Can You Add Renovation Costs to a Conventional Mortgage?

A conventional mortgage represents a home loan not insured or guaranteed by a government entity. These loans are typically offered through private lenders, though many are backed by government-sponsored enterprises like Fannie Mae and Freddie Mac. It is indeed possible to include renovation costs within a conventional mortgage, as specific programs are designed to combine home financing with improvement expenses. This approach allows borrowers to address a property’s needs or customize it to their preferences.

Understanding Conventional Renovation Mortgages

A conventional renovation mortgage integrates the cost of purchasing or refinancing a home with the expenses of its improvements into a single loan. This distinct financing structure is offered through programs like the Fannie Mae HomeStyle Renovation Mortgage and the Freddie Mac CHOICERenovation Mortgage. These loans provide a unified financial solution, streamlining the process for homebuyers and current homeowners.

These specialized mortgages are unique because the loan amount is primarily determined by the property’s anticipated “as-completed” appraised value, rather than its present condition. This allows borrowers to finance improvements that increase the home’s worth, even if its current value would not support the desired loan amount. Consolidating these costs into one mortgage offers benefits such as a single monthly payment and often more favorable interest rates than those associated with personal loans or credit cards.

Key Requirements and Eligible Projects

Securing a conventional renovation mortgage involves specific borrower and property criteria, along with detailed renovation planning. Borrowers typically need a credit score of 620 or higher for both Fannie Mae HomeStyle and Freddie Mac CHOICERenovation loans, though some lenders might require a higher score. Lenders also review debt-to-income (DTI) ratios, generally preferring them to be below 45% to 50%, and assess employment history to confirm stable income. Down payment requirements for primary residences can be as low as 3% to 5% of the total loan amount.

Property eligibility extends to various types, including single-family homes, multi-unit properties up to four units, condos, and planned unit developments. These loans can be used for primary residences, second homes, and even investment properties, although down payment percentages may vary for non-primary residences. For Fannie Mae HomeStyle, the property must generally be at least one year old.

The scope of eligible renovations is broad, encompassing structural repairs, major remodels, cosmetic updates, energy-efficient improvements, and accessibility modifications. The improvements must be permanently affixed to the property and contribute to its value or livability. While these loans are flexible, they typically do not permit projects like luxury amenities such as swimming pools or outdoor kitchens for Fannie Mae HomeStyle, though Freddie Mac CHOICERenovation may allow such items. Homeowners considering do-it-yourself (DIY) work should note that HomeStyle loans limit DIY renovations to 10% of the “as-completed” value and generally prohibit them for manufactured homes.

A significant requirement involves the use of qualified, licensed, and insured contractors for most renovation work. Lenders often require detailed bids and potentially multiple bids for proposed projects to ensure cost accuracy and contractor reliability. The maximum loan amount is tied to the “as-completed” appraised value and must adhere to conventional loan limits, which are periodically set by Fannie Mae and Freddie Mac, often around $806,500 in most areas for 2024, with higher limits in high-cost regions. Renovation costs themselves are also typically capped, for instance, at 75% of the “as-completed” appraised value for Freddie Mac CHOICERenovation or a percentage of the lesser of the purchase price plus renovation costs or the “as-completed” value for Fannie Mae HomeStyle.

Navigating the Renovation Mortgage Process

The renovation mortgage process begins by identifying a lender experienced in these specific loan products. Not all mortgage providers offer Fannie Mae HomeStyle or Freddie Mac CHOICERenovation loans, making it important to find one with a specialized understanding of their unique requirements and processes.

The application phase requires borrowers to submit comprehensive renovation plans, detailed specifications, and itemized bids from their chosen contractors. A crucial element is the appraisal process, which focuses on the home’s estimated value after the renovations are completed, known as the “as-completed” value. The appraiser reviews the submitted renovation plans to project this future value, which directly influences the maximum loan amount. This forward-looking appraisal is distinct from a standard “as-is” appraisal that only considers the property’s current condition.

Following the appraisal, the loan proceeds to underwriting, where borrower qualifications and the proposed renovation project undergo review. Once approved, the loan proceeds to closing, where all mortgage documents are signed. Closing involves establishing an escrow account, into which renovation funds are deposited.

Fund disbursement, or “draws,” occurs in stages as the renovation work progresses. Lenders typically require inspections at various milestones to verify that work has been completed according to the approved plans before releasing funds from the escrow account to the contractor. A contingency reserve, often 10% to 20% of the renovation costs, is frequently included in the escrow account to cover unforeseen expenses that may arise during construction. If the property is uninhabitable during renovations, some programs allow for the financing of up to six months of principal, interest, taxes, and insurance payments.

The final steps involve project completion and a conclusive inspection by the lender or an appraiser to confirm that all work aligns with the approved plans. Upon satisfactory completion, the remaining funds are disbursed, and any surplus in the escrow account is typically applied to reduce the loan’s principal balance.