HomeHome ImprovementHow Loans For Home Improvements Work
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How Do Loans For Home Improvement Projects Work

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Home Improvement Project Loan Process

The inner workings of a home improvement loan entirely depend on the type of loan being sought. However, the majority of home improvement loans consist of money borrowed by homeowners as a lump sum of cash that is repaid in monthly installments with interest. If you use a line of credit, it will work differently. Rather than a lump sum of cash, you will have access to a specific amount of money.

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Learn More About How Do Loans For Home Improvement Projects Work

You will need to repay what you draw from the line of credit with interest. We will discuss it in more detail below.

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How do loans for home improvement projects work?

Common types of home improvement loans consist of personal home improvement loans, home equity loans, home equity lines of credit, personal lines of credit, cash-out refinances, and government loan programs. Let us take a quick look at how each of these types of home improvement loans works.
Personal home improvement loans: Personal home improvement loans work by providing a homeowner with a one-time large upfront payment that can be paid back with interest over time with monthly payments. A borrower can qualify for a personal home improvement loan based on their credit history and income. Personal loans can be for any amount of money up to $100,000 and come with repayment periods that span from 12 to 144-months, depending on the lender. Interest is charged by the lender as a payment for providing the borrower with the money upfront. The amount of interest and other fees that need to be paid by the borrower over the life of the loan are determined by the creditworthiness of the borrower. Interest rates can range from as little as 6.99% to as much as 36%, depending on credit score. The higher the borrower's credit score is the lower interest they may likely pay. The lower their credit score, the more interest and fees the borrower may be subject to pay.
Home equity loans/HELOCs: Home equity loans and home equity lines of credit, or HELOCs, are loans that are based on the value of your home. The longer you own a home the more equity you may be able to build. Equity is the difference between the current market value of a home and the current balance of the homeowner's mortgage. Ideally, when someone owns a home, the value of their home increases over time as they continue to lower the amount they owe on the home through mortgage payments. As more time goes by, more equity is created. Home equity loans and HELOCs allow homeowners to borrow against this equity by using their homes as collateral. When a homeowner has built up a minimum of 20% equity, a lender may allow them to borrow between 80% and 85% of that equity.
Home equity loans: Home equity loans provide one upfront lump sum payment to a homeowner based on the amount of equity built up in the home. Home equity loans are paid back over 5 to 30-years.
HELOCs: Home equity lines of credit are revolving lines of credit that a homeowner can borrow from for a period of up to ten years. This period is often referred to as the draw period. When a person applies for a home equity line of credit, a lender determines how much they can borrow and set a credit limit. The homeowner can borrow as little or as much as they want of their credit limit throughout the draw period. Also during the draw period, the borrower can decide to make interest-only payments, pay on the principal, or pay off the entire amount borrowed against the credit limit. Whatever is paid back during the draw period can become available to the borrower again as long as the line of credit remains open. Once the draw period ends, the lender and the homeowner can decide to either extend the draw period or they can close it. If they close it, then the home equity line of credit turns into a normal loan that can have a repayment period of up to 20-years.
Both home equity loans and HELOCs use a homeowner's home as collateral. If the borrower is unable to make the monthly payments, then the lender may seize the property to recover the amount they are owed. To qualify for either a home equity loan or a HELOC, borrowers should have a minimum credit score of 620 and a debt-to-income ratio well below 43%.
Personal lines of credit: Personal lines of credit act just like a home equity line of credit, however, the value of the line of credit may not be tied to the value of a home. A personal line of credit may or may not be secured by an asset. if it's not secured by an asset, it will be funded solely based on the creditworthiness of the borrower.
When an individual applies for a personal line of credit, the lender can review the individual's credit history and income to determine how much their credit limit may be. For example, a lender may determine that based on a borrower's credit history and income, they can qualify for a personal line of credit of $15,000. As long as the personal line of credit stays open, the borrower can access funds from that $15,000 by writing checks, using a debit card, or visiting a branch office or ATM to withdraw cash. The borrower then can simply make the minimum payments on the amount used or they can pay off their balance each month. Any amount that is paid restores the credit line for the same amount making those funds accessible for future withdrawals. Personal lines of credit are a good source of financing for long-term home improvement projects where labor and materials are paid for as the project progresses.
Cash-out refinances: A cash-out refinance works to provide cash to a homeowner by replacing an existing mortgage with a newer mortgage for a larger amount. The new larger mortgage is then used to pay off the older mortgage and the leftover money can be used by the homeowner to fund any home repairs or home improvement projects they are looking to complete. Just like a home equity loan or a HELOC, you may need to have at least 20% equity in your home and a credit score of 620 or higher to qualify for a cash-out refinance.
Government loan programs: There are several different government loan programs that are designed to help homeowners in different financial situations access the resources they need to complete home renovations, home improvement projects, and/or home repairs. The way these government renovation loans work and the criteria used to determine eligibility vary by agency. There are government-insured renovation loans available through the VA, HUD, FHA, USDA, as well as Freddie Mac and Fannie Mae.
Contractor financing: If you complete all your home renovations through a larger contractor, the contracting company may have its own financing. The company may offer to finance directly or they may partner with a number of lenders who they use to secure financing for their customers.

Can I borrow money against my house for home improvements?

Yes, there are several ways to borrow money against your home. You can use the equity in your home to qualify for a home equity loan, home equity line of credit, or a cash-out refinance. If you have at least 20% equity built up into your home, then you can inquire with a mortgage lender about possibly applying for and obtaining a home equity loan, HELOC, or cash-out refinance.
All three of these home improvement loan types use your home as collateral to secure the funds. If for any reason you are unable to make the loan payments and you are at risk of default, the mortgage lender may seize your property and sell your home in order to recover the remaining loan balance.

