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It’s a common misconception that you need equity in your home to get a personal home improvement loan. The reality is that there are several ways to fund repairs and renovations on your home, even if you have no equity. Sound too good to be true? Here’s the truth about zero-equity home improvement loans.
Let’s start with the basics. Home equity represents the difference between what you owe on your home and what you could sell it for in the current market. For example, if you could sell your house for $300,000 today and your mortgage balance is $250,000, you have $50,000 in home equity. It’s just another way to describe the amount of value you own in your home.
Home equity, by definition, is variable. It’s affected by market conditions, your mortgage interest rate, the amount of your mortgage payment, the length of time you’ve been paying down your mortgage, and even how well you’ve maintained your home over time.
Your lender typically relies on an appraisal to determine the exact amount of equity you have in your home. The appraisal process usually takes about a week to complete and can cost anywhere from $400 to $1,000 depending on variables such as the size and condition of your home and the area where you live.
The appraiser will inspect and measure your house, run calculations based on sales for comparable homes in your area, and arrive at a fair market price for your home. The lender then subtracts the balance of your existing mortgage (or mortgages, if you have more than one) to arrive at your home equity figure.
It is possible to have negative equity in your home, also called being “underwater,” if the value of your house is less than your current mortgage balance.
Yes, there are several ways to finance home improvements and repairs without equity in your home. In fact, no-equity loans are sometimes preferable in certain situations even if you do have equity in your home.
The thing to remember about home equity loans is that you are pledging your home as collateral—and that means your lender can foreclose on your home if you don’t make your payments as agreed. While no one ever takes out a loan expecting to default on the payments, there are certain life circumstances that carry more risk than others. For example, if you’ve just started a new job, or expect to grow your family in the near future, you may be less willing to put your home on the line for a remodeling project.
It’s always a good idea to save up and pay for your home improvements with cash whenever you can. If you’ve been planning to upgrade your master bath, for example, it’s possible to postpone the work for a year or two until you can save up enough to cover the remodeling costs.
But if you discover that a leaky pipe in your bathroom damaged the subfloor and your bathroom is now unsafe to use, you really can’t wait until you’ve got money set aside to fix it. You need funds right away to do the necessary home repair work.
If you’re a new homeowner with little or no equity in your home, you really have no choice but to look at other options, such as a personal loan, to finance your home repairs or improvement project.
Of course, the risk of foreclosure on default is a powerful incentive to avoid home equity loans, even if you have sufficient equity to fund your project. Your credit score will take a hit if you default on a zero-equity home improvement loan, but your home will be safe from foreclosure.
There are definite tradeoffs when you choose a no-equity home improvement loan over one secured by the equity in your house, but in many cases, a zero-equity loan makes better financial sense.
Total interest payments tend to be one of those “hidden costs” that are easy to overlook when you’re evaluating your loan options—most people base their decisions simply on the monthly payment.
While It’s true that interest rates are generally higher with an unsecured home improvement loan, over the life of the loan, you may pay considerably less. Personal loan interest rates are usually anywhere between 10% and 20% depending on factors like your credit score, the amount of the loan, and the term of the loan. That’s definitely more the 5% or so you might get on a home equity loan.
But the bottom line is that you may still pay less interest overall with a zero-equity loan most of the time. Why? Most unsecured loans have shorter terms, usually three to seven years, compared to 20 or 30 years for a home equity loan—and that can cut your total interest by 50% or more.
Let’s say you need $25,000 for your home improvement project. If you took out a five-year, no-equity loan at 12% interest, you’d pay a total of about $8,300 in interest over the life of the loan. If you borrowed the same amount under a 20-year, fixed-rate home improvement loan at 6%, you’d pay almost $18,000 in interest.
Zero-equity loans have a streamlined application and approval process compared to home equity loans. Unlike most home equity loans, zero-equity loans have no costly and time-consuming appraisal, and the application can usually be completed online and approved in just a few hours. You could have the money in your bank account in as little as 24 hours.
With a home equity loan, the time to funding could easily be four to six weeks or more. If you have an urgent need, the delay in funding could cause significant hardship, especially if you need the money for pressing repairs or a critical life event.
You can expect to pay a lot upfront for a home equity loan: Processing fees, loan origination fees, appraisal fees, title fees, even document and filing fees. These loans essentially function as second mortgages, and the processes and fees are quite similar to those for your first mortgage.
Many lenders will waive some of these fees, but in exchange, they charge a prepayment penalty if you pay off your loan early, usually within the first three years. These penalties may be equal to the amount of all the fees the lender waived plus lost interest over the life of the loan—which could amount to thousands of dollars.
With a zero-equity personal home improvement loan, there is typically no prepayment penalty, and the fees are a mere fraction of those charged with a home equity loan.
Many home equity loans have a minimum borrowing amount, usually between $10,000 and $25,000 depending on the lender. If you have a minor repair or improvement in mind, you could be forced to borrow significantly more than you need, which can lead to “mission creep,” where you find ways to justify the larger loan amount, ultimately blowing up your carefully planned budget.
With zero-equity loans, you can borrow only what you need to do your planned repairs or renovations. If you only need $5,000 to replace your worn-out carpet with hardwood, for example, you can borrow just that amount. There’s no pressure to do more than you’re comfortable with just to meet your loan minimum.
Personal home improvement loans are perhaps the most common way to fund home improvements without using home equity. You can generally apply online and receive your money in just a few days or even less.
Personal home improvement loans have fixed interest rates and relatively short terms (three to seven years is typical)—and you have a predictable monthly payment over the life of the loan. Interest rates tend to be a bit higher and you may have to pay a loan origination fee of between 1% and 5%, but there is typically no prepayment penalty.
Many homeowners find that personal home improvement loans are the most flexible and convenient option; the application process is quick and easy, and you can borrow smaller amounts compared to home equity loans. Some lenders even offer same-day funding once you’re approved.
Hearth makes it easy to find and compare personal home improvement loans. You don’t need to scour the web looking for lenders with the best rates and terms. Our simple three-step process takes the work out of finding the right zero-equity home improvement loan for you:
It really is that simple to find a zero-equity home improvement loan with Hearth. Why not complete your application today?