Buying a fixer-upper house: how much money should you sink into it?

Buying a fixer-upper could save you money during the homebuying process, which may explain why potential homeowners have taken a keen interest in these types of properties — an April 2023 survey from TD Bank revealed 59% of first-time homebuyers are shopping for either fixer-uppers or modest starter homes.

But turning a run-down duplex into your dream home means more than slapping on a coat of paint and picking out new curtains. If you're not careful, you could suffer massive expenses on the backend once you start tearing out load-bearing walls and laying shingles. 

If you're in the market for a fixer-upper, here's how to figure out if that property is worth the effort — and money.

If you're like most first-time homebuyers, you'll need a mortgage loan to afford your home (even if it is a fixer-upper).

Two general rules can help you determine how large of a mortgage you can take on. The first is the annual salary rule, which recommends not mortgaging a house that is more expensive than three times your annual salary. So, if your household makes $150,000 per year, it's probably not a good idea to shop for houses that sell for more than $450,000.

The second rule is known as the monthly income rule, where your monthly mortgage payment should stay under 28% of your gross monthly income. So, if you make $5,000 a month (before taxes), your monthly mortgage payment should not be more than $1,400.

You should then be looking for new homes below that price that need no renovations, or cheaper homes that need renovations less than the difference to your budget. For example, if you have a hard budget of $400,000, you can either afford a $400,000 new house that doesn't need renovations or a $350,000 house that needs $50,000 in renovations.

Finding the right mortgage lender who can work with your budget goes a long way toward making the homebuying experience more pleasant. We ranked PNC Bank as the lender that's best at offering a variety of loan types to first-time homebuyers, though if your heart is set on a fixer-upper, keep in mind that PNC doesn't offer home renovation loans. However, Citi's HomeRun program lets you put as little as 3% down without charging you the private mortgage insurance fee you normally would have to pay for so small a downpayment. This means you have extra money in your pocket that you could put into renovating your fixer-upper.

As anyone who's done any sort of renovation project can tell you, actual costs have a way of outpacing your estimates. That's why when you're shopping for a fixer-upper, it's important to stay clear of as many expensive repairs as possible so you can leave room in your budget for the surprises.

At a bare minimum, a good fixer-upper needs to have strong "guts," says Manny Angelo Varas, who has been a general contractor and CEO of the Miami-based homebuilding firm MV Group since 2006.

There are a lot of red flags which, for first-time fixers, can be expensive and deplete your return on investment. Varas says you should think twice before investing in a property with any of the following problems:

• A dilapidated foundation, which can cost about $25,000 in a 2,000 square foot wooden frame house ($15,000 to rebuild the truss, $10,000 to destroy and repour the slab) and stall the rest of your improvements.
• An outdated electrical system, which can cost about $20,000 in a 2,000 square foot home (or about $10 per square foot).
• A broken plumbing system, which can cost about $16,000 for a total replacement in a 2,000 square foot home (or about $8 per square foot) and can cause you to need water damage repair as well.
• A leaky or dry rotted roof, which can cost about $15,000 in a 2,000 square foot one-story home and cause water damage inside the home. Varas suggests that when estimating the cost of a roof repair, to multiply the square footage of the first floor of your home by 1.5 to account for the pitch of the roof, which will estimate the square footage of your roof. Then, multiply that square footage estimate by $5.
• A broken or missing HVAC system, which can cost about $10,000 to install in a 2,000 square foot home (or about $2,000 per every 400 square feet).

"Those kinds of repairs can really lead into a more costly and time-consuming situation where you don't see the yield on that return on the sale as opposed to redoing the kitchen, redoing the bath and just painting the house and doing aesthetic items," says Varas. "Generally, owners and buyers are willing to pay a premium for the aesthetic items as opposed to those 'gut' items."

To get the most accurate estimate of how much the specific fixer-upper you're considering will cost to repair, you'll likely need to hire a home inspector and a contractor to tell you what needs to be done. You can also hire a contractor to oversee the entire project if you don't want to do it yourself, but that will typically add a fee of 10% to 15% of the total renovation cost. For example, if your home undergoes a $25,000 renovation, you'll likely have to pay at least $2,500 more to your contractor. 

Even if you don't end up hiring a contractor to supervise the work, it's a good idea to consult with one or a similar professional to make sure your renovation plans follow the local zoning laws and other codes.

Think about how long you'll call this house your home

Vanessa N. Martinez, a Chicago-based financial advisor and CEO of Em-Powered Network, which helps female business owners achieve success and financial wellness, purchased a fixer-upper in 2011. She said that how long you plan to stay in the house should help determine the extent of your renovations. A lot of buyers invest heavily into a fixer-upper thinking that it's going to be their forever home, but she warned that, in today's world, people rarely stay in the same home for several decades.

And even if you are fixing up a home with "good bones," over-improving that house can reduce your resale prospects down the road. The National Association of Home Builders recommends not renovating a fixer-upper above 10 to 15% of the median sales price in your area. That's because realtors have trouble selling a $500,000 home in a neighborhood with a $150,000 median sales price.  

That said, some renovations can prove beneficial for your bottom line when it comes time to sell.

"Bathrooms and kitchens are the two most viewable items when someone comes into the home," she says. "So if you're just [renovating] for beauty, those are the two things that will [help] you sell the home."

If renovations are a significant part of your home-buying journey, you don't have to cover the entire cost upfront. Construction loans are high-interest, short-term loans are typically used for custom home builds, but can also help finance major renovations to existing homes as well. Once your renovations are complete, these loans can be consolidated with or converted into a mortgage.

Certain credit cards are designed for home improvement costs by offering considerable rewards for renovation purchases, especially if you're buying the supplies yourself. For example, if you shop at Lowe's Home Improvement store, you can save yourself 5% on eligible purchases in-store and online with the Lowe's Advantage Credit Card. Be aware, though, that it can't be combined with other promotions and discounts, nor can it be used to pay for service charges like delivery and installation fees. This card doesn't charge an annual fee, but it has a high 26.99% APR, so be sure to pay your balance on time each month to avoid racking up high interest. 

If you're undertaking a large renovation, it might be smart to opt for a card with an introductory 0% APR offer, which gives you more time to pay off your projects. The Chase Freedom Unlimited® card offers one of the longest interest-free intro periods on the market, giving cardholders 0% intro APR for the first 15 months from account opening on purchases, followed by a 18.24% - 27.74% variable APR (see rates and fees). Like the Lowe's Advantage Credit Card, it doesn't charge an annual fee.

Personal loans can also finance home improvements since they can be used for a variety of expenses and typically charge lower interest rates compared to credit cards. One of CNBC Select's favorite personal loans for home improvement is a LightStream Personal Loan for its low interest rates and lengthy repayment terms. Having a longer-term loan usually means lower monthly payments, but it's important to remember that you'll accrue more interest charges over the long run.

LightStream also lets eligible borrowers apply for up to $100,000 in funding, which may be appealing to those whose renovations are on the pricier side.

Regardless of how you finance your home improvement, you'll need an emergency fund on hand. No renovation goes off without a snag, and you may need cash on hand to quickly fix issues that come up. CNBC Select recommends keeping enough liquid, flexible savings to handle three to six months of expenses. 

Fixing up an older home can be fun if you don't bite off more than you can chew. Consult a professional and make sure that you're not tying yourself to a sinking ship.

With the right fixer-upper and a smart financial approach, you could be sipping coffee in a new breakfast nook, stress-free, in just a few months.

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