Home Equity Loans

Home Improvement Financing: How to Finance Home Renovation (Updated 2021)

Article Summary

Home improvement is a great way to add value to your home and make it more enjoyable for you and your family. However, the cost is generally too high for most people to pay with cash, so they commonly use financing options like home equity lines of credit, personal loans, or credit cards. Some also use government programs such as 203k loans. Before you start your first big project, consider some of these common options to figure out what is best for you and your current financial situation.

One of the joys of owning your home is that you have the freedom to change it. Maybe you want to knock down a wall in your kitchen or add windows so you can admire your backyard over breakfast.

If you’re feeling really adventurous, you might add a second story and create the game room you’ve always dreamed of.

Whatever your dream is, you may need to finance a home addition with a home improvement loan to make it happen. Home improvement loans are also known as home remodel loans.

According to Home Advisor, the average cost of a home addition is $41,647. That’s a large chunk of change. How can you finance this expense? There are several examples of home improvement loans (home improvement financing) options available.

How to plan out home improvements and renovations

Before you start knocking out appliances or tearing down walls, there are a few important things to take care of. You’ll want to figure out how much you’re willing to spend, know your credit score, and considering options that don’t involve financing first, as these have the least impact long-term.

Key Takeaways

  • Start by figuring out what project you would like to complete and establishing a budget.
  • Once you have an approximate cost of the project, figure out how much, if any, you will need to finance.
  • Consider some of the following financing options: Personal loans, credit cards, home equity loans or lines of credit, 203k loans, title 1 loans, or loans from your contractor.
  • It is also important to consider the return on your investment. Some projects, like landscaping, are more valuable than others.

Establish a budget

Once you have your wish list of a home remodel project ready, get quotes from several different contractors so that you can arrive at a budget. If the totals are far above what you originally planned, prioritize the renovations that improve the value of your investment. We have a great section below on the best projects to help increase the value of your home and which ones offer the best return on your investment!

Regardless of your final budget, it’s always a good idea to add a cushion of at least 10% to account for surprises. If you plan on doing the work yourself, bump that up to 20% to account for surprises, permit fees, equipment rental, etc.

Know your credit score

You should already know your credit score when you shop for loans to look at the right lenders. If you don’t know your score, you can get it for free here.

Take your time

If you want to finance a home remodel, give yourself plenty of time to consider your options. Prioritize your ideas, locate the best contractors, and learn more about financing home improvement projects so that you can avoid costly mistakes.

SuperMoney makes it easy to check the rates and terms of lenders. It also gives you free access to expert reviews and consumer comments online.

Consider paying with cash

If you can pay for your home remodel with money, this should be your first choice. Paying with cash can help you stay in control of your budget and allow you to avoid loans.

But home improvements are expensive, and this option isn’t a realistic one for most people.

If you can’t pay with cash, you can take a look at a financing solution like the ones below.

How to finance a home addition

There are multiple ways to finance a home addition. Here is a review of the most popular options.

1. Financing a home addition with a personal loan

Customers with a healthy credit score should consider financing an addition with unsecured personal loans for home improvement. These are a good option for small to mid-sized remodeling projects, anywhere from $1,000 to $50,000, and can be a good alternative if mortgage rates are high.

The application process is usually easy, and you won’t have to put collateral or equity on the line. An online lender business like Lightstream or SoFi could make this route more accessible to you. Such businesses are known for good customer service departments and can help get you the home loan you are looking for.

However, since your credit score will determine the attractiveness of your terms, this may not be the best option for those with middling or poor credit.

If you’d like to find out what you qualify for, you can do so with SuperMoney’s loan prequalification tool. Just answer a few questions and you’ll receive personalized offers from a network of the best lenders without any risk to your credit score.

When you research personal loans for home improvement, ask lenders the following questions so that you can get the best rates:

  • What is the minimum credit score you require for credit approval?
  • Is there a loan minimum and maximum?
  • What is your loan annual percentage rate (APR)?
  • What are the payment terms?
  • Are there loan origination fees?
  • Are there any prepayment penalties?

Different personal loans come with different rates, fees, and requirements depending on the lender, so check out what the best personal loans are to ensure that you choose the best option for you.

PERSONAL LOAN PROS AND CONS

Compare the pros and cons of personal loans to make the best decision.