What is the best way to get money for home improvements?

The best and cheapest way to get money for home improvements is to save your money. When you pay cash for home improvement projects, you save yourself from needing to pay interest and other fees that make borrowing money expensive. However, sometimes you may not want to take the time to save up the money you need for your home improvement project, or maybe you have the cash but you would prefer to finance to hold onto your rainy day fund.
If you are looking to finance your home improvements and you are looking for money immediately, then a personal home improvement loan may be your best option. Personal home improvement loans not only come with fast loan approval and funding times, but they allow a borrower to be more flexible in how they spend their money. Sometimes home improvement loans like home equity loans, HELOCs, and cash-out refinances come with some oversight from the lender. This is especially true for home renovation loans that come from government loan programs. Lenders may want to see your renovation plans, have you pay for appraisals, and have additional requirements that personal home improvement loans do not have. When you take out a personal home improvement loan to pay for your home renovations and/or repairs, the lender does not have a say in how you use the funds. Once you are approved for the loan and the funds are wired to your account, you can spend the money how you would like and begin to hire contractors, designers, skilled laborers, and also purchase all the required materials.

How do you fund a renovation project?

If you are looking to fund a renovation project, there are several avenues that you may want to explore to see which option is best for your situation. Here is a list of some of the most common ways that homeowners in the United States pay for renovation projects.
Pay cash: The cheapest way to pay for home renovations is to use your savings or to save up money over time and pay for your renovations as the expenses come in.
Personal home improvement loan: Qualified borrowers can obtain up to $100,000 through a personal loan to pay for any home renovation projects or home improvements that they would like to make.
Home equity loans/home equity line of credit: Homeowners who have at least 20% equity in their homes can use that equity to qualify for a renovation loan or a revolving line of credit to finance their home improvement projects.
Cash-out refinance: Homeowners looking to refinance their current mortgage can apply for and obtain a new mortgage for a larger amount. Once the previous mortgage is paid off, any remaining funds then can be devoted to a renovation project.
Credit cards: You could always use a credit card to pay for renovation costs, however, it may be best to pay off as much of your credit card balance as you can each month to avoid paying too much in interest.
Personal lines of credit: Personal lines of credit are revolving accounts that you can withdraw from to pay for renovation expenses as they come up. Once approved, you will have a predetermined credit limit that you can borrow against and repay for as long as the credit line is open.
Government loan programs: There are several different government loan programs that are offered through various government entities like the FHA, HUD, USDA, VA, Fannie Mae, and Freddie Mac.

Do I need to tell the mortgage company about renovations?

Yes, most often when you still owe money on your home and you are planning to complete some renovations, you may need to inform your mortgage lender about the renovations. The lender may even include a review clause in your mortgage contract. The main reason for this is that the mortgage lender may want to make sure that any renovations are done professionally and to code in order to protect the integrity of the home and its value.

Can I borrow more than the purchase price?

If you are looking to purchase a home that needs renovations and you would like to include the costs of the renovations into the primary mortgage, then you may want to consider an FHA 203k rehabilitation loan. An FHA 203k rehabilitation loan allows for a borrower to either purchase a home that is in need of major home repairs or to make major home repairs to a home they currently own. The FHA bases the loan amount on the future anticipated value of the home after all the renovations are completed.

Can you add renovation costs to a conventional mortgage?

Yes, there are several loan options available to borrowers who are looking to add the cost of renovations into a conventional mortgage. A few examples include an FHA 203k rehabilitation loan, a VA renovation loan, and the Fannie Mae HomeStyle Renovation loan.

What does it cost to renovate a house?

In 2022, the average home renovation or remodeling project can cost around $46,891 or somewhere between $18,009 and $76,499. One the absolute high-end, renovating a home can cost around $156,000 unless you are renovating a luxury home that requires an even larger budget. When renovating a home, the most costly renovations are the kitchen and bathrooms. After that, bedrooms, the living room, and finishing a basement can take up the next most significant portion of any home renovation budget.
If you are looking to break it down by square foot, then you can expect to pay anywhere from $10 to $60 per square foot with some projects costing upwards of $150 per square foot. For a 2,000 square foot home, renovations could cost anywhere from $20,000 to $120,000 with more luxurious renovations costing up to $300,000.

Can you live in a house under renovation?

Yes, most often you can still live in your home when it is under renovation. General contractors may be able to work with a home's occupants to work around one another while the project progresses. There may be some slight inconveniences to overcome like not being able to cook in your kitchen for a few days or needing to create a makeshift sleep area in the living room or basement while a bedroom is being worked on, however, with a little patience and cooperation it is possible to continue living in your home during a renovation project.

How much can I borrow on a self-build mortgage?

Standard self-build mortgages typically allow you to borrow up to 75% of the total cost of the project whereas some lenders may let you borrow up to 95% of the total cost of the project if you meet the specific criteria.

Is it worth buying an old house and renovating?

Yes, it may be worth it to buy an old house and renovate it, especially if you are looking for a traditional style home to update with a modern ascetic. However, before buying any old home to renovate, you may want to have a full inspection conducted to identify any structural damage as well as maybe have a general contractor take a look at the property to give you an idea of what your renovations are going to cost you. If you have more to gain than lose, then yes, it may be worth buying an old house and renovating.

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