Any homeowner has a long wish list of projects to improve their home: renovate the kitchen, add a deck, change outdated light fixtures, build an addition, update the heating system and more.
What stands between most home improvement dreams and reality is money, of course. Home improvements can be expensive, which isn't news to most homeowners. But the good news is there are ways to come up with the money needed for home renovations.
"If you have cash, it's perfect," says Cannon Christian, president of Renovation Realty in Southern California. His company renovates homes in preparation for sale and defers payment for the renovations until the house is sold.
Life, however, is not always perfect. If you plan to stay in your home and don't have cash, how can you pay for home improvements?
"It depends on the circumstances," says Casey Fleming, author of "The Loan Guide: How to Get the Best Possible Mortgage" and a mortgage professional in the San Francisco Bay Area. "If your current mortgage is not all that favorable, refinancing your first mortgage is the way to go."
But, he adds, that comes with one caveat: You don't want to still be paying for improvements long after their shine has worn off. Financing a paint job over 30 years means a very expensive paint job, plus you'll have to repaint two or three more times before you've finished paying for the first job.
"The biggest mistake that people make is they finance their home improvements for a longer time than the improvements will last," Fleming says. "In 10 years, they've just barely begun to make progress on the principal, and they need to replace them." Then they refinance and pull out cash again to cover the next round of improvements.
If refinancing your mortgage and plucking out cash for home repairs is your best financial move, there are some steps you can take to accelerate your payments. If you're five years into a 30-year mortgage, for example, consider a 25-year or shorter term on the refinanced loan. Or accelerate your payments to pay off the balance in the 25 years remaining on your original loan. Making additional payments on principal is another option.
The other important point to consider when borrowing for home improvements is that, if you run out of cash before the renovation is finished, you may not be able to get a loan of any kind until your home is livable again.
Lenders will let you borrow up to 80 to 90 percent of your home equity, depending on your credit and the loan product. Refinancing, home equity lines of credit and home equity loans all have closing costs, though some lenders offer to fold those costs into the loan so there is no cash outlay up front.
Here are 11 options homeowners have to pay for home improvements.
Cash. This is obviously the easiest and best way to cover the costs of home improvements. You won't have future payments and you won't encumber the equity on your home. "It's always more financially sensible to wait until you can pay cash," Fleming says. For many people, that means doing one small project at a time. Take on safety improvements first, but otherwise prioritize what you feel is most important and can afford.
Refinance your mortgage. This is the best option for homeowners who would benefit from refinancing anyway, perhaps with a lower interest rate, as long as they don't spread the cost of the improvements over more years than the renovation will last. The average rate for a 30-year mortgage in the last week was 3.9 percent and the average rate for a 15-year mortgage was 3.1 percent, according to Freddie Mac's Primary Mortgage Market Survey.
Home equity line of credit. If you already have a good first mortgage, a home equity line of credit can be a good option. With these loans, you draw out money as you need it and pay it back at your own speed, as long as you make at least minimum monthly payments. "You don't have to pay interest until you use the money," Fleming says. The equity line is usually good for 10 years and is sometimes renewable. However, if you don't make payments, you could lose your home. Interest rates are adjustable, prime plus a specific amount. Bankrate.com's average for this week was 4.75 percent for a $30,000 home equity line of credit. Keep in mind that a lender or bank with whom you have a relationship might offer a better deal.
Home equity loan. With a home equity loan, you borrow a fixed amount and pay a fixed payment over a certain amount of time. A 15-year term is typical, but with some lenders you can go as short as five years and as long as 30 years. "A home equity loan is the best option only if you're allergic to adjustable rates," Fleming says. "It's still cheaper than a construction loan." Bankrate.com's average was 5.22 percent for a fixed-rate home equity loan.
Construction loan. A construction loan is used to build a house or make major renovations. It might be worth considering if, for example, you are building a major addition that will cost more than the equity you have in your home. Those loans are not always easy to find, and they come with a lot of requirements. Generally, a construction loan is a short-term loan, and you refinance into a traditional mortgage loan once the home or renovation is complete. "They're very cumbersome because they have to be managed. The money is not released until various stages of the work are done," Fleming says.
Credit cards. You might be able to cover a smaller renovation on your credit cards, or at least use them for the materials, though most cards charge a fee for cash advances. David Pekel, president and CEO of Pekel Construction & Remodeling in the Milwaukee area, says more of his customers are asking to use their credit cards to pay for materials because they want the rewards points. "It's not that the people don't have the cash," Pekel says. "They want the points."
Borrow from your 401(k). Most 401(k) programs allow you to borrow from your account and pay back the loan over five years, usually via payroll deduction. You pay interest to yourself, though that may not be as much as you would have earned if you had left the money invested. However, if you leave your job, the balance will be due immediately.
Federal Housing Administration 203k loan. These loans are typically used to buy a house that requires a lot of repairs. But they can also be used for refinancing, and the requirements are similar to those of other FHA loans. A downside is that you will have to carry mortgage insurance for the life of the loan. There is also a Streamlined 203k program available that will lend up to $35,000 for less complicated repairs.
FHA Title 1 loan. These loans of up to $25,000 for home improvements are insured by the federal government and are available from approved lenders at market interest rates. Terms can be up to 20 years, and the homeowner does not have to have equity in the home.
Reverse mortgage. If you are 62 or older, you can get a reverse mortgage based on a percentage of the equity that you have in your home. These loans are more expensive than refinancing or home equity loans, but you aren't required to pay them back until the home is sold or you move.
Contractor financing. While some contractors have relationships with finance companies and will offer to help arrange funding for your project, that's generally not a good idea. The truth is you can almost always do better securing your own financing. "Almost without exception, they're very expensive," Fleming says.
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