Pros
  • Quick access to funds
  • A competitive environment helps lower APR, fees, and costs
  • Convenient online applications
  • High loan amounts available
Cons
  • Interest rates are usually higher than secured loans
  • Some lenders charge origination fees
  • Borrowers must have fairly good credit to get approved by most lenders

2. Financing a home addition by tapping into your equity

Equity is the portion of your home that you have already paid off. Chances are, the longer you have owned your home, the more equity you have. If you want to tap into the equity you have in your home, you have three options.

home equity loans and lines of credit

For starters, you can take out a home equity loan or home equity line of credit (HELOC).

A HELOC is a fantastic choice if you have extensive remodeling plans that total more than $50,000, an amount that credit cards or a personal loan generally won’t cover.

A home equity loan is a loan secured by your home equity. With this option, you’ll receive the money you need as a lump sum, and it will generally come with a fixed interest rate. Because the loan is secured by your home equity, you can get lower interest rates.

But if you fail to make your payments, your home is on the line.

Additionally, home equity loans often come with additional expenses, such as closing costs and maintenance fees. Those closing costs can sometimes total several thousand dollars, depending on the overall size of the loan.

A HELOC is a line of credit secured by your home equity. With a HELOC, you’ll receive access to a line of credit secured by your home equity. HELOC lenders generally charge variable interest rates, but you can tap into the credit (cash out and pay it back) repeatedly as needed.

For both home equity loans and home equity lines of credit, borrowers can usually borrow up to 80–90% of the value of their home. Your debt-to-income ratio will also play a role in the amount you can borrow.

Sandra Hamberg is a homeowner who recently finished a few home additions, adding a game room and remodeling her kitchen with new appliances and cabinets.

She says, “We chose a home equity loan for our financing due to the low-interest rate and the hope to be able to write off the interest on our taxes.”

When you’re borrowing against your home’s equity, lenders will have guidelines in place for how much they’re willing to lend. Furthermore, lenders will vary in how much they will charge customers to borrow the money and how long customers have to repay it.

Therefore, as a conscious borrower, you’ll want to shop around to review and compare what different lenders will offer you and to find the best fit for your situation including the interest rate and repayment terms across different lines of credit and different lenders.

HELOC costs

The costs associated with a HELOC include interest and, sometimes, ongoing annual payments (usually around $100).

One thing to consider is that there are no closing costs or application fees in most cases, which give HELOCs an advantage over home equity loans.

The interest may also be tax-deductible (check with your tax specialist). So, this route can end up being extremely cost-effective.

HELOC eligibility

Getting approved is much easier than the other two options because the value of your home secures the credit line (meaning less stringent credit requirements are needed). Of course, that’s assuming you have equity in your home.

The downside is, if you default, your home could go into foreclosure. You want to make sure you will be able to afford the payments.

Compare home equity line of credit lenders

Of all the reasons you could take out a HELOC, improving your home is one of the best, if not number one. The improvements you make are likely to increase your home’s value, so the money you pay for improvements isn’t gone with the wind.

Click here to see a list of HELOC lenders.

WEIGH THE PROS AND CONS

Compare the pros and cons of home equity lines of credit to make the best decision.

Pros
  • Usually no closing costs
  • Low fees
  • Low interest rates
  • Relatively high loan amounts
  • Tax-deductible interest
  • Easier to get approved if you have equity
Cons
  • Puts your house at risk
  • Longer approval process
  • Must have equity in your home

Cash-out refinancing

Another option is a cash-out refinance. With this route, you’ll take out a new, larger loan, through which you’ll pay off both your current mortgage and your new addition.

Ideally, seek out a new loan with a better interest rate than your original mortgage loan.

What are the advantages of the cash-out refinance?

It lets you manage all your payments in a single mortgage loan, and it can potentially offer lower interest than home equity loans.

However, this option comes with risks. The loan will be secured by your house, so if you fail to make your payments, you could lose your home. You will also have to pay processing fees to take out the loan.

Shared equity agreements

Lastly, a new type of equity financing has emerged, giving you another option for your home improvement loan. It is similar to home loans but with some nuances that set it apart.

Equity financing companies like Noah offer home equity financing without any interest or monthly payments. All they ask is an up-front fee and a percentage of the difference in the value of your home after an agreed-upon span of time.

Let’s look at an example. Let’s say your home was worth $500,000 before the addition, and you agreed to pay 25% of the home’s appreciation or depreciation after 10 years. After 10 years, if your home was worth $600,000, you would owe $75,000 — the original sum of $50,000 plus 25% of the $100,000 increase.

The advantages of this option are obvious. You’ll get the money you need to remodel your home, without having to worry about appreciating debt or keeping up with monthly payments.

However, you will have to pay an upfront fee. And, depending on how much the value of your home changes, you could end up paying a good deal more than you would have with a standard home improvement loan.

