Purchasing a new home is always filled with so many variables and choices to make. One of the common decisions that needs to be made is whether to purchase a newer home or a fixer-upper. Do you buy something newer so you don't have to spend money on maintenance anytime soon? Or do you save money on the purchase price and start putting money away for renovations that you will do at a later date?
Many lenders provide a solution that gives you the option to purchase something cheaper while at the same time offering you some extra cash to dump into renovations without having to wait a few years. These solutions are called purchase-plus-improvement mortgages.
With purchase-plus-improvement mortgages, you can go ahead with buying an older home that might require some handyman efforts. On top of the mortgage amount on the purchase price of the home, an extra lump sum of money is made available for you to use to get started on renovations right away. This means those nasty coloured walls or dated cabinets or 1970's carpets can disappear before you even move in!
The process for taking on a purchase-plus-improvement mortgage is relatively simple and straightforward. Important to consider especially if you're a first-time homebuyer.
Determining Initial Mortgage Amount
Housing prices vary all over the country of course, but for the sake of simplicity, let's imagine you are purchasing an older home for $250,000. This is notably less expensive than many brand new homes on the market for $450,000, but with the lower price point comes an older home that is requiring some work.
Determining Costs of Improvements
For the purchase-plus-improvement mortgage to work, your lender will want to know what sort of improvements you are planning to do on your new home. At this point, you will need to walk through the home you are planning to purchase and make a list of what kind of improvements you are planning to go ahead with.
Once you have your list, you need to get in touch with a contractor and come up with firm price quotes on the work you need done. This could look like the following.
- New roof - $7000
- Bathroom renovation - $9,500
- New kitchen cabinets and appliances - $14,000
- New flooring on main floor - $3,500
This adds up to a total of $34,000 in additional funds you would want to borrow on top of the mortgage for the purchase price of the home. These renovations will get you to the point where your house is comfortable to live in for the first couple of years while you save up more money for further renovations down the road.
Revise The Original Mortgage
Once you've gathered the data from your contractor, you will meet with your mortgage broker again to determine the revised mortgage amount. This is a simple calculation of your initial mortgage amount ($250,000) plus the calculated home improvement costs ($34,000). Your new mortgage amount is set at $284,000.
It's important to note that the down payment requirement will be based on the total amount borrowed and not just on the initial mortgage calculation. Many lenders are willing to take a minimum of 5-10% down.
On the closing date, the $34,000 for home improvement spending is typically sent to a lawyer who will hold that amount of money until you've completed the renovations. This ensures that the extra home renovation money isn't put into your hands to be suddenly used for something else like a brand new vehicle or travel plans.
The home renovation cost is initially paid for out of pocket by you as the homeowner (perhaps with a line of credit). The money will be transferred from the lawyer to you to pay off the renovation expense at the completion of the construction inspection.
Take Possession and Start Renovating!
With your mortgage in place, your possession date arrives. You've lined up your contractor and the renovation projects begin. Lenders often give a 90-180 day window in which the work must be completed. This is a huge win for you as the homeowner. Not only do you immediately improve the value of your home, you also get to live in it right away!
Renovation Inspections and Fund Transfer
Following the completion of the home renovations, a home inspection is required to approve that you spent the money borrowed on the renovations you set out to complete. Once the home is inspected and the lender is satisfied with the paperwork, the funds from the lawyer are released and you can reimburse yourself for the money you spent.
Renovation Financing Made Easy
In a lot of ways, purchase-plus-improvement mortgages are one of the easiest ways to finance the renovation of your home. It requires some foresight into finding the home that needs some work and calculating the cost of renovations. However, it can be an easier approach than putting a down payment on your home and having to wait an additional few years to save up enough money for renovations. With a purchase-plus-improvement mortgage, your expenses are covered and you get the immediate satisfaction of a renovated home that is more comfortable to live in.
If you're wondering if a purchase-plus-improvement mortgage might be right for you, don't hesitate to reach out to a mortgage broker. With a quick assessment of your situation and which homes you might be looking at, it's likely that a solution can be found for you.