Refinancing to pay for home improvement
Whether you're remodeling your kitchen, modernizing bathroom, or completing other home improvement projects, renovations don't come cheap.
To cover the cost, some homeowners will withdraw a good chunk of their savings or use a personal loan. But maybe there is a better way to get the money you need.
When you borrow from your home equity through a cash-out refinance or home renovation refinance, you can pay for home improvements at an extremely low rate. And at the same time it increases the value of your home. Hence, this strategy is often a win-win situation.
Check your refinancing eligibility for the renovation (September 27, 2021)
In this article (continue to …)
The central theses
Refinancing is one of the best ways to finance home improvement. If you have enough equity, you can borrow thousands at a low interest rate – and add value to your property at the same time. That means there is a great return on investment too.
Five loan options that will allow you to refinance home improvements include:
Cash-out RefinancingFHA 203k Loans Fannie Mae HomeStyle LoansFreddie Mac CHOICER Renovation LoansVA Renovation Loans
Other good options to pay for renovations are a home equity loan or a home equity line of credit (HELOC). With these "second mortgages" you can borrow cash without refinancing. So they can be helpful if you want to keep your current mortgage.
Mortgage rates are still at historic lows. So, any of these home renovation refinancing options can result in extremely affordable funding for your home improvements.
Check your refinancing eligibility for the renovation (September 27, 2021)
Cash-out refinancing for home improvement
Cash-out refinancing replaces your existing mortgage with a new loan with a higher amount. You will then receive a lump sum payment for the difference upon completion.
You can use the money for any purpose – including home improvement. And since you have to manage the money, the lender doesn't have to review or approve your renovation plans.
The current value of your home will determine the amount of money you can get with a withdrawal refinance.
For a primary residence, a cash-out refinancing typically has a maximum loan-to-value ratio of 80 percent. That means you have to leave at least 20 percent of your home equity untouched, which limits the amount of cash you can withdraw.
With a cash-out refinancing, you will receive a lump sum payment upon completion. You can use the funds however you want.
This type of refinancing is available with a variety of mortgages, including conventional, FHA, and VA loans. Unfortunately, USDA loans don't allow withdrawal.
A cash out refinance is an inexpensive way to pay for home improvement projects because it allows you to borrow at a lower interest rate compared to using a personal loan or credit card.
But this type of refinancing is not without its drawbacks.
First of all, paying off your equity increases your mortgage balance. And since the refinance is a new mortgage, you must meet the credit and income requirements before you can be approved.
Refinancing also includes the renewed payment of closing costs (initiation fees, appraisals, discount points, etc.). However, since home improvements can add significantly to the value of your home, the upfront costs are often worth it.
Check your eligibility to withdraw the refinancing (September 27, 2021)
Home improvement refinancing
Cash out refinance is a great option for many homeowners, but not the only one. You can also use a home renovation loan to finance home renovations.
Refinancing has similar advantages. You can get cash for a home remodel or upgrade, and the interest rate on home renovation refinancing is often much lower than a credit card or personal loan.
However, there are some key differences between a home renovation refinance and a cash out refinance.
For example, in a home renovation refinance, the estimated value of your home after the renovation determines the amount borrowed. Hence, this type of loan can be an option if you do not already have enough equity to borrow money.
In addition, you will not receive a flat-rate fee for renovation refinancing. Your lender puts funds in a separate escrow account and then pays the contractor at various stages of the remodeling.
Your lender will also request a detailed renovation plan to assess the home's value after improvements.
Types of Refinance Loans for Renovations
Refinancing requirements for renovations vary depending on the program. The right loan will depend on a number of factors such as the extent of the improvements, your credit standing, and the amount you need to borrow.
Here's a look at four different types of home renovation refinancing:
1. FHA 203 (k) refinancing
The Federal Housing Administration FHA 203 (k) loan wraps the cost of a home renovation into the mortgage loan. This is an option when buying a fixer upper property and when refinancing an ongoing mortgage.
Limited FHA 203 (k)
You can get up to $ 35,000 for home repairs or minor improvements like new countertops, floors, and other projects to improve the aesthetics of your home.
You can hire a contractor with approval or carry out some projects yourself.
