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Using a Home Equity Loan for Home Improvements

What you'll learn: Is a home equity loan a good choice when thinking about home improvements

EXPECTED READ TIME: 4 MINUTES

If you’re considering having some home improvements done, you’re probably also looking at your financing options. And you might be asking yourself, “Should I use a home equity loan for home improvements?” There are several things to consider. For example, what are the top improvements that increase equity? Are there fees for a home equity loan? Is a home equity loan tax-deductible? Read on to discover the answers.

Is a home equity loan a good idea for home improvements?

If you've been living in your house long enough to have built up some equity, a home equity loan might be an excellent solution to enable you to fix or update areas. Unless you're in a brand new home, it seems every homeowner has something they feel needs updating, repairing, or replacing. Perhaps you’re thinking about getting new appliances or windows to improve energy efficiency and save on utilities. Or you may be dreaming of renovating your kitchen or bathrooms. Leveraging your home's equity can be a smart choice and increase the value of your real estate.

What should I know about home equity loans?

A home equity loan leverages your home’s equity to provide a lower interest rate loan that uses your home as collateral. Since a home equity loan is a type of mortgage, as such, there will be some costs to consider as you begin to determine if a home equity loan is right for you. Generally, however, these closing costs will be less than typical mortgage closing costs.

Home equity loans have a fixed interest rate over the life of the loan. That allows you to budget accordingly. In contrast, a Home Equity Line of Credit (HELOC) has a variable interest rate that can change with the market. It’s also important to know what's the difference between a HELOC and home equity loan. With a home equity loan, you receive your funds all at once. That means the interest on the entire amount also begins to accrue. Compare that type of loan to a HELOC. You withdraw the funds as you need them and only accrue interest on what you’ve withdrawn.

You need to be aware — that because this loan uses your home as security — if you decide to move, you'll need to pay back the loan to sell the house. If you are using the home equity loan to make home improvements, hopefully, you've increased your home’s value and can pay off the home equity loan with your proceeds. As you can see, there are many reasons why it's essential to do your research to understand if a home equity loan is right for you.

What are the benefits of a home equity loan for home improvements?

If you're using a home equity loan to improve or update your house, there are several benefits to be aware of. The first and most obvious is that you'll be able to enjoy your improvements, and at the same time, you've hopefully increased the value of your home. Some home improvements typically have a positive effect on your equity. Examples include upgrading a kitchen, bathroom, or putting on a new roof. Interior or exterior painting or landscaping can add value to the home if done right. But improvements like adding a pool, excessive wallpaper, or ornate lighting might not provide a return on your investment. Although they are enjoyable, understand how your planned upgrades might affect your home’s value.

Some other benefits of a home equity loan are that if you're using the funds for home improvement, there could be tax advantages, and you should seek advice from a tax professional to understand any possible benefits. Home equity loans also typically have lower interest rates than other forms of loans or credit cards. Also, there are different loan terms you can choose from. For example, you can choose a longer loan term with lower payments to give you more room in your budget. Or you might want a shorter-term with higher payments to quickly pay the loan off.

What should I be aware of with a home equity loan?

Do your homework with regards to your home improvement needs versus wants. If you are looking to increase your home's value as your primary reason for the loan, understand your return on investment (ROI). Your ROI needs to include the costs of the loan. These include potential closing costs and interest over the life of the loan. Try to determine if your home's value will increase enough to offset your costs.

If you're not planning to move for some time but want to enjoy the improvements over the next several years, this too is a return on your investment, just not in dollars. At the same time, you're hopefully increasing the value of your home for when you do ultimately sell.

When contemplating a home improvement loan, one thing to do is set a budget for the project and stick to it. It's often tempting to start adding to your list of planned improvements. But that may increase your loan needs. Plus, it might be smart to consider building in a buffer in case your initial construction estimates were too low. You may also uncover unexpected expenses such as additional repairs or the need to bring the home up to current building codes.

As with any loan, this is a financial decision that you should research ahead of time. When you fully understand your needs and wants, you can determine your best financial option. A home equity loan can be the perfect solution when considering home improvements, particularly if you plan the upgrades all at once. For example, if you plan to renovate your entire kitchen first and then move onto your bathrooms. We hope we’ve given you the answers to whether you should use a home equity loan for home improvements. As always, the professionals at PenFed Credit Union are here to help you and answer any additional questions you may have.

To learn more about HELOCs or home equity loans, contact PenFed:

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