Q&A: Brush Up on the Basics of Home Improvement Loans

By HomeAdvisor

Updated October 18, 2016

Project financing

Remodeling or renovating your home can mean putting together a pretty hefty to-do list. You need to pick materials and colors, decide on that new fridge or bathtub, and choose a contractor. There’s one other task you should be sure to put on your list—figuring out the best way to pay for your home improvements.

Most people take out a loan to pay for their remodeling project. So before you start shopping for that loan, make sure you understand the basics of financing. It will help you choose the option that best fits your needs and budget.

6 Questions to Ask Before Signing on the Dotted Line

Before you choose a loan, make sure you get the answers to these key questions.

1. Is this loan secured or unsecured?

With a secured loan, you have to give the lender the title, deed or a security interest to something of value that you own, like your home or car. This is called collateral. If you don’t pay the loan back on time, the lender can sell your home or car and use the money to pay off your debt. If a loan is unsecured, you don’t have to give the lender any collateral, so your property is not at risk.

2. What is the interest rate?

Interest rates are a percentage of the amount you borrow. Interest rates are based on a number of factors, including your credit score, the type of loan you choose and the amount you borrow, as well as market conditions like inflation. If you decide to use a home equity loan, line of credit or second mortgage to finance your project, the lender will also take into account your loan to value (LTV) ratio when determining your interest rate. LTV means how much you want to borrow compared to how much your home is worth. Lenders usually calculate your LTV by dividing the amount you currently owe on your home by the home’s appraised value. People with lower LTV ratios usually qualify for lower interest rates.

3. Is the interest rate fixed or adjustable?

A fixed interest rate won’t change over the period you have to pay back your loan. That means your payments will be the same every month. An adjustable rate can change over the repayment period. If your rate goes up, so will your monthly payment.

4. Are there any points associated with this loan?

To decrease the interest rate on a home equity and second mortgage loan, you can pay the lender a fee called points at the loan closing. Each point is equal to 1% of the amount you borrow. Basically, you’re paying some interest upfront so you have a lower interest rate over the life of the loan.

5. What is the annual percentage rate (APR)?

The APR is different from the interest rate. It includes not only the money you borrow, but also origination and other fees. For home equity loans, lines of credit and second mortgages, the APR can also include points and closing costs. When comparing lenders and loan options, look at the APR to get a better idea of the total cost of the loan.

6. What fees other than interest will I have to pay?

For most types of loans, you’ll pay an origination fee. This covers the lender’s costs for processing your loan application, and it’s usually a percentage of the amount you borrow. Some lenders also charge an application fee to cover the cost of credit checks and lawyer’s fees. If you decide to use a home equity loan, line of credit or second mortgage to finance your home improvements, you may also have to pay a fee for an appraiser to determine the current value of your home.

With the answers to these questions in hand, you’ll be able to make an educated decision about what type of home improvement loan makes the most sense for you.

Borrow up to $35,000 with no equity required

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This article is intended to provide generalized information to assist the general public in making financial decisions; it does not give personalized tax, investment, legal, or other business and professional advice. Before taking any action, you should always seek the assistance of a professional who knows your particular situation for advice on taxes, your investments, the law, or any other business and professional matters that affect you and/or your business

1 Comments

  1. Daniel M, May 19:

    As a professional contractor, we have been offering third party financing from day one. It is especially useful in real estate transactions for most of our business in the Winston-Salem and Greensboro areas. Most people do not want to go out of pocket for major home repairs until after they have moved into their new home.

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