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How To Pay For A Home Renovation
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Savings is usually the first thing that comes to mind when thinking about how to pay for home improvements. Klaus Vedfelt / Getty
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How To Pay For Home Improvement
There are many reasons you may want to renovate your home. In addition to the added value they might bring, home renovations may be necessary to solve security problems, provide more comfort, or add space for new living situations.
Any successful home improvement project starts with a good plan, a key part of which is how much it will cost and how you will pay for it. By mid-2022, the average renovation or remodeling project was just under $47,000, with most falling in a range of about $18,00 to $77,000, according to data compiled by digital home improvement marketplace HomeAdvisor.
J. R. “When you’re financing home improvements or tapping into cash reserves, there’s never a one-size-fits-all answer,” says George, senior vice president of Trustco Bank. “There are too many variables involved to be able to price each method accurately.”
Having the answers to these questions can help you figure out which method of paying for home improvements is best for you.
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Cash is the most expensive way to pay for home improvements. There are no interest charges, origination fees, or repayment periods. A Bank of America 2021 survey found that 62% of homeowners making significant home changes planned to use savings to pay for them.
However, as ideal as this sounds, the high cost of renovation can put this option out of reach when your home needs extensive repairs or an extensive remodel.
“While this can be an effective way to finance some smaller projects, it may not be feasible for homeowners who are undertaking large projects such as a full kitchen renovation,” says Franco Terango, executive director of specialty lending at Bank of America. “Cutting savings and other financing options can give you the money you need to achieve your goals.”
When it makes sense: When you have the money to pay in cash and when the scope of your project is smaller
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A home improvement loan has a fixed interest rate and does not use your home as collateral. Amounts can range from $3,000 to $100,000. You can get home improvement loans from banks, credit unions, online lenders, and private lenders. They are structured similarly to personal loans.
“A homeowner is approved based on creditworthiness, like with a credit card,” said Vince Passione, founder and CEO of digital lending platform LendKey. “There’s never a lien on their home, and the whole process is almost instantaneous.”
When it makes sense: If you don’t have equity in your home or don’t want to use your home to secure the loan
A home equity line of credit (or HELOC) offers a relatively low-cost borrowing option with a lot of flexibility when it comes to home renovations. It is secured by your home. If you can’t pay it back, the lending institution can foreclose. Banks, credit unions, and other lending institutions may offer HELOCs.
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“As homeowners accumulate equity more quickly, a home equity line of credit allows them to borrow against available home equity up to their credit limit,” Terango says. “Additionally, home equity lines of credit give homeowners the flexibility of a revolving line of credit that can be accessed as needed, and tend to offer more attractive interest rates than other financing options – which will save money in the long run.”
How it works: A home equity line of credit works just like a revolving line of credit like a credit card. There is a maximum amount you can borrow, and you make installment payments with interest. Generally, lenders won’t approve you for more than 85% of your home’s value, less the amount you owe on your mortgage.
Your credit limit will also depend on how much you can qualify for. If, for example, the amount you can borrow against your home is $140,000, but your income and credit score do not qualify you for that amount, the limit will be lower.
Funds from a HELOC can be paid directly to the contractor in the form of a check or debit transaction.
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Quick tip: Be sure to shop around for a HELOC. Since it is a mortgage product, you may see different interest rates and closing costs. Shopping around can help you find better rates and lower closing costs. See Insider’s picks for the best HELOC lenders »
When it makes sense: If your home has a lot of equity and you’re not sure what your renovation costs will be.
A home equity loan is like a HELOC because your home is used as collateral for the loan. However, with a home-equity loan, the entire amount is borrowed up front, and repayment begins immediately. Interest rates are low and funds can be dispersed at the homeowner’s discretion.
The amount you can borrow depends on your income, credit report and the market value of your home, but generally follows the same guidelines as a HELOC. The main difference is that a homeowner borrows a fixed amount and a fixed interest rate on a home equity loan. There may also be additional costs.
How To Pay For Home Renovations
“Borrowers need to keep in mind when borrowing against your home that it is a mortgage transaction,” George said. “This often results in some form of closing costs that can equate to thousands of dollars.”
Disadvantages: Full amount must be applied up front; use home as collateral on your loan; possible closing costs
Note: The amount of interest you pay on a home loan or HELOC is tax deductible. This is not true for other forms of borrowing, such as a home improvement loan, personal loan, or credit card.
If you have a lot of equity in your home, you can use a cash-out refinance to replace your old mortgage with a new one and receive the difference in your bank account. With a cash-out refinance, you take out a larger loan than the amount you still owe and receive a portion of the value of your home in cash.
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It’s a new mortgage, so you’ll qualify based on income and credit history. A cash-out refinance generally has a maximum loan-to-value (LTV) ratio of 80%, meaning, you can only cash out up to 80% of your home’s value.
For example, if you owe $200,000 on your home and it’s worth $350,000, you can refinance up to 80% of $350,000, which is $280,000. They pay the $200,000 mortgage and you stay. and $80,000 in cash.
Disadvantages: Renovations are financed along with your mortgage over the entire loan term; Complete mortgage application and approval process
When it makes sense: If you have a lot of equity and lending conditions are favorable for a new mortgage
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An FHA 203(k) loan combines the purchase of a property with the necessary renovations into one mortgage. Renovation funds are placed in escrow and paid as projects are completed. The cost of the renovation must be at least $5,000, but not more than the FHA mortgage limit for the area.
Applicants will need to apply through an FHA-approved lender and be able to find contractors who can bid on work that needs to be completed before the loan closes. Once the loan is closed, work can begin and contractors will be paid with renovation funds held in escrow.
Advantages: A loan for both the purchase of a property and the
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