2020 was a big year for home equity. Housing data firm CoreLogic’s Homeowner Equity Insights report saw its home equity jump to more than $ 200,000 thanks to a surge in home prices.
At the same time, many Americans who work from home were realizing the need to reconfigure their space, says Dr. Frank Nothaft, Chief Economist at CoreLogic.
The use of home equity “has enabled many families to finance the renovation and expansion of their home in order to meet these needs,” says Nothaft.
As more and more people are realizing that working from home could continue after the pandemic, “they think:” Do I want to expand this? Do I want to finish the basement or set up an office? ‘”Says Craig Lemoine, director of the Academy for Home Equity in Financial Planning at the University of Illinois. “I think part of the borrowing is that.”
If you are considering drawing up your home equity for a renovation or remodeling project, here are some things you should know.
Home equity options for home renovations
In general, there are three main ways to access your home’s equity: a payout refinance, a HELOC, or a home equity loan.
Every homeowner should think about a cash out refinance first. A cash-out refinance replaces your original mortgage with a mortgage that is worth more than you owe on your home, and the difference is paid in cash.
Cash out refinance rates are cheap right now, so you can potentially get the funds you need for your home improvement and save on mortgage interest. Just keep in mind that if you do a disbursement refinance, you will have to reset the terms of your mortgage and pay some expenses like closing costs, appraisals, and issuing fees.
If you haven’t refinanced yourself in the past year, rising mortgage rates could eventually make this option less attractive. In that case, you might consider a home equity loan or HELOC, which have long been standby options for homeowners.
A home equity loan works like a traditional loan. You will receive a lump sum at the beginning of your loan term and then have monthly payments until you have repaid the amount borrowed (plus interest).
Home loans have a fixed interest rate, which means that you lock your interest rate in the beginning and it doesn’t change. This can be beneficial in a low interest rate environment like now.
A home equity line of credit, on the other hand, works more like a credit card. It’s a revolving line of credit backed by your home that you can access by check, debit card, or other means depending on the lender.
HELOCs have a floating interest rate, which means that the interest you owe will fluctuate over the course of your HELOC term and can change with the market. HELOCs traditionally work according to a 30-year model with a 10-year drawing period and a 20-year repayment period.
During the drawing period, you can spend up to the amount of your credit line (will be determined when you apply) and then have the entire repayment period to repay your expenses (plus interest).
What you should know about these options
Before considering any type of loan to use your home as collateral, it is important to understand that if you fail to keep up with the repayment, you could lose your home. Both HELOCs and home equity loans – just like a new mortgage after a refinance – are backed by your home, so failure to repay could result in foreclosure by the lender.
With both home equity loans and HELOCs, you need a good amount of equity in your home and good credit to access them.
A HELOC can be a good choice if you have running costs or don’t know exactly how much you will be spending on your remodeling project. But if you are afraid of rising interest rates, a home equity loan may make more sense for you.
Home Improvement Home Loans: Pros And Cons
Receive full amount at the beginning
Can spend on anything
Must accept and repay the full lump sum, even if your project ends up costing less
Fixed rates can be detrimental in a high yield environment
Secured from your home
HELOCs for DIY enthusiasts: pros and cons
Spend on the go
Can spend on anything
Variable interest rate
Secured from your home
Set drawing and repayment periods
How to get the most out of your home loan or HELOC. out
On a home equity loan, what you see is what you get.
Receive your entire borrowed amount upfront and then spend as you wish. A HELOC is a little more varied. You can use the money on your HELOC up to your credit limit until the end of your draw period (usually 10 years).
During this time, you need to make sure that you make your loan payments on time and in full to avoid credit damage or you may lose your home.
Alternative home improvement options
While there are definitely other ways you can finance home finance, many homeowners can secure greater financing by using their home equity. That’s because your home is probably one of the greatest assets you have.
Aside from a cash out refinance, home equity loan, or HELOC, here are a few other options you might consider and what to know beforehand:
A home improvement personal loan is an option, but one of the worst ways to pay for home improvement. High interest rates, short repayment periods, and lower loan amounts all contribute to the fact that personal loans are not ideal for the home improvement.
If you can prepay your project with cash, you can avoid financing costs and debt accumulation. Just be careful where you get the money from. Don’t exhaust your emergency fund or waste all of your other cash savings on a project.
Credit cards may seem like an option to pay for part of a project, but keep in mind that credit cards have very high interest rates compared to other types of credit. It can make sense to pay for part of your renovation this way, especially if you find a credit card with a long lead-in period of 0% APR. Just make sure you have a plan to pay off your expenses in full within this introductory period or your remaining balance will be charged with a higher APR when this introductory period ends.
Also, be careful about spending near your credit limit on a credit card, whether 0% introductory or not. A high credit load can affect your credit score. Most experts recommend only spending up to 30% of your credit limit each month to increase your score.
Most experts agree that you should only touch your retirement savings in an emergency. When you tap into your retirement to fund a home project, not only is money drained from your retirement savings, but it also costs you lost interest. The money that could benefit from compound interest, so be very careful about withdrawing money from your retirement accounts and avoid doing so if you can.