Renovation and Remodeling Loans for Investors

Purchasing a damaged and non-marketable home is often the best option for investors. Whether investors are interested in flipping a property or renting it out, purchasing a less than optimal property is a solid way to get a good deal. However, investors can run into a roadblock when it comes to getting financing. Here’s what you need to know about real estate investment financing.

Financing a Property That Needs Some Work: Renovating vs. Remodeling

Renovating and remodeling are similar actions, but they differ in terms of scale. When you renovate a property, you’re usually just repairing and renewing it. It may need some new paint, some flooring, or some trim. These are minor, non-structural issues that most homes have, and most conventional mortgage loans will tackle a property that needs some minor renovations.

Remodeling usually means that there are some structural issues that will need to be addressed. Remodeling a property could mean that you’re adding an addition or that you’re completely redoing the bathrooms and the kitchens. This can be done in conjunction with renovating but is a more involved process.

Conventional mortgage loans will take on homes that are habitable provided that the value that you’re buying the home for is in line with its currently appraised value. Whether the home needs a renovation, or it needs a remodel, you can get a conventional investor’s loan for the cost of the property.

There are two issues that you may run into when trying to procure real estate investment financing:

• Many mortgage lenders will not finance a property that is not currently habitable or is badly damaged. Mortgage lenders consider the fact that you may default on the loan and that if you do default on the loan, they will need to sell the property in order to cover their own costs. If the property isn’t sellable, it isn’t valuable to them.
• Many investors want to finance the costs of the renovation or remodel into the loan itself, rather than having to put this money upfront. This is a particularly sensible option for those who are flipping a property, as it means you can get started with flipping the property with less cash money. On the other hand, this limits your financing options, as not all loans allow for renovations and remodeling to be rolled into the cost of the loan.

These are only challenges, not roadblocks; it’s more than possible to find renovation and remodeling loans that will cover both problems. However, you should be aware that it is more difficult to find a loan for a property that needs significant remodeling than it is to find one that needs basic renovations.

Investment Property Loans for Inhabitable Properties

What is an inhabitable property? Generally, an inhabitable property would be defined as a property that someone cannot live in, but most banks have a slightly looser definition: it is a property that most people wouldn’t move into. Thus, even though you could potentially live in a home that has no flooring or doors, most people would not; it is “inhabitable” as far as the market is concerned.

Inhabitable properties may not have plumbing or electricity or may have severe damage such as storm or weather damage. In terms of investment properties, it is often not worth it to invest in a property that has:

• Significant foundation damage, such as cracked foundations, sliding foundations, and foundations that are uneven. Foundation damage can damage the entire structure of the property.
• Significant roof damage, such as a roof that has been torn off or split, or a roof that has not had necessary repairs completed over a long period of time. This may indicate water damage throughout the rest of the home, as well as structural damage due to the inconsistent load.

Standard financing isn’t going to work for this type of property, but there are alternative options.

Getting the Costs of Your Renovations Rolled Into the Mortgage

Investors have two options: they can get investment home loans for the value of the property itself or they can get a loan for the property and its renovations. There are pros and cons to each option.

Most renovation loans require that the renovations be done by certified contractors, which means that a handy investor may not be able to DIY their own maintenance and repairs. If the investor already has cash at hand, rolling the cost of renovations into a loan will also mean that you need to pay interest on those costs. Further, there will only be a certain amount allotted to renovations; if you go over that amount, you’ll need to pay it out of pocket regardless.

On the other hand, if the damage is significant, getting a loan for just the property may be impossible: no one will want to finance a property that might not get repaired. Paying out of pocket can be inconvenient and damage your own liquidity, and you may not be able to recover that cash until you sell the home.

Options for Real Estate Investment Loans for Damaged Properties

• Owner or seller financing: Some owners are willing to finance a property on their own. In this situation, the owner themselves is operating as the bank, and they are giving you a mortgage loan on their own property. As they are the bank, they are able to waive any standard conditions, and they can even make their own decisions based on your creditworthiness and financial situation. This should not be confused with “rent to own,” as this is a different type of contract entirely (and one that usually doesn’t give you full control over the property for some time). Investment property rates may be higher with this type of financing.
• Construction loans: Construction loans don’t always need to be used for new constructions, they can also be used for extensive renovations and remodels. If you have a property that needs significant work, a construction loan may be your best option. Before you are able to get a construction loan, you’ll need estimates regarding how much the construction will cost. How much the lenders will offer for the construction will depend on the land’s value, the property’s existing value, and it’s estimated appraised value once construction is done. There are both standard construction loans and owner build construction loans. Standard construction loans need their work completed by a contractor, while owner build construction loans may give you the option to do parts of the build yourself. However, owner build investment property loans are generally difficult to get.
• Hard money loans: Hard money loans are loans provided by other investors. These investors give out cash loans to investors in order to rehabilitate properties, flip them, and rent them. As these renovation and rental property loans aren’t traditional mortgages, they may be procured on a variety of terms. Hard money loans are secured through the value of the property (via lien), and consequently are easier to get than unsecured, personal loans. The downside is that these loans won’t follow established investment property mortgage rates.

Getting a Renovation Loan After Purchasing a Home

What if you’ve already purchased a rental property and have only now realized that you need a renovation loan? What if you purchased a home to flip, but are now finding that the property needs significantly more work than you thought?

If you have equity within your investment property, it may be as simple as getting either a Home Equity loan or a Home Equity Line of Credit. If you have good credit and a good history with your mortgage servicer, a Home Equity loan or line of credit is usually fairly easy to get. Like the initial mortgage, it’s secured with the value of the property. Consequently, it’s fairly low risk.

If you have no equity within the property, getting a renovation or remodeling loan may be more difficult. In general, you will need to get some form of personal and unsecured loan, which will usually be backed by your own credit standing and income. Personal, unsecured loans tend to have far higher interest rates than equity-backed loans like mortgages, but they are also far more flexible. If you are flipping a property, it may be possible to pay the loan back quite quickly.

There are also financing options for individual types of repairs; HVAC companies, for instance, offer their own types of financing.

Additional Programs for Real Estate Investment Loans

If you’re currently in the process of looking for a damaged property, you may have some options outside of trying to find a builder’s loan. There are programs that are designed to sell homes that need work — but these programs are usually attached to specific homes that are for sale.

An example of this is the Fannie Mae HomePath program. Fannie Mae homes are homes that have been foreclosed on and are currently being held by the FNMA. Fannie Mae offers specific loans for these houses, many of which have a certain percentage of their value approved for renovation costs. Though these homes are foreclosures, all of them are “habitable”; FNMA itself renovates the properties up to the standards of general habitability (move-in condition), even if the properties are usually sold “as-is.”

Getting rental property loans or investment home loans can seem complicated, but once you find the right loan product for you, it’ll be an easier process moving forward. It’s important to be aware of not only how much the home costs, but also how much any applicable renovations will cost, and how much the home will truly increase in value once the renovations have been completed. From construction loans to hard money loans, you’ll need to be able to present hard numbers in order to back up your estimates and your plan.