Types of Home Improvement Loans

Home improvements, upgrades, and repairs are great ways to build value while creating your dream home. But the initial cost of these investments in your house can become rather expensive. Many borrowers may be put off from diving into these projects as they feel the price of labor and materials are out of reach. However, a home improvement loan can be a fantastic resource for securing the funds you need.

If you are interested in starting your own home upgrade project, read on to discover the various types of home improvement loans available to homeowners and learn which one may be right for you.

What are home improvement loans?

Home improvement loans refer to any type of loan or refinance that is meant to assist you in funding major home renovations or improvements. Whether you are interested in making upgrades to create the home of your dreams or you wish to raise the property’s value prior to listing it for sale, a home improvement loan can be a great avenue to securing the cash you need to get the job done.

As a homeowner, it is likely you already understand how costly improvements or renovations can become, but they often end up being a great investment in your home. However, not many people have the cash on hand to pay for the initial costs. That is where a home improvement loan can help.

Types of home improvement loans

There are a variety of home improvement loans available, and they come in many shapes and sizes. Some are outright loans, where others are types of mortgage refinances. It’s important to note that not all lenders offer all of these types of home improvement loans. Talk to your preferred lender to see what options are available.

Here some of the most common types of loans used for the purpose of home improvement.

Home equity loan

Home equity loans are a great option for tapping into equity to turn them into usable funds. They are a type of loan for a fixed amount of money that you are able to receive all at once. They typically come with a fixed interest rate and the loan is secured based on the amount of equity you want to tap into.

Home equity has long been a great tool for homeowners who are looking for extra money, and you start building it with your down payment. Equity is the amount of ownership you have in your home, and it is based on the difference between the current value of your home and the balance of any outstanding liens. Many lenders will require that you have built at least 20% equity in your home in order to qualify for a home equity loan, and typically the maximum amount you can borrow against is 80% of the current value.

Home equity line of credit (HELOC)

A home equity line of credit, or a HELOC, is another avenue for tapping into your home equity. Unlike a home equity loan, a HELOC is a revolving line of credit that you can withdraw from as you need to. This means you can use as much or as little of the funds as you need and only be required to pay back the amount that was used.

HELOC borrower requirements include:

• Minimum of 15% to 20% equity in your home (depending on your lender)
• Credit score of 620 or higher (depending on your lender)
• Debt-to-income (DTI) ratio no higher than 43% to 50% (depending on your lender)

Your HELOC will have two different periods: a draw period and the repayment period. During the draw period you will have access to the money as you need and only make payments on the interest accrued. Once you reach the repayment period, you will begin making regular monthly payments based on the amount of cash you withdrew during the initial draw period.

This makes HELOCs a great choice, especially for homeowners who have a few home improvement projects in mind, but may not know exactly how much money they will need from the start.

Cash-out refinance

You may also have the option of a cash-out refinance. With this type of home improvement funding, you replace your current mortgage with a new, larger one that pays off your current mortgage and provides a surplus of cash at closing based on the home equity you have built. Like a home equity loan, you receive your funds in one lump sum.

Cash-out refinance borrower requirements include:

• Current mortgage has met its seasoning requirements

• Minimum of 20% equity in your home (depending on your lender)

• Credit score of 620 or higher (depending on your lender)

• Debt-to-income (DTI) ratio no higher than 45% (depending on your lender)

Many borrowers use cash-out refinances for the purpose of funding their home upgrades, as it easier to keep track of a single mortgage with one monthly payment. It is also a great option if current rates are lower than when you originally obtained your current mortgage.

FHA 203(k)

An FHA 203(k) home loan is a government-backed mortgage that can be used to both purchase a home that may require repairs or support current homeowners in their efforts to renovate their home. They are counted as a type of FHA construction loan and cover the cost of a home purchase and the labor and materials required for renovations.

If you are a current homebuyer in the market, an FHA 203(k) loan provides the means for purchasing a fixer-upper home (so long as it is intended to be your primary residence). For current homeowners, you have the option to refinance your current mortgage to an FHA 203(k) loan and use the added funds to pay for renovations.

Personal loan

Personal loans can also be an option used by homeowners who want to get started on home improvement projects. You typically have the choice of applying for an unsecured or secured personal loan, depending on your assets and lender. 

Some lenders may market their personal loan products specifically for the purpose of home improvements. This is because the loan is intended for the personal use of the borrower and will be yours to use for whatever you need. However, it is important to keep in mind that a personal loan will be a separate monthly payment on top of your current mortgage.

How to use your home improvement loan to your advantage

Regardless of the type of home improvement loan you decide on, there are a variety of upgrades and renovations you can make once you secure your funds. Whether you need to make necessary repairs or simply want to increase the home’s value, here are a few ideas to get you started:

• Upgrade your lawn and landscape

• Replace exterior doors and windows

• Remodel your kitchen and update appliances

• Improve your outdoor space, deck, or patio

• Refurbish the bathrooms

• Update flooring

• Create a home office

• Increase space with home additions

• Repair your roof and siding

There are so many ways to improve the home you live in, and the above list contains just a few of them. It is your home and once you choose a home improvement loan that works best for you, the only limitation is your imagination.