The number of home remodeling projects is up from last year. According to the National Association of the Remodeling Industry (NARI), the call for contractors in early 2015 was sparked by “pent-up” homeowners deciding economic conditions had improved enough to take on projects they had set aside. Americans spend some $300 billion a year on renovations and remodeling. NARI figures show that most customers paid cash, while 25 percent of homeowners paid by credit cards, home equity loans, lines of credit, or home improvement loans. Homeowners seeking loans should understand that there are risks involved with financing home repairs and renovation, even with the most commonly used forms of financing.
A loan is typically secured with the borrowers property or other assets, while credit card borrowing, unsecured loans, are costly ways to finance a home remodeling project. Lenders will establish strict limits on plastic borrowing and heap on high APR interest and penalties on late payment. Three month credit card interest at APR rates is currently at 15.9 percent, while a home equity line of credit (HELOC) rate (also variable) currently ranges from 3.50 to 6.38 percent. The real trick if using a credit card is to choose one with a zero-percent introductory rate to finance repairs or renovations, and pay off the balance before the period ends and the lender assesses high rates and retroactive interest.
The risk: High interest rates, penalties for late payment.
Proceed with Care: Personal Loans
Personal loans and conventional lines of credit are not secured by property or other assets, hence they come with higher interest rates and fees than FHA loans. On a personal loan, the homeowner borrows a capped amount of money at a fixed-interest rate and set monthly payments. On a personal line of credit, there are payments only on the amount borrowed during the draw period with a variable annual interest rate. Rates are based on credit scores, income, and credit history.
The risk: Inability to make payments due to a financial change or event.
Home Equity Loans and HELOCs
Some consumers prefer home equity loans to finance renovations. Home equity loans allow qualified borrowers to take the entire amount as a lump sum with a 15-30-year mortgage and fixed rate interest. But, lenders may charge interest rates at levels above conventional mortgages. Home Equity Lines of Credit (HELOCs), allow homeowners to borrow money when they need it during a draw period, paying interest only on the amount they use. Interest rates are adjustable, and repayment is scheduled after 10 years.
The risk: Some lenders may offer introductory rates on HELOCs, only to ratchet up the rates later, creating a financial burden for unprepared borrowers.
Better Options: Look into an FHA 203k for Home Renovation
The U.S. Federal Housing Administration (FHA) offers two forms of an FHA 203k renovation loan: Standard 203k and Streamlined 203K. The Standard 203k is for home renovation projects requiring structural changes, outdoor landscaping and grading, or any significant project that requires engineering drawings and inspections. The Streamlined 203K loan provides up to $35,000 for a home renovation that does not require drawings and inspections or displace the family during the project. Potential risks: Renovations must begin within 30 days of the loan agreement and completed before six months. Under the Standard 203k, residents may receive only up to six mortgage payments if the home is uninhabitable during the renovation.
Other Help for Financing Home Renovations
FHA Energy-efficient mortgages (EEMs) increase the mortgage to include financing for energy efficient upgrades or remodeling. The plan broadens the debt-to-income qualifying ratios, qualifying borrowers to receive higher loan caps to provide for upgrades.
The Section 504 Home Repair program through the U.S. Department of Agriculture offers loans to “very-low-income homeowners” for home repairs and modernizations, as well as grants to low-income senior citizens to remove safety and health hazards from their homes. The homeowners must be unable to afford other financing. Loans up to $27,500 are based on a 20-year repayment plan at 1 percent interest.