After a year of surging home prices, the average homeowner now has a record $185,000 in available equity, up from $153,000 in July 2021. With so much equity and a housing market plagued by limited inventory, many homeowners are choosing to renovate their current homes to better fit their needs using the equity as collateral.
A recent survey from Angi discovered 89% of homeowners are planning or working on home projects. Over 60% of homeowners surveyed anticipate their 2022 home projects will cost $10,000 or more, with 16% expecting total costs of over $50,000. But when it comes to accomplishing their 2022 home improvement plans, over half of homeowners are concerned about cost.
"Tapping into your home equity is a convenient, affordable way to borrow large sums at favorable interest rates to pay for home improvements or for debt consolidation, medical bills or other payments," said BOK Financial® Home Loans Product Manager Kurt Morris.
Rising interest rates
Homeowners have options for financing home improvements using home equity, even as interest rates rise.
"We expect interest rates to continue to rise over the next 12–18 months as the Federal Reserve works to reduce inflation," said Morris. "Mortgage rates have already risen over the past six months—up about 1.25%. As mortgage rates increase, options like home equity loans and home equity lines of credit (HELOC) become more attractive because there are fewer fees than refinancing."
How do you choose the right home equity option? Morris advises paying special attention to factors like competitive interest rates, favorable repayment terms, fees and how quickly you can have cash in hand.
"Finding the right product depends on what the customer needs," Morris explained.
Home equity line of credit (HELOC)
The most popular option for taking advantage of equity you've built in your home is the home equity line of credit (HELOC) because of its flexibility and affordability. Instead of issuing the loan in a lump sum, you get access to a line of credit that you can tap into as needed for a set duration of time called a draw period.
- Interest rates: HELOC interest rates are adjustable, so you may see increases or decreases over time, but with a HELOC you only pay interest on the portion borrowed. Depending on the company, customers may also have the option to lock in a portion of their line of credit at a fixed rate.
- Repayment terms: HELOC draw periods are usually between five and 10 years, after which you enter the repayment period, which can range from 15 years to 20 years based on your needs.
- Fees: Some banks charge closing costs or other fees, while others do not. Make sure to ask any potential banker about fees to ensure the best use of your money.
- Funding speed: A HELOC is the fastest way to get cash in hand and usually takes two to six weeks to close.
Home equity loans
Most lenders will let you borrow 80% to 85% of your home's equity—that is, the value of your home minus the amount you still owe on the mortgage. A home equity loan gives you all the proceeds, after closing, in one lump sum and is sometimes referred to as a second mortgage.
- Interest rates: These loans have fixed interest rates, allowing you to lock in a low rate.
- Repayment terms: Once you receive your proceeds, you then repay the loan over time with predictable fixed monthly payments. Repayment periods can vary from five to 30 years.
- Fees: Home equity loans tend to have higher interest rates but lower closing costs than cash-out refinancing; some banks will waive closing costs altogether.
- Funding speed: Expect to wait between four to six weeks. Because home equity loans normally require appraisals, it can take longer to get a home equity loan than a personal loan.
With a cash-out refinance, you replace your mortgage with a new larger one. You use the loan to repay the original mortgage, and the remaining cash is yours to do with as you please. You can typically borrow up to 80% of your home's equity using this method.
- Interest rates: You usually pay a higher interest rate compared to a traditional rate-and-term refinance. However, it can still be one of the cheapest ways to get cash in terms of interest paid. The interest rate can be fixed or adjustable.
- Repayment terms: A cash-out refinance typically has 15-, 20- or 30-year repayment terms.
- Fees: Since you are replacing your mortgage, expect to pay appraisal fees and closing costs. Closing costs will run you between $3,500 and $5,000 of the new loan amount.
"Make sure the numbers add up in your favor before moving forward," Morris said. "Also worth noting: the proceeds you receive after closing are tax-free. The government does not count the money as income."
- Funding speed: Expect a cash-out refinance to take four to six weeks, but the quicker you provide documentation and secure the appraisal, the faster your loan will be processed.
"Funds from a cash-out refi can be used for anything you need," said Morris. "People take advantage of a cash-out refi because the interest rate is usually lower than credit cards or personal loans, which allows you to lower your overall debt."
No matter the option you choose, educate yourself and choose a knowledgeable lender before starting that kitchen renovation.