Financing a home addition with credit cards

Credit cards are another type of unsecured financing you can consider. As with personal loans, your credit rating will determine whether or not you are approved.

WEIGH THE PROS AND CONS

Compare the pros and cons of using credit cards to make the best decision.

Pros
  • No interest for an introductory period
  • No fees to open an account
  • Credit cards with no annual fees are usually available
  • Easy application process
  • Offered by many banks and credit unions
Cons
  • Interest charges increase when the promotion ends
  • The credit line may not be high enough to cover your project
  • Need decent credit to get approved

Generally, credit cards feature higher interest rates than personal loans, making them a less desirable option. However, some credit cards offer interest-free introductory periods — usually 18 to 21 months.

If you felt confident that you could pay off your balance before the period was up, you could get the money you needed without paying a cent of interest.

What’s the catch? After the promotional, 0% period ends, your interest rate will jump up to the normal rate.

This can result in expensive interest charges if you are carrying a large balance. Because of this, it’s important to figure out if you can pay off the balance during the promotional period.

If you can’t, you might also plan to transfer the balance to another promotional card when this introductory offer ends, or refinance the debt with a personal loan.

Eligibility

Credit cards are unsecured lines of credit, which means credit unions or companies will be looking at your credit history and credit profile.

To qualify, you will need a relatively good credit score with a strong history of making payments on time to meet the credit score requirements.

In addition to affecting the interest rate, your creditworthiness will also play a role in determining your maximum credit limit and how large a loan you are eligible to receive.

You’ll want to ensure you can get approved for an amount that will cover your home improvement project. Casey Fleming, Author of The Loan Guide: How to Get the Best Possible Mortgage, advises to “make sure you have enough funds to complete the project, as running out of money can lead to huge trouble.”

Combining methods

Another strategy is to combine multiple financing methods.

For example, you could use your interest-free credit card through the end of the introductory period, and then use a personal loan to pay off your remaining balance. You might also find a way to involve a home equity loan or line of credit.

You’ll avoid the credit card’s increased interest rates, and will have a much smaller loan balance to pay interest on.

However, this option depends on your ability to qualify for a card with a high enough credit limit to finance your project. And if you max out your credit card, it will hurt your credit utilization ratio. Until you pay off 70% of the amount borrowed, this will also hurt your credit score.

Generally, combining methods like this should be used sparingly and if it is the only financing option available.

Financing a home addition with government programs

When the government insures loans, it reduces the risk for lenders. This makes it more likely that they will lend to you. If you have a bad credit score and are struggling to get approved through other avenues, check out these programs.

203(k) insured loans

Another choice is the FHA 203k loan, which you can use on a new home purchase or as a refinance loan. This is a mortgage that bundles your primary mortgage loan together with the cost of your home renovations. If your repairs are $35,000 or less, there is a Streamlined 203k loan program as well.

203(k) insured loans are similar in structure to cash-out refinance loans. They aim to simplify the process of making repairs or renovations to a home.

The U.S. Dept. of Housing and Urban Development (HUD) program ensures single-close long-term mortgages with either fixed or variable interest rates. Only FHA-approved lenders offer these loans.

Title 1 loans

Title 1 loans are part of another program backed by the FHA. These loans don’t require you to have home equity, are insured by the federal government, and have terms of up to 20 years.

Through this program, homeowners can receive loan amounts up to $25,000 from participating third-party lenders for practical home improvements; in other words, no luxury upgrades. To learn more, you can read about it here.

Although these programs often have a lengthy application, approval, and disbursement process, they can be beneficial.

Other financing options

Here are some alternative ideas for financing your home improvements that are a little different from what we’ve discussed already. They should be taken with caution, and in some cases, treated as a last resort because they can involve a higher level of risk.

Borrow from your 401(k)

Borrowing from your 401(k) is another option that you’re better off leaving as a last resort. Most 401(k)s have a lending option, where you pay back the loan over five years. However, you’re borrowing from your retirement, and the entire balance will be due if you leave your job.

Home improvement loans from your contractor

Lastly, in many cases, contractors will offer financing options. Depending on the project, and the loan amount, and the down payment you can make, these can be attractive. But be sure to read the fine print carefully. Once you understand the rates and terms, shop around and compare them to other lenders.

DIY renovations

Home renovation doesn’t always need to be done by professionals. That being said, a recent Houzz & Home survey reports that four out of five homeowners (80%) still enlist the help of a professional.

