How Do Renovation Loans Work?

This government-backed FHA loan is similar to HomeStyle ®, but it’s open to buyers with lower credit scores, and small down payments.

Both Homestyle and FHA mortgages have mortgage insurance for borrowers who apply with smaller down payments. As with any conventional loan, the Homestyle renovation loan does not have PMI if you put at least 20% down payment (based on purchase price plus repair costs), while FHA loans require mortgage insurance for the life of the loan with down payments less than 10%, and at least 132 months for all other down payment sizes.

FHA 203(k) loans have two versions. The full 203k and the streamline or limited 203k. The type you need will depend on how much work the property needs, and the scope of the work. The FHA 203(k) Full Loan is intended for a primary residence that needs serious or significant repairs, while the Streamline Loan is used to cover minor repairs totaling less than $35,000.

Full 203k loans (over $35,000 in repairs) and Homestyle loans over $50,000 in repair REQUIRE you to work with a HUD Consultant.

What kind of repairs can be done?

Pretty much anything can be done to improve or repair the house other than luxury items, like adding a pool, as long as the future improved value of the house is basically equal of higher than what you've got into the house.

For example, let us assume the purchase price is $175,000, and the repairs are $30,000. This means you have $205,000 "into" the house. As long as the estimated future improved value, as determined by a licensed appraiser, is near $205,000 or higher, you can do the repair.

Note that while many house need some repairs, not all repairs will help increase the future value.

203k loans and HomeStyle Renovation loans are great loans for the right person on the right property. They are not perfect for everyone just because you found a fixer-upper.

You should only consider one of these loans if you're confident that the project will either reduce your long-term costs of home ownership, or increase the value of your property (instant equity), or if the house is in the perfect location.

Some home renovation projects can increase your property value by a greater amount than what you spend on renovations. Additional rooms, new kitchens, fixing up damaged foreclosures, etc.  Other homes have needed repairs that don't necessarily improve the homes value (like painting).

It's worthwhile to look into home renovation loans if a repair will save you money in the long run, or make your home a safer place. Projects in these categories include roof repairs, new siding and updated windows to keep your home weatherproof and energy-efficient.

One of the most important steps in deciding on a home renovation loan is knowing the risks and what to watch out for. First of all, check your equity. There’s a bigger risk of defaulting on a renovation loan when you have less money invested in your home.

Another mistake is investing too much in your remodeling. You don’t want to over improve the house compared compared to similar properties in your neighborhood. Be aware of the upper range of home sale prices in your area, or you could find that you've actually damaged the marketability of your home by pushing it past the price of neighborhood homes. You never want to be the most expensive home on the block.

Don’t rush to renovate. This isn't for everyone. Be sure to understand the whole process of renovation loans, and remember that remodels often end up being more expensive and time-consuming than you might originally assume.

Finally, and of utmost importance, make sure your Loan Officer is highly experienced in both the FHA 203k Loan, and the Homestyle renovation loans. These loans require special knowledge and training. Your new house it too important to let some rookie Loan Officer practice their first renovation loan with you.

Call Joe Metzler with Cambria Mortgage at (651) 552-3681, or get started with an online application.

Smaller projects should never be done with a 203k or Homestyle renovation loan if at all possible.

Many homes have mandatory items that must be repaired in order to buy the home. Others items may be a 'want' item. For example, a home with no functioning bathroom is a needed item. But a home with dirty ugly carpet, or a bright orange 1973 counter top, don't need to be repaired to buy the home. Not all projects need to be done immediately either.  Owning a home means you probably always have something going on. New carpet this year, repainting next year, new furnace the next year, etc.

It is common for people to self-fund these project with credit cards, and pay over time. This is a easy option, especially if you can pay down the credit card relatively fast.

Others fund with credit cards, and when the home is finished, do a cash-out refinance, which involves refinancing your current mortgage at a higher loan amount and using the extra off the credit card. This choice might make sense if you have at least 20% equity in the home, a good credit score and low interest rate options available in the market. 

A very small number of banks and credit unions will give you a home equity loan after you become the owner based off future repaired value, while standard (HELOC) Home Equity Line of Credit loans only give loans based off current value.