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New year, new home renovations

New year, new home renovations

If you’ve been thinking about renovating your kitchen, or making your home more sustainable and environmentally friendly, now could be the perfect time to start planning.

With property prices on the rise and interest rates at record lows, 2020 could be the year to make your dream home a reality, or to upgrade your property and increase your equity.

Why would you get a loan to cover your home renovations?

Improving your home with renovations can be costly, in terms of labour and material cost, so it’s common to borrow money to fund these projects.

There are a few benefits to getting a loan to cover your renovation.

  • Because you need to determine your loan size, it forces you to work out how much you need to spend in advance.
  • It motivates you to stick to your budget as you only have the loan amount.
  • You can complete your renovation on time as you’ll have the funds available
  • After the holiday period, cash flow can be tight and a loan can help with this

If your renovations are to increase your sustainability, there are now ‘green’ loans available that can help you purchase solar panels, energy efficient lighting or to fund other projects that reduce your environmental impact. The main benefit to sourcing these loans is that they can offer lower rates than standard personal loans.

If you are looking to get finance for a home project, you might consider getting a cash out refinance, a home equity loan, a construction loan or a personal loan.

Using your existing home loan to cover the costs

If you want to use your existing home loan to fund your home renovations, there are two popular ways to do this.

Get a home equity loan

A home equity loan is where you use the equity in your home as collateral on your loan. Equity is determined by calculating the difference between what the bank values your house at and the amount you owe on your home loan. As your property price increases and you make your mortgage repayments, you are effectively reducing your loan balance and increasing your equity.

These loans essentially act as a second mortgage on your home where you use your property to secure the loan and reduce the lender’s risk. Borrowing additional funds on your home loan can save you time and means you don’t have excessive forms to fill out, and could mean you get a lower interest rate than you would with a personal loan.

Access your redraw facility

Some home loans offer a redraw facility, which means you have the ability to make extra repayments on your mortgage above the required monthly repayment, at no extra cost to you.

If you have this feature, and have made many additional payments into your home loan, you may want to check if the money in your redraw account will fund the project you wish to carry out. If so, you may have the ability to withdraw these funds as cash to finance your home renovations, without taking out a second mortgage.

However, if you decide to redraw the extra money you have put into your home loan, check there are no excessive redraw fees that apply. Some lenders may also decline certain redraw request, so make sure you check with your lender that you are able to redraw these funds before you decide this is the best option.

Organising a cash-out refinance to boost your equity

Home renovation projects can present you with a good opportunity to review your home loan. Specifically, the new year is a good time to look at your current interest rate, as you may in fact save thousands by switching to a lender with a lower rate, or by switching to a different home loan with your current lender.

Refinancing can provide you with the opportunity to get a cash out refinance, increasing your loan limit and withdrawing the difference in cash. This essentially replaces your existing loan with a new loan, with different terms and conditions, so be sure to check the fine print before you sign anything.

The amount you will be able to withdraw will also depend upon the equity you have built in your home, how much you have paid off your Loan to Value Ratio (LVR) and your current loan term.

If you decide to refinance your home to get cash out for your home renovations, make sure that you do not commit to a much longer loan term. Agreeing to extend the length of your loan term could mean you incur tens of thousands of dollars more interest than your original loan, so be sure to check the loan in detail before you apply.

Funding an extension or additional structure with a construction loan

If you’re looking to build a small extension or a granny flat as a part of your home renovation, you might consider getting a construction loan to finance it. These types of loans cover the expenses you incur as you build, and are a popular alternative for those who are looking to have their funds released in ‘stages’.

Releasing funds in this way can ensure you save money and improve your cash flow whilst the constructed extension or additional structure is being built and not yet in use.

Construction loans often allow you to pay interest only until the construction is complete, however be sure to remember that interest only payments do not reduce the principal loan amount.

Some lenders may also only need a 5 per cent deposit of the total building cost to get started, which could help with your cashflow.

These stages are:

Slab – building the foundation of your home, including the base, plumbing and waterproofing - often approximately 10 per cent of the total amount.

Frame – constructing the ‘frame’ of your home including the windows, roofing and some brickwork - can be around 15 per cent of the total amount.

Lock up – covers the elements that are needed to ‘lock up’ your home, including external walls, doors and insulation - typically 35 per cent of the loan.

Fixing – shelving, kitchen, bathroom cabinets, tiles, cladding and all other internal fixtures and fixings are included in this stage - ordinarily about 20 per cent of the contract.

Completion – the completion of the building contract which includes all final installation pieces, including building property fences, cleaning, painting etc - usually the remaining 15 per cent of your loan amount.

Getting a personal loan to cover your renovation costs

If you only have a small project to complete, don’t have a home loan to borrow against, haven’t built enough equity, or don’t have a redraw facility, you might consider opting for a personal loan.

Personal loans may have slightly higher rates than home loans, but much lower rates than credit cards, so if you don’t have a home loan to borrow against, this could be a good option for you.

Variable rate personal loans secured with collateral may have the added benefit of allowing you to make additional repayments, so you can pay the loan off sooner and save on interest. These are known as secured personal loans, as the collateral increases the security of the loan, and reduces the lender’s risk.

This feature is often not provided with an unsecured personal loan, however, as the bank sees this type of loan as higher risk. These types of loans also have higher rates due to the increased chance you will default on your repayments.

If the reason you’re renovating your property is to make it more environmentally friendly, there are some lenders who offer ‘Green Personal Loans’ with lower rates than standard personal loans to encourage eco-friendly activity.

Investing in sustainable home renovations like solar panels and energy efficient hot water systems can reduce the overall running cost of a home. As such, this could likely increase the value of your property due to the cost savings that energy efficient products can bring.

This can make your home a more attractive investment for buyers in the market, and could potentially increase the equity in your home.

Which is the best option for me?

There are many different ways in which you can finance your home renovations, but as with all financial products, it's important that you find what works best for you.

Every individual is different, and the interest rates and products you will be eligible for will depend upon your income, expenses and your individual financial situation.

Before you apply for any financial product, make sure you compare all your available options, check for fees and charges that apply to each, and be sure to check the fine print.

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This article was reviewed by Finance Writer Alison Cheung before it was published as part of RateCity's Fact Check process.

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