You love your neighborhood and everything about where you live but you’re not in love with everything about your home. So you’ve been thinking about remodeling and trying to figure out how to pay for it. Here are 4 ways to help you pay for your renovation:

1.   Tap Into Your Home’s Equity

A home equity loan with a second mortgage allows you to take a loan that’s based on your home’s equity plus other factors such as your income.

Remember, the equity in your home is basically the difference in the home’s current market value and the balance left on your mortgage.

Pro: Once approved, you get an upfront lump sum and must repay a certain amount each month subject to a fixed interest rate. It will be a fixed monthly payment, just like a first mortgage. The length of the loan is shorter than first mortgages, usually five to fifteen years.

This second mortgage can be a great way to tap into your equity and use it to improve your home’s value.  It’s a viable option for those of you who have a low-interest rate on your first mortgage and don’t want to do a cash-out refinance on that first mortgage (see #4 below).

The interest is tax-deductible, but check with your tax advisor, of course.

If your current interest rate is low on your first mortgage, then you can keep that mortgage if rates have increased.  This new second mortgage would be a completely separate mortgage from your current one.

Con: Typically, the second loan’s interest rate is slightly higher than the market interest rates available.  You’ve also now added an additional monthly mortgage payment.

If you can’t pay back the loan, you risk losing your home. Also, you must pay back the loan in full when you sell or you’ll need to get a new loan to pay back this loan.

2. Home Equity Line of Credit (HELOC)

With a “line of credit,” you are approved for a certain credit limit based on your home’s equity, just like the second mortgage option explained above.

The difference is this loan functions almost like a credit card — you can withdraw money when you need it over the lifetime of the loan, such as 10 years.  You can take out money and pay back the money.

Your payments change based on how much of a loan you’ve taken out as well as what the interest rate is that month.

Pro: You only pay interest on the amount you withdraw and not on the total amount approved. Interest rates are usually lower than credit cards, and payments are tax-deductible.  

This is a great option for folks who are going to be able to pay off the line of credit with an upcoming bonus or sale of another home.

Just like the second mortgage, you can leave your current mortgage alone at a low-interest rate if you have one. No need to mess with a good thing, this HELOC would be an additional loan and seen as short term because of the variable rates.

This is a great option if you can pay off the amount you borrow pretty quickly either through selling another property, an upcoming increase in income, or an upcoming bonus.  

Con: Credit lines have variable interest rates rather than fixed rates so your repayments can change depending on the interest rate at the time you withdraw money.

You should carefully review all requirements, fees, penalties and how often the interest rate is adjusted since HELOCs can vary depending on the lender.

3. Renovation Financing Loan

If you don’t have much equity in your home, you can consider a renovation loan. The lender bases the loan on what your home will be worth once the renovation is complete.

For this loan, you refinance your current home and add on the amount needed for the renovation to the same loan. So, it’s one large loan, not a second mortgage.

This loan requires that you work with a contractor and architect and not do any DIY work. Rather than getting a lump sum directly to you, the lender is the one who pays the contractor as the work is done.

Pro: You don’t need equity in your home now because the loan is based on the value of the home once the renovation is complete.  

Monthly payments on these loans are typically lower than credit cards or personal loans. And the interest is tax-deductible.

Con: Your mortgage balance will increase since you are refinancing with a larger amount. The lender has more say over the timeline and process of the renovation. This money is only used for a renovation with a contractor, who the bank pays directly.

4. Cash-Out Refinancing

This financing is similar to a renovation financing, but lenders base the loan on what the home is worth now, not when the renovation is completed. So, you’ll need equity in your home.

For this loan, your original mortgage loan is paid off and the amount needed for the renovation is rolled over into the new mortgage total.

This can be a good option if interest rates have gone down recently. You’ll be able to take advantage of lowering your interest rate while at the same time tapping into the equity of your home for the renovation. It’s like a “two-for-one special” of the loan world.

Just make sure interest rates are lower than your original loan.  If not, it may make more financial sense to do one of the other options.

Pro: The amount needed for the renovation is given directly to you in one cash payment rather than having the lender pay the contractor. You have more flexibility with this financing.

Con: Keep an eye out for interest rates so you don’t get a higher one than you have now.

Choose Carefully for Your Situation

Remember to choose a financing option that works well for you in both the short and long-term, weigh the pros and cons of all viable options for your situation. 

Be sure to talk to your financial and tax advisors to see if your project will have an impact as everyone’s financial situation is different.

Reach Out

Feel free to reach out to me if you have any questions.  I’m here to help you with any real estate related questions, even if you aren’t buying or selling anytime soon.  I can help you determine what renovations would be good investments and which you might not get your money back on if you plan to resell over the next few years.  

I’m also happy to review any of the loan options you’ve been provided to help you compare the options and make sure you are getting the most band for your renovation buck! 

Last, but not least, I have great lender resources that can help you with the financing options I’ve mentioned above.

Hope to hear from you soon!