Choosing the Best Loan for Your Next Home Improvement Project
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Investing in home improvements can increase value, energy efficiency, and personal comfort. No wonder so many homeowners are putting money into improvement projects. In fact, homeowners have spent an average of $6,649 on upgrades or renovations in the last 12 months.1
When you invest in repairs or renovations, it can pay off in big ways, including boosting resale value and reducing the amount of money you spend on heating and cooling.2 If you’re planning to make updates to your living space, consider a home improvement loan to cover the cost.
Understand the Types of Improvement Loans
Home equity loans and personal loans are the two main options for home improvement financing. The right loan for your project depends on your personal credit situation, the amount of equity you have available and how much money you need for your project.
Home Equity Loans
A home equity loan works like a second mortgage with fixed terms and equal monthly payments. The amount available to borrow is based on how much of your existing mortgage has already been paid off. Lenders typically offer around 85 percent of the total value of your home and subtract what you still owe to calculate equity.3 This limits how much you can borrow, especially if you’re a new homeowner and haven’t made many mortgage payments. However, if you have a lot of equity, you may be able to secure a sizeable loan.
Home equity loans have one big risk — your home acts as collateral, and the bank could foreclose on it if you can’t make the loan payments. A significant number of fees associated with this loan type make it an expensive option for improvements. Because terms can be as long as 30 years, you need to be sure you can afford to handle long-term debt.4
If you have low equity but good credit and reliable income, a personal loan could be your best home improvement financing option. Personal loans are suitable for projects requiring smaller amounts of money, and you may be able to receive funding faster than with a home equity loan. Fees associated with personal loans are fewer and less complex, but you do need to beware of late fees if you miss a payment deadline.5
Shorter loan terms mean you spend less time dealing with loan debt, but you’re also likely to owe a significant amount every month. Personal loan interest rates tend to be higher than those for home equity loans, although good credit could help you secure a lower rate. One beneficial tradeoff of using this type of loan for improvements is the ability to preserve home equity and put it toward bigger projects in the future.
Apply Before Starting a Project
A common mistake among homeowners is to jump right into an improvement project and not think about a loan until they run out of money in the middle of the job. Home improvements always cost more than you initially think, so it’s important to calculate the total cost in advance and apply for a loan of the appropriate amount prior to beginning a project.
If you’re planning to work with a contractor, get estimates from several reputable companies to determine a budget for your updates. If you’re going the DIY route, price the materials and tools you know you’re going to need and add a buffer for unexpected expenses.6 Your total is the amount you need to ask for when applying for your loan. Since the loan application and approval process can take six weeks or longer, it’s smart to apply first and start work later so you don’t wind up sitting in the middle of a mess for months as you wait for the extra cash to finish your project.7
Alternative Home Improvement Loans
It’s not always possible to qualify for a home equity or personal loan. Low income, poor credit, and a high debt-to-income ratio are all common reasons for being denied financing from a traditional lender. If this happens, you have several options:
- Online alternative lenders: These lenders specialize in funding for people with poor credit scores. However, short terms and high rates can put you in a bind if you’re already struggling with your finances.
- Government-backed home rehab loans: Certain properties in need of repairs and upgrades may qualify for these loans, which are secured by the government to lower the risk to lenders.8
- Energy efficient mortgage (EEM): Improvement projects conducted with the specific purpose of increasing a home’s energy efficiency may qualify after a home energy assessment.
- USDA Single Family Housing Direct Home Loan: This type of financing is sometimes extended to homeowners in rural areas who need to make renovations or repairs.
- Credit cards or store financing: For small projects, charging the cost to your credit card or using a branded card from a home improvement retailer may be the easiest option.
How to Choose the Best Lender
Because home improvements can increase property values and make your home more comfortable to live in, it’s worth taking the time to find a lender offering the right loan type and structure to support the project you’re planning. Prior to getting started, research all the available options, and determine what rates and terms you can secure in your current financial situation.
Compare the offerings from several different lenders and remember to be discerning when dealing with alternative options promising big loans for people with bad credit. Take advantage of free quotes to get more information whenever possible so that you can compare monthly payment obligations and determine which structure fits your budget.
The state of your credit, the amount of equity you have, and the stability of your income can all affect how much financing you can secure for home improvements. Make a list of your top choices in lenders, and discuss you needs with each to see who can provide the most appropriate financing and the best customer service. With the right lender backing your project, you’ll be on your way to a more beautiful, comfortable home in no time.