Refinance Your Mortgage to Fund Home Renovations

Given the increased significance of our homes recently, it's clear they serve as our sanctuary. The experience of being quarantined may prompt us to reassess our living spaces and consider improvements that enhance family life. If you're thinking about upgrading your bathroom, remodeling the kitchen, or making other enhancements, refinancing your mortgage could be a smart way to fund these renovations.
Funding Your Home Renovation
There are several ways to finance a renovation. You could consider a personal loan or using credit cards, but both options come with high interest rates, which might result in paying significantly more than the renovation itself.
Another option is a Home Equity Line of Credit (HELOC), which lets you borrow against your home's equity. With a HELOC, you only pay for what you use and can make minimal monthly payments, similar to a credit card. However, this creates a second mortgage that must be repaid within a set period.
Refinancing your existing mortgage might be the most advantageous option for funding renovations. With home loan interest rates at historic lows, many homeowners are refinancing to obtain cash, reduce their monthly payments, or both. A cash-out refinance could be particularly beneficial right now.
How Much Cash Will You Need from a Refinance?
Before determining how much cash to withdraw with a new mortgage, you need to estimate the cost of your renovation.
Get quotes from two or three contractors for the scope of work to compare their estimates. A reliable contractor will warn you that unexpected issues may arise once work begins and will suggest adding 10%-20% to your budget for potential overages. (You know how it goes on those renovation shows, right?).
If you plan to sell your house within the next five to seven years, consider consulting a Realtor® to ensure that your upgrades will provide the return on investment you're aiming for.
Optimize Your Mortgage Refinance for Your Benefit
A "cash-out refinance" involves taking out a new mortgage for more than what you owe on your existing one. You use the new loan to pay off the old mortgage and receive the remaining amount in cash. This method is ideal for financing home renovations as it leverages your home equity to enhance your property's value. By refinancing, you can:
- Combine multiple debts into one monthly payment
- Benefit from lower monthly payments due to current low interest rates
- Boost your home's value with renovations, potentially increasing equity swiftly
Closing costs for a refinance are generally much lower than those for a purchase loan, averaging between 1% and 3% of the loan amount. These costs typically include prepaying one or two months of mortgage payments and covering property taxes and homeowners insurance in escrow, which will be applied to your monthly payments.
You might also opt for a “no-cost” refinance, where closing costs and fees are included in the loan amount. While you won’t pay these costs upfront, it will result in a higher monthly payment.
Here’s an example to illustrate how a cash-out refinance works.
Example of a Cash-Out Refinance
Imagine you purchased your home for $200,000 with a mortgage of $160,000. After five years, you’ve reduced the loan balance to $142,000. If recent sales of similar homes in your area suggest your home is now worth $230,000, you have an estimated $88,000 in home equity ($230,000 value minus $142,000 owed).
Assuming your lender allows you to borrow up to 80% of the $230,000 appraised value, you could potentially secure a new mortgage for $184,000. After settling the existing mortgage of $142,000, you would have $42,000 available for home improvements (excluding loan fees and closing costs).
As with any new mortgage, you'll need to undergo the loan process, which includes a professional home appraisal, proof of income and assets, and a qualifying credit score to determine the loan amount and interest rate you can receive.
Benefits of a Cash-Out Refinance
A cash-out refinance can be beneficial whether you plan to use the funds for home renovations, paying off debt, or covering educational expenses. With today’s low interest rates, especially if your credit score has improved, you may secure more favorable loan terms than you initially had.
Reach out to a mortgage specialist at Capital Bank Home Loans. Our expert and approachable loan officers can help you leverage these benefits and assist you throughout the refinancing process.