American homeowners are sitting on a mountain of tappable equity. For some homeowners, this creates opportunities to make home improvements.
Spending on home remodeling and improvements has been on the rise for several years. Home improvement spending is expected to hit $347 billion annually.
Using HELOCS and home equity loans to remodel
As home values increase, more homeowners have the capital to bankroll their home projects with equity loans. Home equity can be a smart way to finance a remodel, but only if you do it right. And interest you pay on home equity loans and home equity lines of credit, or HELOCs, is tax-deductible — but only if the money is used to remodel, repair, or otherwise improve the value of the home that secures the loan.
Both loan products carry low interest rates because they are designed to allow homeowners to use the equity in their homes to maintain and improve property values. Since home value is the collateral on which equity loans are based, higher home values benefit homeowners and lenders.
A home equity line of credit, or HELOC, can be a useful option for home renovations because you’re extended a fixed line of credit and you can use as much or as little as you want.
All HELOCs have a draw period and a repayment period. The draw period is the amount of time you have to use the line of credit you were approved for. Once that period expires, you can no longer withdraw funds and you must start repaying the full loan.
Another advantage of a HELOC is that the monthly payments are usually smaller than a cash-out refinance or personal loan. The reason for this is that borrowers are required to repay only the interest during the draw period.
For homeowners who want to make major renovations without having to make large monthly payments right away, HELOCs are a good choice.
Home equity loans
Home equity loans are given based on the same equity value that a HELOC would use. However, they are structured more like a traditional mortgage, with a repayment period and a set schedule of payments that includes both principal and interest.
They are essentially second mortgages and can come in terms of 10, 15, 20 or 30 years. The amount you can borrow is similar to that in a HELOC because most lenders will not lend you more than 80 to 85 percent of the equity you have in the home.
The repayment schedule begins right away with the principal included, so you know the amount of your monthly loan repayment and whether you can afford it. You can often get these loans at a fixed rate rather than a variable rate, which can save you interest in the long run.
High-impact home improvements
People who use HELOCs to pay for home renovations might want to consider the return on their investment. For example, if you sink too much into a master bathroom you might not be able to recoup the cost
Replacing an old garage door and tracks, for example, is a high-return investment. Homeowners can expect to recoup about 98 percent of the cost.
Lighting also goes a long way. For homeowners who plan to sell their home, investing in lighting, particularly if your home is dark, makes an impact on buyers.
New carpet and fresh paint are not only inexpensive upgrades, they also give the home a move-in ready feel.
Adding an extra bedroom and updating kitchens are also great ways to increase the value of your home, depending on the home and the neighborhood, while expensive walk-in closets probably won’t translate into more value at resale
One final word: Shop around at multiple lenders to find the best deal on a home equity loan. Even a small difference in the interest rate can save you thousands of dollars over the years.
SOURCE: Natalie Campisi bankrate.com