of remodeling work as long as you maintain foundation footprint.

Benefits of renovation financing

Renovation financing provides flexibility for buyers and gets everyone to the closing table when a distressed property is for sale.

If a house is in disrepair, you as the buyer are likely be bidding against fewer buyers (since move-in-ready homes are more competitive). If the seller is unwilling or unable to take on the needed repairs, you can close the transaction with the financing needed to get the home in good condition and ready to move in.

“We were delighted to have Jeff present a seminar about renovation loans to our agents, who now have another tool in their real estate toolbox to benefit our customers,” said John Sass, broker owner of CENTURY 21 Cedarcrest Realty. “These loans present our buyers with more opportunities in the North Jersey real estate market, since they can get into a house that has good bones but needs a lot of work. Buyers can take advantage of this loan product to buy the house they want and get to work on it with the financing already in place—and enjoy their new home knowing important cosmetic and structural renovations are taken care of from the start.”