Standard FHA 203 (k)
The standard FHA 203 (k) loan does not limit the amount you can borrow for home improvement loans as long as your total loan amount is still within the FHA's local credit limits.
The main difference between a Standard 203 (k) and a Limited 203 (k) is that the former provides funding for larger home improvement projects such as a room extension. Remember, however, that you cannot use this refinancing on luxury projects like installing a swimming pool.
You can refinance up to 96.5% of your home loan, but you must have a credit score of at least 580 to qualify.
The main disadvantages of a standard FHA 203 (k) loan are that the process is more complex than a Limited 203 (k) and fewer lenders offer it.
Check Your FHA 203k Rehab Loan Eligibility (Sep 27, 2021)
2. Fannie Mae HomeStyle Renovation Refinance
Fannie Mae's renovation refinancing limits renovation costs to 75% of the estimated value of the home after the renovation is complete.
You can use funds for improvements “that are permanently attached to the property and add value”, such as: Tennis court or outdoor kitchen.
You can also use this loan for minor improvements, such as new floors.
With HomeStyle refinancing, your lender must approve the contractor and you must submit renovation plans in advance.
You then have 12 months to complete the work. Eligible properties include primary residences, one-unit second homes, and one-unit investment homes. The minimum credit score to qualify is 620.
Check Your Fannie Mae HomeStyle Eligibility (September 27, 2021)
3. Freddie Mac CHOICER Renovation Loan
The Freddie Mac CHOICERenovation loan is similar to HomeStyle renovation refinancing in that you can refinance up to 75% of the home's appraised appraised value after all renovations are complete. It is also for improvements that are permanently attached to the property and add value, including luxury items.
Eligible properties include primary residences, one-unit second homes, and one-unit investment properties.
Freddie Mac also has the CHOICEReno eXPress mortgage for smaller home improvement projects such as doors, windows, interior / exterior painting, and other minor repairs.
After the project is complete, you can finance renovations up to 10% of the estimated home value. To qualify, you need a minimum of 620 credit points.
Check Your Eligibility for the CHOICER Renovation Loan (September 27, 2021)
4. Refinance VA renovation loan
If you are eligible for a VA mortgage, another option is a VA home renovation refinance. To qualify, you must have lived in the home for at least 12 months and your mortgage lending value must not exceed 90 percent.
However, this loan has limitations.
You can only use a VA home renovation loan for repairs or upgrades that improve the quality of life in the home – e.g.
You can't use it for luxury upgrades or major structural changes.
Additionally, you must have a VA approved contractor and complete the project within 120 days.
The VA does not set a minimum score for its program, but lenders typically require a minimum score between 620 and 640 for a home renovation loan.
The Department of Veterans Affairs also offers VA cash-out refinancing, which could be an easier way for VA-eligible homeowners to pay for home improvement. With a payoff loan, there are no limits to how you can use the funds – so you can do whatever type of renovation you want.
Check Eligibility for VA Loans (September 27, 2021)
Other DIY payment options
Refinancing only makes sense if you want to replace your existing mortgage. If not, other options are a home equity loan or a home equity line of credit (HELOC).
A home equity loan comes in cash as a lump sum, while a HELOC is a revolving line of credit that you can draw on as needed.
Both generally have lower rates compared to a credit card. Also, the interest can be tax deductible if you use funds to improve your property significantly.
The downside is that you are using your house as security. So if you default on your payment, you risk losing your property.
Credit cards and personal loans are other home renovation project options when you don't want to tap into your home equity (or when you don't have enough equity).
Just keep in mind that credit cards tend to have high rates and using much of your available credit on a home project can degrade your credit score.
Personal loan rates can also be lower than a credit card. However, getting a personal loan often requires higher credit ratings and collateral.
Collateral is a personal asset such as a vehicle title. If you fail to repay a personal loan, the lender can take your collateral.
The bottom line
If you have enough equity, cash-out refinancing can be a great way to pay for home improvement.
And even if you haven't built up a lot of equity yet, you may still be able to take out a home renovation loan. These types of mortgages base your loan amount on the future value of your home after the renovations are completed. This allows you to borrow additional money for improvements without using up your equity.
No matter which loan you choose, check out a few different lenders and compare the interest rates. This way you can save thousands on your new loan and reduce the overall cost of your home improvement.
Confirm your new plan (September 27, 2021)