Home Renovation Loans: What to Know Before You Apply

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Everyone who lives in a house or apartment, whether rented or their own, has thought about the renovation at least once: for some, it is enough to re-paste the wallpaper, while for others, it is enough to update the furniture and design of the room completely. Contrary to dreams and goals, there is not always money for the work. Home renovation loans, which banks provide, will help to solve this problem.

What are Home Renovation Loans?

Home improvement loans are financial products that help homeowners finance renovations or upgrades. You borrow the money you need, use it to complete your project, and pay it back with interest over a set period.

For What Purposes Can You Take a Loan for Repairs?

A home renovation loan covers the following expenses:

  • purchase of building materials or equipment;
  • replacement of pipes, electrical wiring, and other utilities;
  • installation of doors or metal-plastic windows;
  • cosmetic repairs;
  • payment for the work of a construction team;
  • purchase of interior items;
  • furniture elements, delivery, and assembly.

You can spend the money on any purpose related to renovating a house or apartment. For example, we at CarrollCo do not require a report on purchases and work done. You decide for yourself where to spend the amount received. The main thing is to comply with the terms of the loan specified in the agreement.

Types of Home Renovation Loans

In the United States, homeowners can use several types of loans to finance a renovation. Each has its features, benefits, and limitations. Understanding these differences will help you choose the best option for your project: 

Home Equity Loans

Home equity loans are a type of secured borrowing where the loan amount depends on the value of your home minus your existing mortgage balance. Typically, homeowners can borrow up to 85% of their home's equity. For instance, if your home is worth $300,000 and your remaining mortgage is $150,000, the equity available for borrowing would be $105,000, which is 85% of $150,000.

These loans usually have fixed interest rates ranging from 3% to 8%, offering predictable monthly payments throughout the repayment period, lasting anywhere from 5 to 30 years. Home equity loans are particularly suited for large, cost-heavy projects thanks to the longer repayment terms and competitive interest rates. Additionally, if the funds are used to purchase, construct, or make significant improvements to the property securing the loan, the interest paid might qualify for tax deductions.

Personal Loans

Personal loans are simple and don't require using your property as collateral. Approval is based on your credit score and financial history. You can typically borrow between $1,000 and $50,000, with interest rates ranging from 6% to 36%. If you have a good credit score, you'll likely get lower rates, closer to 6%. However, if your credit score is poor, rates can go as high as 36%.

Repayment terms are usually fixed, lasting 2 to 5 years, so you'll have predictable monthly payments. Personal loans are a good option for quick funding, like home renovations, especially for homeowners who don't have much equity in their property. Before applying, check with different banks or lenders, as their rates and requirements can vary.

HELOC

A Home Equity Line of Credit (HELOC) allows you to access a revolving credit line based on the equity in your home, typically up to 85% of its value, similar to home equity loans. HELOCs often include a draw period, usually around 10 years, during which you can borrow funds, repay them, and borrow again as needed. The interest rates for HELOCs are variable, meaning they fluctuate with market rates, which currently range between 4% and 9%.

During the draw period, borrowers often have the flexibility to make interest-only payments, reducing initial costs. The repayment phase begins once the draw period ends, requiring payments on both the principal and interest. This structure is especially useful for projects completed in stages or when the exact costs are known in advance.

Loans FHA 203(k)

FHA 203(k) loans are backed by the federal government and designed for properties that are one to four units in need of repair or renovation. With these loans, you can borrow up to 110% of the home's estimated value after improvements. There is no set maximum amount for the standard 203(k) program, but all renovations must cost at least $5,000. Interest rates are typically slightly higher than standard FHA mortgage rates, ranging from 2.5% to 4%.

There are two types of 203(k) loans: the Limited 203(k), which caps renovation expenses at $35,000 and does not permit structural repairs, and the Standard 203(k), which is suitable for extensive renovations that may include structural alterations. These loans include extra costs like an upfront mortgage insurance premium (usually 1.75% of the loan amount) and a monthly mortgage insurance payment.

FHA 203(k) loans can be a compelling option for potential homeowners looking at fixer-uppers or current homeowners wishing to upgrade their homes but lacking immediate funds. They consolidate the purchase or refinance of a home with the cost of its renovation into a single mortgage, simplifying the financing process for major renovations.

Alternative Options

A loan can be useful at any stage of life to repair any premises. There are, of course, alternatives to loans, including:

  • Sale of property. You can sell jewelry, real estate, or a car to finance the repair, but this way, you will lose potentially necessary and important things.
  • Loan from relatives/close friends. You can borrow money from other people, but requests may be refused, and asking is often embarrassing. In such situations, you have to share personal things and tell why you need money, which not everyone is ready for. Another disadvantage is the possible deterioration of relationships due to misunderstandings and late payment.
  • Accumulation of funds. To finance the repair, you can save part of your income, for example, 10-20% of your monthly salary. 3 Considering the cost of materials and work, you can save money in a few months and sometimes even years. If repairs are needed urgently, this option is not suitable.

Loan for Repair: What to Look for?

When analyzing the offers of banks and credit companies, you need to compare the loan terms and choose the most profitable product. Here is what you should pay attention to:

  • loan term (the longer it is, the lower the monthly payment);
  • maximum available amount;
  • requirements for borrowers;
  • interest rate (real and nominal);
  • the amount of fines and penalties for late payment;
  • documents required to obtain a loan;
  • methods of debt repayment.

Tips for Choosing the Right Home Improvement Loan

When planning a home renovation, estimate the total cost, including contractor fees or material expenses, if you do it yourself. A personal loan might be sufficient for smaller projects, while larger renovations may require a home equity loan or a Home Equity Line of Credit (HELOC).

Your credit score directly impacts your loan options and interest rates. A higher credit score typically qualifies you for lower rates, while a lower score may result in higher costs. Taking steps to improve your credit before applying can make a significant difference.

Comparing interest rates and fees from multiple lenders is essential. Lower interest rates save money over time, but be mindful of additional costs like closing fees or origination charges, which can increase the overall expense of the loan.

Secured loans, such as home equity loans, offer lower interest rates because they use your home as collateral, but this comes with the risk of losing your home if you default. Unsecured loans, like personal loans, don't require collateral but tend to have higher rates and shorter repayment terms.

The type of loan you choose should align with the nature of your renovation. Quick funding for small projects may be best suited to personal loans, while larger, value-adding renovations may benefit from home equity financing or specialized loans like FHA 203(k).

Evaluate whether your renovation will significantly increase your home's value, as high-ROI projects like kitchen or bathroom upgrades are usually more cost-effective. Also, consider whether a shorter loan term with higher payments or a longer term with lower payments fits your budget better.

If your loan is secured by your home and used for major improvements, you may qualify for tax deductions on the interest paid. To avoid unexpected costs, review your loan agreement carefully to understand the terms, including any fees, penalties, or limitations.

Conclusion

To use the money you plan to borrow from the bank for apartment renovation rationally, you need to understand the budget clearly. To do this, you need to have a project of what you plan to do in the apartment or house, including the cost of furniture and household appliances.

If you have not decided what your home will look like after the renovation, it is better to wait with the loan. Otherwise, you will spend money on unnecessary things and thereby increase expenses. This can lead to problems with loan repayments, or the money will run out too quickly. Therefore, before taking out a loan, you need to determine the types of work and their costs, make a list of materials, furniture, and their price, take out a loan, and strictly follow the renovation project, without including new items in the expenses that you can do without.