So you're pre-approved for a mortgage, and suddenly a home matching your criteria appears on the market. Then it hits you — the house needs tons of work. Here are some things to consider when the property you're trying to buy needs some tender-loving care.
Resale homes may need work on everything, from a new roof to repairing the deck. So first, you'll want to make a list of all the repairs, making sure to identify what's mandatory and what can be done down the line. Then you'll need to talk with your real estate agent.
Let's say the house you're interested in needs $12,000 of pest and termite work, and the seller was gracious enough to provide a copy of the report. In most cases, a home's list price will reflect the work required, but in some cases, maybe it won't. Can you get a second opinion? After all, no two pest inspection contractors think alike.
As you gather your research, be sure to work with a contractor who has good credentials (like a Blue Diamond certification) and a solid online reputation.
The Federal Housing Administration offers rehabilitation loans to finance repairs beyond a home's "as is" value. This allows you to make repairs and adjustments, such as fixing the roof or termite damage, and sprucing up the interior.
Keep in mind this mortgage loan program is expensive, especially compared to a conventional loan. Two things that make this type of loan more pricey, beside construction repairs, are two forms of mortgage insurance: an upfront mortgage insurance premium based on 1.75% of the loan size and a monthly mortgage insurance premium based on .8% of the loan amount. If you plan to buy a home with this option and have less than 10% in equity, the mortgage insurance will be permanent.
How Low Is Your Debt Ratio?
Rather than financing the repairs of the home with a mortgage, another approach is to take out a personal loan. Your payments should be very low in relation to your monthly income, because the lower the debt ratio, the more flexibility you'll have in being able to cover repairs.
Let's say you take out a personal loan for $30,000 to cover the cost of a roof job. With your income, you can make radical principal prepayments to that personal loan, subsequently reducing the interest you pay and keeping your cash flow intact. But be cautious with this approach, as personal loans tend to carry high interest rates. (Remember, a good credit score can net you the best rates on any type of financing. You can see where your credit currently stands by viewing your two free scores, updated each month, on Credit.com.)
Be Smart — & Sensible
When you buy a home, it will suffer wear and tear over time. A smart approach would be to take a few hundred dollars per month and put that money aside in a house repair fund, so when things come up, you can finance the repairs with cash instead of borrowed money.
More importantly, if the house you're buying will put a strain on your finances, don't buy it. It's that simple. Consider what repairs you want to make over time and how you're going to cover them.
Generally, if you can buy a home, enjoy it, spruce it up as your finances allow and hold that property for five to seven years or longer, you're going to do well for yourself.
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