Renovation loans: the house and the work in one mortgage

Here’s a situation that comes up a lot in the Susquehanna Valley. You find the right house on the right lot in the right town. And it needs $100,000 of work.

Most people treat that as two separate money problems: buy the house, then figure out how to pay for the renovation. A renovation mortgage lets you solve both with one loan.

What is a renovation mortgage?

It’s a regular first mortgage that also includes the cost of the renovation. The lender bases the loan on what the house will be worth after the work is done, not what it’s worth today. That “as-completed” value is what makes the numbers work on a house that needs a lot.

The two big conventional programs are Fannie Mae’s HomeStyle Renovation and Freddie Mac’s CHOICERenovation. The government-backed version is the FHA 203(k), which has its own page.

Buying or refinancing

You can use one when you buy a house, or to refinance one you already own. For a purchase, the loan covers the price plus the renovation. For a refinance, it pays off your current mortgage and funds the work.

A refinance through HomeStyle is a limited cash-out refinance, so you don’t walk away with cash at closing. The money goes into the project.

If you already own your house and have plenty of equity, a HELOC or home equity loan is usually simpler. Renovation mortgages really shine when you’re buying, or when you don’t have much equity yet.

How much can go toward the renovation?

Under both Fannie Mae and Freddie Mac, renovation costs can be up to 75 percent of the as-completed value. On a purchase, it’s 75 percent of the lower of two numbers: the price plus renovation costs, or the as-completed appraised value.

That’s a lot of room. On a house expected to be worth $400,000 when finished, up to $300,000 could go to renovation.

Down payments can be low. For a single-family primary residence, HomeStyle allows up to 97 percent loan-to-value on a fixed-rate loan in some cases, according to Fannie Mae’s product matrix. Your credit, income and lender will decide what you actually get.

What can you use it for?

Almost anything permanent. Fannie Mae places no restrictions on the type of renovation and no minimum amount, and it even lists luxury items like a pool, garage or accessory unit as eligible. Kitchens, baths, additions, finished basements, new mechanicals, a full gut. Appliances count when they’re part of a kitchen or utility remodel.

What it won’t do is let you tear the house down and rebuild. That’s construction loan territory.

How the money moves

You don’t get a check for the renovation at closing. The money goes into an escrow account, and the lender releases it as work gets done.

With HomeStyle, up to half the planned costs can be paid at closing, which usually covers materials and startup. Each later draw requires a draw request, an inspection confirming the work, and your written sign-off. Payments go out as joint checks or wires you’ve authorized. Final payment needs a completion report from the appraiser and a clean title update showing no liens.

There’s a deadline, too. HomeStyle work has to be finished within 15 months of closing. CHOICERenovation allows 450 days.

If you can’t live in the house during the work, HomeStyle can finance up to six months of mortgage payments on a primary residence. That can matter a lot if you’re also paying rent.

What the lender will want from your contractor

This is where these loans live or die. Before closing, the lender will usually need:

• A signed renovation contract with an itemized scope and price
• Plans and specifications prepared by a licensed contractor, renovation consultant or architect
• The contractor’s information, license, insurance and references (Fannie Mae uses a contractor profile form)
• A draw schedule tied to stages of the work
• Often a contingency reserve for surprises, which is required on some property types

The appraiser values the house from those plans. So the plans and the price need to be real before you close, not roughed out.

The catches

Not every lender does them well. These are specialty loans. Ask how many renovation loans a lender closed last year.

Not every contractor will take them. Waiting on inspections between draws strains a contractor’s cash flow. Ask about the draw schedule early, and make sure your contractor knows it’s a renovation loan before they bid.

Timelines are real. Plans, bids, contractor vetting and an as-completed appraisal all have to happen before closing. On a purchase, that has to fit inside your sales agreement.

Change orders need approval. You can’t just add the covered porch in month four. Changes go back through the lender.

Doing your own work is limited. HomeStyle allows some owner-performed work on single-family owner-occupied homes, capped at 10 percent of the as-completed value, with no credit for your labor.

Questions I’d ask the lender

• Do you offer HomeStyle, CHOICERenovation or both, and how many have you closed?
• What do you need from my contractor, and when?
• How many draws are there, what triggers each one, and how fast do they fund?
• How much can be paid out at closing for materials?
• Is a contingency reserve required on my project?
• How do you handle change orders?
• How long from application to closing on a purchase?

Common questions