Renovation Loans: A Low-Inventory Solution

The high-demand housing market, filled with bidding wars and a low inventory of newly constructed homes, spilled over from 2020 and into 2021. However, across the country, local markets are starting to normalize. That doesn’t mean they’re crashing by any means, but the 20 offers per home are returning to more recognizable numbers - like two or three.

As the market continues its trek back to its pre-2020 appearance, some sellers might rush their property, before they’re ready, onto the market with the thought of “making up” for missing the boom period of roughly the past two years. Because of the hectic pace some sellers and REALTORS® might operate with to get their home on the market, that property’s buyer could be left wondering how some aspects of the home weren’t fixed or repaired. If you find yourself in a similar situation, a renovation loan could be just what you need.

What’s a Renovation Loan?

A renovation loan is a resourceful way to upgrade an existing property to accommodate new homeowners’ wants and needs. Anyone with the appropriate credit can take advantage of the loan to modernize an outdated home and make it their own. It transforms the not-so-perfect home you just purchased into your family’s future for the next 30 years.

Maybe you want a suite attached to your home so your mother-in-law has a space all her own. Or maybe you want to install or update the heating and cooling systems so you have the latest models on the market. In either case, a renovation loan would be the answer to your problems. Making accessibility improvements, redesigning the kitchen or bathroom layouts, or, if you obtain the correct medical waivers, installing a hot tub can each be a part of the overhauling completed by a renovation loan.

Repairs you want to see happen are included, too. Fixing your home’s piping to prevent increasing radon levels is an option. No matter the property, a renovation loan spins your recent purchase into your dream home with all the fixings.

How Do Appraisals Factor In?

Each of your requested projects will take place after closing, so you’ll already own the home by the time the hard work starts. But prior to closing and the renovations, an appraiser will visit the property, measure it, and give an estimate of how much, in total, your projects will cost. At the same time, you’ll learn the current equity of the home and how it compares to other houses nearby.

Starting the Process

Let’s say you stumble across a place during your homebuying search that doesn’t quite measure up to what you’re looking for. However, your agent informs you that, while not perfect, the home is in a fantastic school district for your children. If you want to move forward with the property, this is where the renovation loan comes into play.

First, you should identify all the things that need to be fixed. If the home is on a well and septic system, an inspector will need to make sure everything is functioning as it should. You’ll want to get a termite and moisture inspection report to get a better picture of the home’s foundational strength. Among a whole slew of other precautionary measures, you should also scan the home for any missing handrails or wall openings. For more information on the reports and inspections you should have performed on a new home, check out our article on home inspections.

After that, the fun part begins. You get to put together your wish list of things that aren’t in the home, items that need repairing, and what should be changed outright. After selecting your improvements, an appraiser will determine how much your changes increase the property's value. So, if your home costs $150,000, and your kitchen renovations increase the property value by $10,000, your loan will be based on the home’s new value of $160,000.

Differences in Cost

Closing costs are different for homes altered by a renovation loan from those that are not. Interest rates will likely be higher for properties with renovation loans, but at the same time, the home is gaining in value. Don’t forget, it’s rare, if not impossible, to find a home with everything you’re looking for. So, the renovation loan lets you upgrade the property rather than losing out on your desired amenities from the get-go.

VA Loan

There are three popular options that bundle renovation costs and a home loan into one monthly mortgage payment. The first is with a VA loan.

Military veterans and active service members can apply for a VA rehab and renovation loan to finance their fixer-upper. As mentioned, the loan will finance the purchase price and any repairs needed for a home, but only those that are non-structuralNot relating to, affecting, or contributing to the structure of something. Examples include fixing insulation, replacing flooring, or installing a water heater.non-structuralNot relating to, affecting, or contributing to the structure of something. Examples include fixing insulation, replacing flooring, or installing a water heater.. Examples include fixing insulation, replacing flooring, or installing a water heater. All construction must be finished within 180 days, or around six months, of closing.

FHA Loan

The Federal Housing Administration (FHA) offers a 203(k) loan, with a low 3.5% down payment, to purchase and renovate any home that will serve as your primary residence. Individuals who may consider this loan type run the gauntlet of people who want to make any home the home they want or those who will refinanceThe process of paying off your existing mortgage and replacing it with another in order to save money or pay off your loan sooner.refinanceThe process of paying off your existing mortgage and replacing it with another in order to save money or pay off your loan sooner.. Additionally, FHA offers two classifications of their renovation loan: limited and standard. The 203(k) limited loan funds any non-major repairs. This could include fixing any window, door, or appliance up to a total of $35,000. The 203(k) standard loan deals with major structural repairs. If a consultant finds termite damage to a property, the standard loan will fund the rehabilitation project, so long as it meets the minimum cost requirement of $5,000.

Conventional Loan

Conventional renovation loans, such as the Federal National Mortgage Association’s (Fannie Mae) HomeStyle Renovation Loan, are another option for repairing or remodeling a new home. The funds that will pay for the renovation are held in an escrow accountA separate account your lender sets up to ensure payment of certain expenses like taxes and homeowners insurance.escrow accountA separate account your lender sets up to ensure payment of certain expenses like taxes and homeowners insurance. (you also have escrow accounts for insurance and taxes). Options for conventional renovation loans start at a $5,000 minimum and extend to the maximum loan limit in your area.

Building the Perfect Dream Home

Given the current times, houses that stay on the market for more than two weeks attach a sort of negative stigma to themselves. If nobody is purchasing that home while the market is so hot, there must be something terrible about the property, right? Just remember, the renovation loan can fix any physical nagging issues for a home, and don’t worry, it’s not an original purchase loan. You can refinance your current loan to one of the renovation loans, and the contractor will start working on the home within 30 days of closing .

Most people are unfamiliar with the loan, but it’s a great option for anyone looking to gain peace of mind with the home they think they “settled on.”