real estate

Loans exist to buy an unfinished house

Steve McLindenDear Real Estate Adviser,
My fiance and I are both engineers in the construction business. We're interested in getting a general contractor to build only the framework of the house and we would like to finish it out -- the flooring, cabinets, drywall, etc. Any thoughts on this and how we can get a loan for the project?
-- Marge V.

Dear Real Estate Adviser,
I'm interested in buying a house that is not complete and requires roughly $30,000 to finish. What types of home loans are available, if any? What are some of the challenges and concerns I may face?
-- Jay

Dear Marge,
You sound like a couple of enterprising people who have the practical skills and project-management expertise to carry this job off, so that's not an issue. But time and energy may be. Since you both will be busy performing your full-time "day job" duties as you also toil on your dream home, the project could drag on and on and on. So say many who've braved it. You only have so many spare weekend, evening and vacation hours to devote to it, after all. Hence, you can fully expect this thing to put at least a temporary strain on your social, personal and family lives.

Two-step loan process

Now, borrowers who take this route typically get an initial construction loan for the basics and a secondary line of credit for the finish-out. The latter is important in do-it-yourself jobbies because borrowers are only paying interest on the money they draw instead of on the whole sum, so they're not wasting money during inevitable delays.

Try small and local lenders

However, financing may be a bit harder to find if you're not the general contractor. You might have better luck with a community bank or credit union, though you should be ready to produce an itemized cost analysis. Lucky for you, you already have experience with construction-estimating software, no doubt. Alternatively, some of the contractors that build shell single-family homes offer their own financing. To get the loan, you will also probably need a builder's risk insurance policy that indemnifies you against damage to the house while it's under construction. More expense!

Saving money on materials

If you're not a contractor, I might add, don't expect big price breaks on materials. But be on the lookout for the occasional building-material auction for a chance at serious discounts on components such as molding, flooring, vanity sinks, decking, fireplace units, vinyl siding, doors, windows, etc. Alternatively, a few of your local building-supply stores may have quality windows and other materials sitting around due to miscasting or discontinued roof shingles and the like.

Don't expect big savings

If you're looking for direct and loving control over your eventual homestead by doing this, that's one thing. But don't expect overall costs to be cut drastically, as the shell builders you interview (at least three) will gladly inform you. That's because the biggest home-construction expenses are the cumulative upfront ones that include, though aren't limited to, permits, planning, excavation, grading, backfill, sod and seed, foundation and driveway construction, sheathing, plumbing, wiring/electrical, not to mention the physical shell itself.

If you two betrothed "kids" aren't married to this whole idea, consider buying a classic fixer-upper instead where you can also exercise your vast, collective creative skills and have a dry, habitable workspace from the get-go.

Otherwise, gird yourselves. Good luck!

Dear Jay,
There are thousands of incomplete homes dotting this post-recession landscape, and some of them present rare opportunities to get a lot of home for a little money. Others, on the other hand, are potential money pits fraught with headaches and hidden liabilities. Finding the right professionals to make those determinations is essential.

First, though, let's address the financing. Yes, there are funding mechanisms for this type of purchase, including the FHA 203(k) loan and Fannie Mae HomeStyle loan, plus other custom programs. However, banks are much less apt to participate if they believe they'll have trouble selling the place should you default, so they may balk if the home you're targeting is less than 80 percent finished. They'll typically want to see that the walls and roof are complete, the house's entire downstairs area is finished or near finished, and the brunt of the landscaping is done.

The funding mechanisms of these programs are a little different than traditional loans. You, in essence, borrow more than the property's purchase price, though the excess bucks don't go directly to you. Instead, they go into an escrow account and are disbursed as materials are purchased and work is completed -- much like a line of credit. Once the house is complete, these loans usually can be converted into traditional ones (30-year fixed, etc.). If you have trouble finding a large national bank to participate, try a community bank.

Another option is to find a general contractor to buy the unfinished house by taking out a construction loan on your behalf and then sell it to you on completion. This requires an airtight contract between the contractor and you. With a relatively minimal amount of work remaining on the house, this is probably not the best way to go for you.

Some of the concerns of buying an unfinished house are liabilities that may have been incurred by the previous owner. Make sure there are not any liens -- mechanics liens, liability claims, past-due property taxes, etc. -- against the property, as is often the case with unfinished properties. The only way to be sure of that is to have a title search performed by a title company.

You will also need an established contractor or a home inspector (or both) to tour the place to give estimates of all work that needs to be done. These folks can determine if the former contractors cut corners or exposed portions of the unfinished home to the elements, making it susceptible to mold, leaks or other problems. They can also tell you if the previously completed work stands up to today's codes. You may well find that there's more than your estimated $30,000 worth of work still needed!

By the way, you should pay a lot less for the home than what other buyers paid for similar new-build homes three or four years ago. As you no doubt know, the market has been substantially repriced since then. So don't be afraid to negotiate a rock-bottom price. This is distressed real estate and you have much more leverage here than does the seller.

Good luck!

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