First-time home buyers are often attracted to the low prices offered in fixer-upper homes. But most don’t understand that financing such a project can be a challenge. Here’s a conversation I had recently one of our buyer-clients on this topic:
Buyer: Hi Steph, we were wondering what your opinion would be when it comes to buying and renovating a place. We wonder if we could try to get a deal and then put 20-30k into some changes we’d want to make.
Steph: If you’re willing to put in the work, you can often get a much better deal by going that route. You just need to make sure that you have a game plan and that the funds are lined up. Do you have access to renovation cash already? If not, how would you get it?
You could apply for a home equity line of credit after your purchase, but generally speaking you need to have equity in the house before a HELOC is an option.
If you don’t have the funds available, you might have a conversation with your lender about it. There are “renovation loans” available through FHA, but I’m hesitant to tout them as a viable option in this hot market. To make an offer using that kind of loan would be frowned upon by listing agent because they take extra time and they’re way more complicated. In other words, it would not be good in a multiple offer situation which, as you know, is common right now.
Buyer: Hmm. I guess we don’t really understand what we thought we did. I thought there was some way that you could agree on a sales price of say $190k but your total loan price is $220k with $30k to be spent on the renovations. Maybe we just watch too much HGTV, who knows HaHa!
Steph: No, sadly HGTV is fantasyland. What generally happens with house renovators is: They find an old property and pay cash for it. They pay cash for the renovations. Then (if they keep it instead of flipping it) they take out a mortgage for the full value of the house (or 80%, 90%, or whatever).
You can’t take out a $220,000 loan on a property that’s only worth $190,000. You can’t take out a loan for more than the appraised value of a house- unless you do some kind of nontraditional, complicated, “renovation” loan that I mentioned in the previously. It’s the kind of thing the seller and the listing agent would not like to see on an offer in this hot market.
What you can do is buy a house with a traditional loan. Pay for your renovations out-of-pocket or with a personal loan. Then *attempt* to refinance with a new appraisal and a new loan. But this is risky and expensive. Admittedly, this was an easier process before the recession. The recession changed everything about financing.
Buyer: That makes sense. And I guess the down side of taking out a personal loan for renovations would be much higher interest rates. Hmmm. Well, its definitely something we need to be thinking about as our budget puts in a position where a fixer upper type may be our best option.