Hiring a contractor might be a requirement of some home renovation loans, while DIY work is ok with others. If you decide on DIY renovations, put together a careful budget for materials and add in a safety net to ensure you have enough funds to complete your projects. Here are a few examples of cheap and easy DIY projects.

Bring your home addition ideas to life

Making an addition to your home is a big project that will take time, patience, and capital. It may require a substantial down payment and years of saving. But in the end, you can enjoy the renovations that made your home exactly as you want it to be.

Your first step is to research your options and find out what you qualify for. Need help? Check out SuperMoney’s loan engine to get personalized offers in a matter of minutes.

While you want to add value to your home, you also need to find the best home improvement loans for your situation. Here is some useful information about how to finance your upcoming home improvement projects.

Adding value to your home

While some home remodeling projects are sexier than others, not all of them are going to add value to your home.

When you look at your home’s outdated countertops, chipped bathtub, and leaky roof, some items should take priority on your renovation list. Focus on the projects that are more likely to add value to your home.

Obviously, anything that affects the integrity of your home’s structure or systems needs to come first. If you decide to sell your home and it has a leaky roof or subpar furnace, homebuyers will devalue the property no matter how beautiful its countertops.

Remodeling magazine annually ranks the home renovation projects that add value to homes as compared to their cost. In its latest report, adding insulation tops the list of return on investment. Other high-value projects include adding a manufactured stone veneer, garage door replacement, and a new entry door.

Projects that don’t return as much for your investment are bathroom additions, upscale master suites, and composite deck additions. Projects that will return a portion (around 50%) of your investment include wood-framed windows, bathroom and closet renovations, and swimming pools.

However, if you plan to stay in your home for a long time, these renovations can add to your quality of life. If that’s the case, then taking out a home improvement loan for these projects may still be worthwhile.

Types of home renovation projects to finance

One of the reasons that you should understand what adds value to your home is that these renovation choices will affect your financing options.

For example, if you decide to finance a bathroom and kitchen remodel with a refinanced mortgage or a home equity loan, you’re borrowing against your home’s value. If you haven’t increased the value of your home by as much as you’ve spent on a remodel, you could end up upside down on those home improvement loans for several years.

The best types of home renovation projects to finance are the ones where the value you’re receiving exceeds, or at least comes close to, the cost of borrowing money.”

Let’s say that you want to upgrade your home’s landscape. According to a recent Outdoors Remodeling Impact Report by the National Association of Realtors, this is a good move. If a landscape professional gave you an estimate of $6,000 for the work, your return on that investment could be as much as 105%, or $6,300.

Popular choices for home renovation projects make your home more functional, modern, and energy-efficient. Energy-efficient updates, such as new windows, appliances, or a new roof, typically offer the best return on your investment. Here is the latest list of the top five home improvements for return on investment.

ProjectJob CostResale ValueCost Recouped
Garage Door Replacement$3,907$3,66393.80%
Manufactured Stone Veneer$10,386$9,57192.10%
Minor Kitchen Remodel | Midrange$26,214$18,92772.20%
Siding Replacement | Fiber-Cement$19,626$13,61869.40%
Window Replacement | Vinyl$19,385$13,29768.60%

Applying for home renovation loans

When you apply for home improvement loans, have your remodeling budget ready and know where you stand with your personal finances. Lenders will look at your credit score, your monthly income, other debts, and sometimes the equity in your home.

A clear understanding of these items can put you in the position to shop, compare, and apply for home improvement loans. Learn more about financing home improvement projects here.

Before you apply for a home improvement loan, check what industry experts and other consumers have to say about it. SuperMoney provides free reviews and consumer comments on mortgages and personal loans.

Financing with Home Improvement Loans

Now you know the best ways to finance your home improvement projects. All that is left to do is to weigh the pros and cons, research lenders and costs, and find the home improvement financing option that is best for you. It won’t be long until you can start breaking ground on your next project!

Applying for home renovation loans

When you apply for home improvement loans, have your remodeling budget ready and know where you stand with your personal finances. Lenders will look at your credit score, your monthly income, other debts, and sometimes the equity in your home.

A clear understanding of these items can put you in the position to shop, compare, and apply for home improvement loans. Learn more about financing home improvement projects here.

Before you apply for a home improvement loan, check what industry experts and other consumers have to say about it. SuperMoney provides free reviews and consumer comments on mortgages and personal loans.

Financing with Home Improvement Loans

Now you know the best ways to finance your home improvement projects. All that is left to do is to weigh the pros and cons, research lenders and costs, and find the home improvement financing option that is best for you. It won’t be long until you can start breaking ground on your next project!