Renovation loans can sound like the perfect answer when you find a house with potential but know it needs work. Instead of paying for the upgrades out of pocket, you roll the renovation costs into your mortgage and pay them over time.
Programs like the FHA 203k, Fannie Mae HomeStyle, and Freddie Mac CHOICERenovation all make this possible. You can buy the property, make improvements, and finance it all in one loan.
But before you sign on the dotted line, it is important to know these loans come with their own set of challenges. If you are prepared for them, you can make the process work in your favor. If you are not, you risk frustration, delays, and potentially losing the deal.
Here’s a clear look at the most common pitfalls and the smart ways to avoid them, so you can decide whether a renovation loan is the right path for you.
Understanding the Three Main Renovation Loan Programs
While they work in similar ways, each program has its own rules:
FHA 203k – Backed by the Federal Housing Administration, this program offers low down payments and flexible credit requirements but requires FHA-approved contractors and has specific property eligibility guidelines.
Fannie Mae HomeStyle – A conventional loan option with broader property type eligibility and fewer restrictions on the type of renovations allowed, but higher credit score requirements.
Freddie Mac CHOICERenovation – Similar to HomeStyle, it allows renovations on primary residences, second homes, and investment properties, but down payment and credit requirements can be stricter.
All three allow you to finance both the purchase price and renovation costs together. The pitfalls, however, are similar across all programs.
Pitfall 1: The Appraisal Hurdle
The appraisal is the most common reason renovation loans fall apart. The appraiser has to determine the after-improved value of the home based on your contractor’s plans, specifications, and budget.
Not every dollar you spend on renovations adds that same dollar in value to the home. A significant portion of your budget goes toward labor, business overhead, and contractor profit, which do not directly translate into the appraised value.
Example:
- Purchase price: $300,000
- Renovations: $100,000
- About $40,000–$45,000 is labor and profit
- $55,000–$60,000 is actual materials that stay with the home
If the appraiser decides your improvements will only raise the value to $380,000 instead of the $400,000 you were expecting, you will have to bring extra cash to closing or reduce your project scope.
How to Avoid It
- Focus on improvements with strong resale value in Dallas and Texas, such as kitchens, bathrooms, flooring, and major systems like HVAC.
- Avoid over-customizing with finishes or features that are above neighborhood norms.
- Work with a real estate agent who knows how to find comps that reflect your finished home’s upgrades.
- Get preliminary contractor numbers early and run them by your lender before you get too far into the process.
Pitfall 2: Extra Closing Costs
Renovation loans cost more to close than standard mortgages. Lenders have to manage an additional layer of oversight, including working with contractors, reviewing bids, and coordinating inspections.
You will also pay for the required HUD consultant (for FHA 203k loans) and third-party inspectors who verify work before funds are released from escrow.
In Dallas and throughout Texas, you can expect $2,500 to $3,000 more in closing costs compared to a regular FHA or conventional loan.
How to Avoid It
- Budget for the higher costs from the start so there are no surprises later.
- Ask your lender for a detailed cost breakdown so you know exactly where the extra money is going.
- Compare these extra costs to paying for renovations out of pocket to see if the loan still makes sense.
Pitfall 3: Higher Interest Rates
Renovation loans generally have interest rates that are 0.5% to 1% higher than standard FHA or conventional loans. This is due to the increased complexity and risk for the lender.
Example
If market FHA rates are 6.5%, a renovation loan might be 7% or even 7.5%.
How to Avoid It
- Understand that this is a short-term cost, not a forever cost.
- Plan to refinance into a standard mortgage once renovations are complete and the market allows.
- Ask your lender to run break-even scenarios so you know how soon refinancing would save you money.
Pitfall 4: Timing and Delays
- A standard home loan might close in 30 days. Renovation loans often take 45 to 60 days or longer.
- The biggest holdups happen before the appraisal even starts:
- Getting your contractor FHA-approved (if needed)
- Finalizing detailed plans and bids
- Submitting everything to the lender for review
- If you are in a fast-moving Dallas market, sellers may be hesitant to wait.
How to Avoid It
- Choose a contractor who has completed renovation loans before.
- Have a strong pre-approval and work with a lender who specializes in these programs.
- Target homes that have been on the market for a while or sellers who may be more flexible with closing dates.
Pitfall 5: Spending in the Wrong Places
Not all upgrades add equal value in the eyes of an appraiser. A luxury swimming pool or high-end custom finishes may be beautiful but will not necessarily raise your home’s market value enough to justify the cost.
In Texas, the projects that tend to yield the most value are:
- Kitchen remodels with quality but neighborhood-appropriate finishes
- Bathroom upgrades with modern fixtures and tile
- New or upgraded flooring throughout
- Energy efficiency improvements like updated windows or HVAC systems
How to Avoid It
Choose renovations that match what buyers in your area expect at your home’s price point.
- Avoid over-improving for the neighborhood.
- Discuss your renovation list with your lender and agent to make sure you are investing in changes that boost value.
Pitfall 6: Not Having Enough Cash Reserves
Even with low down payment options, you may need more cash than you expect. If the appraisal comes in low, you will have to cover the difference plus your down payment.
Example
- Total project cost: $400,000
- Appraised value: $380,000
- Loan covers 95% of $380,000 = $361,000 loan
- You need $19,000 for the down payment plus $20,000 for the gap—total $39,000 out of pocket
How to Avoid It
- Keep extra savings available beyond your planned down payment.
- Be realistic about the possibility of a low appraisal and plan accordingly.
- Consider whether a smaller renovation budget or paying for certain upgrades in cash would make the process smoother.
When Paying Cash Might Be Better
If you have significant savings, it may make more sense to buy the home with a standard mortgage and then pay cash for renovations.This avoids:
- Higher interest rates
- Extra closing costs
- Program-specific contractor rules
Once the work is complete and the value has increased, you might be able to refinance to remove mortgage insurance or pull out cash at a better rate.
Final Thoughts
Renovation loans can help you turn a good property into your dream home, but they come with real hurdles. The appraisal hurdle is the biggest challenge, followed by higher costs, higher rates, and longer timelines.The key is to go in with your eyes open, choose the right projects, and have the right team in place. If you can do that, these loans can still be a great tool, especially in Dallas and Texas markets where older homes with great potential are waiting for the right buyer.
If you want to explore whether a renovation loan is right for you, our team can walk you through the numbers, review your renovation list, and help you decide the best way to move forward.
To learn more about the FHA 203k program specifically, read our Complete Guide to FHA 203k Rehab Loans.
When you think mortgage, think Mark.
Mark Pfeiffer
Regional Sales Manager
Loan Officer, NMLS # 729612
(972) 829-8639
MortgageMark@MortgageMark.com
Mark Pfeiffer is a Mortgage Loan Originator with CMG Home Loans and a veteran of the mortgage industry since 2003. Mark is responsible for ensuring all loans originated by the Mortgage Mark Team offer competitive terms and close on-time.