One of the most exciting reasons to buy a home is that it’s your space, and you can make it as accommodating as you like. However, not everyone can buy a dream house right away, meaning they must purchase something and upgrade it over time. Fortunately, with a home equity loan, you can start renovations much sooner than expected, all while using the equity you’ve already generated with your property. Here’s everything you need to know about how to use these loans for home improvements.
What is a Home Equity Loan?
The longer you own your home, the more equity it builds. This equity (value) grows based on how the value of your property increases over time, and how much of your mortgage you pay off.
So, a home equity loan is a financial loan that uses the equity of your house as collateral. While your credit score does come into play, lenders typically value the loan based on equity and the interest rate based on your credit. However, even with less-than-desirable credit, you can get bad credit loans from lenders.
Why Use a Home Equity Loan to Improve Your Home?
Increase the Property Value
Even if your home isn’t very old (less than ten years), upgrading it with modern features and amenities can make it far more desirable to prospective buyers. Whether you’re hoping to sell in a year or somewhere down the line, these improvements will raise the asking price accordingly.
Typically, the most valuable home renovations are HVAC upgrades, new doors and entryways, siding, garage door replacement, and adding a stone veneer. While remodeling bathrooms and kitchens can make the home more inviting, they’ll often have a lower return on investment, meaning you won’t get back more than you spent.
Claim Interest Payments on Your Taxes
If you use a home equity loan for renovations and improvements, you might be able to claim your interest payments as tax deductions. The IRS puts limits on how much you can deduct, but if there’s a chance of reducing your tax burden, it’s worth discussing options with your accountant or tax professional.
What Do You Need for a Home Equity Loan?
Although your home’s equity will serve as collateral, that doesn’t mean lenders will give you that amount without doing their due diligence. While it’s possible to get loans for bad credit, keep in mind that you need to meet these minimum requirements:
- At Least 20% Equity – If your home is worth $100,000, you should have at least $20,000 in equity before you can obtain a loan. Most lenders will only issue a minimum of $35,000, but some may offer as little as $10,000.
- Decent Debt-to-Income Ratio – A home equity loan is separate from your mortgage and other debts. So, if your DTI is too high, lenders will hesitate to approve your application. Also, you should never borrow more than you can afford to pay back. If you default on a home equity loan, you can actually lose your house.
- Average to Good Credit Score – Many lenders offer bad credit loans for homeowners, but you will pay higher interest rates. That said, you can always refinance your loan once your score improves to lower your interest payments.
Overall, weigh the pros and cons of obtaining a home equity loan. Talk with your lender and discuss your options so you can make an informed decision.
