The current state of the housing market may have you expanding your options to try to find a home that you can afford. A fixer-upper that needs some updating and a little love can feel like a welcome alternative to move-in ready houses that go off the market before you can even take a tour.
But buying a fixer-upper requires more careful consideration than a house built or renovated in the last decade. Before you put in a rushed offer on a fixer-upper, know that how you finance the purchase and renovations, plan updates and structure your timeline for construction all play a major role in making your choice the right one. Here’s what you need to know.
Before you put your life savings into the run-down house down the block, you need to make a few decisions about your end goal, how you plan to make renovations and what you’ll do if problems arise, as they often do.
Decide where you stand on these four considerations:
If you’re buying a house knowing that it needs some work, you need to have a clear idea in your head as to whether you see the purchase as an investment that you’ll sell or rent out as soon as renovations are complete, or as the house you’ll live in for at least a few years.
“People will purchase (a house) like an investment, but treat it like they’re going to live in it. You need to know the end goal or exit strategy before you buy it,” says Matt Lavinder, president of New Again Houses, a real estate investment company that primarily flips houses, based in Bristol, Tennessee.
If you see a fixer-upper purchase as an investment, many of your renovation choices should focus on what will appeal to the typical buyer and renter for the neighborhood — potentially calling for laminate countertops over granite, because that meets a more realistic buyer range, Lavinder says.
If you’re buying a fixer-upper to make it a house you’ll enjoy living in for at least a few years, the renovations you make can be more personalized to your preference. You can trust that in the long term, real estate appreciates in value, even if you’ve over-improved compared to the rest of the neighborhood.
Qualifying a house as a fixer-upper could mean anything from it needing a few cosmetic updates to being on the verge of collapse if it doesn’t get immediate attention. Before you start shopping for a fixer-upper, determine the extent that you’re willing and able to go for the right location and price.
A house in need of repair often has issues with the systems you don’t see walking through the house, including electrical, plumbing, HVAC, foundation and roof. If you have room in your budget, you may be able to take on issues at this level. But if money woes mean you’ll need to do most of the work as a do-it-yourself project, you’re better off focusing on cosmetic issues — new or revamped flooring, a lightly renovated kitchen and new coat of paint.
Before putting in an offer on a fixer-upper, you need to have an idea of how you’ll finance both your purchase and renovations. You should also know how renovations will be completed, whether that means dedicating all your spare time to working on the house, or hiring a contractor to do the entire project.
“People need to be honest about what their resources are,” Lavinder says. “For example, if they’re going to be weekend warriors, and they’re going to add this value on the weekend, there are certain problems that are outside their scope. If they are relying on a handyman that doesn’t have a contractor’s license, they can’t add square footage.”
[Read: The Guide to Earnest Money.]
Ability to Add Value
Your plans for the home and ability to see them through all mean nothing if the home itself has problems that go far beyond what you expect. “Some of those problems are nearly impossible to fix,” Lavinder says.
Before you purchase the house, have a thorough inspection completed to find any and all issues that can be spotted.
Knowing your scope and resources, keep an eye out for inspection notes on issues with plumbing, electrical, HVAC and the overall structure. Especially with structural issues, if you’re not able to fully repair them, your ability to add value to the property is significantly diminished.
Loan Options for Fixer-Upper Homes
Chances are you don’t have an endless amount of cash to both buy a fixer-upper and cover all renovations. Fortunately there are a few options for financing such a project:
— Construction-to-permanent loan. This is essentially an all-in-one loan that covers the purchase of the property as well as the needed construction, converting to a permanent mortgage after construction is complete. Ray Rodriguez, regional mortgage sales manager for metro New York at TD Bank, says this type of loan is seeing high demand as more homebuyers seek fixer-uppers amid low housing inventory. If you have a solid plan with professionals to get your home ready to live in, this can be a great option — the funds to contractors are paid out as work is completed. However, expect the initial pending process to take more time than a traditional mortgage. “It is a little bit longer of a process when you’re working with an architect and a builder aside from the agent and the lender,” Rodriguez says.
— Separate mortgage and construction loans. If the timeline for a construction-to-permanent loan doesn’t work, you can purchase your home with a regular mortgage and get a construction loan after closing on the home. As separate loans, you have the option to shop around for the best construction option for you, though Rodriguez says it’s common for borrowers to seek a construction loan with their current mortgage lender because the lender is already familiar with their financial background. “It’s about ease of use and simplicity,” he says.
— Mortgage and home equity loan. If you’re able to put a significant amount of money down when you purchase your home, you may already have significant equity in your new home. When that happens, using that equity to leverage a loan can be a smart choice. A home equity loan is best used when it helps increase the value of your home, so renovations would be a good fit for this kind of financing. A home equity line of credit, or HELOC, in particular, allows you to borrow like you’re using a credit card, with a limit set by the lender, as money is needed for renovations. Rodriguez notes this is best for relatively small projects. “If you’re not adding additional space or square footage … maybe a home equity line in addition to the mortgage would be a good choice for you,” Rodriguez says.
To finance any construction on your home, your lender will only be interested in providing the funds if the work is going to proportionally increase the value of the property. While the inspection is important to help you determine the total amount of work that needs to be done, the lender uses the appraisal as a major deciding factor if the work you plan to do will be a good investment.
“An appraiser can throw up a red flag and say, ‘They say it’s going to be (worth) $1 million. Well, I’m telling you it’s not, it’s going to be worth $800,000,'” Rodriguez says. In a situation like that, the lender would only be willing to cover a smaller budget.
Cost Expectations When Renovating a Fixer-Upper
In today’s market of low housing inventory, construction labor shortages and rising construction material costs, don’t expect it to be easy to find a house and renovate it for significantly less than a comparable move-in ready home at market rate.
The median existing home sale price in the U.S. in March was $329,100, according to the National Association of Realtors. Of course, existing homes sold include both move-in ready, recently renovated homes and those that need some love. If you’re looking for a fixer-upper, you should be paying less for the property compared to a move-in ready property of similar size nearby, proportional to the work needed.
Another factor to consider is the availability and cost of labor and construction materials where you live. Lavinder says supply chain issues have led to long waits or complete unavailability of lumber and raw electrical materials, among other things, in 2021.
Combined with a shortage of laborers in many parts of the U.S., you may find a project involving a contractor takes longer to complete or costs more to ensure a full team is available. “Those costs are changing in real time and it’s real difficult for a normal person to get those numbers,” Lavinder says. Even with projected costs from a contractor, Lavinder says expected arrival dates and prices change so quickly that “you’ve got to be careful just trusting a contractor’s numbers.”
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