Other types of home improvement loans
If a personal loan does not sound like the best home renovation loan for your financial position, you may be able to find other types of home improvement financing. The terms of each of these three loans are determined by home equity — the market value of the home less the amount still outstanding on the mortgage.
1. Home equity loan (also known as a second mortgage)
This is a secured loan, and the asset you’re putting up as security is your home. You can apply for a loan for the precise cost of your home improvement project, up to a certain proportion of the amount of equity you’ve placed into the house. (Different lenders’ terms and conditions will vary, and some states limit the amount of equity you can borrow.)
In Texas, for example, you may be allowed to borrow up to 80% of your property’s value, combining your principal mortgage and home equity loan. So, if your house is worth $250,000, the total amount borrowed, including your primary mortgage and the home equity loan, cannot exceed $200,000.
If you are approved, you will receive the loan amount as a lump sum and will then begin repaying it with interest (typically a fixed APR). Because you put up collateral, your interest rate will be lower than if you took out an unsecured personal loan; nevertheless, if you fail to repay the loan, the lender may try to repossess your property.
2. Home equity line of credit (HELOC)
This is also a secured loan, with your home as security. The primary distinction is that this loan functions similarly to a credit card in that there is a defined limit, you can access the line of credit as needed, and you will only begin paying it back when you use it. Another distinction is that the interest rate on HELOCs is variable, so the amount you pay back might fluctuate depending on market conditions. Again, if you are unable to make these payments and default on loan, the lender may repossess your home.
3. Cash-out refinancing
This is when you take a part of the equity in your house and use it to pay for your home improvement project. In other words, you’re taking out a new mortgage that is greater than your current one and then cashing out the difference.
Pay particular attention to the timing of this choice – if possible, try to do it while interest rates are lower than your current mortgage rate, as a cash-out refinance needs the entire current mortgage to be refinanced, so the overall financial impact could be large if rates are higher. If this is the case, you should probably look into other possibilities.
Depending on the lender, each of these alternatives may come with fees and closing costs that you must factor into your decision. Calculate which sort of home improvement financing will provide you with the finances you require to finish your project without jeopardizing your other financial goals.
