Armchair Builder

Your Home Addition: How to Finance?

Financing a New Home Addition

You have a whole host of options available to you to pay for your new owner-built home addition.  Each option has it’s pros and cons.  So which is best for your situation?  Here we will discuss the main options available and give you the major points to consider for each.

Cash:  If you have the cash sitting idle in the bank, either in a savings or money market account, now is a good time to use it.  The rates currently paid on a typical savings account is paltry…somewhere from one percent to  darn near nothing.  If you have the money, it makes no sense to let it continue to make almost nothing so you can turn around and pay five to ten percent to use someone else’s money.  Of course this assumes you will still have a six month emergency reserve account…don’t use this up.  If you can go the cash route, you save on fees, closing costs, appraisals, inspections…etc.

Home Equity Loan:  These offer the tax benefits of conventional mortgages without the closing costs.  The bank gives you the entire loan amount up front and you will pay the balance off over fifteen to thirty years.  Your monthly payments can be fixed as most of these have a fixed interest rate.  The major drawback to the home equity loan is the interest rates are slightly higher than those for conventional mortgages.  Of course, you need equity in your home to be eligible for this loan type.

Home Equity Line of Credit:  Also called a HELOC, this method of financing can be great if you have equity in your home.  These work similarly to a credit card in that the banks agree to lend you up to a certain amount of money and you draw the money against the line of credit as you wish.  There are no closing costs and the interest rates are adjustable, with many tied to the prime rate.  Many of these require repayment within eight to ten years.  Pay close attention when comparing this type of loan to a traditional home equity loan.  The APR (annual percentage rate) for a home equity line of credit is based on the periodic interest rate alone and does not include points or other charges like a home equity loan does.

Title 1 Home Improvement:  The government provides private lenders with insurance to provide loans up to $25k for terms as long as twenty years.  If the loan is over $7500, it must be secured by a mortgage or dead of trust on the property.  This is one of the easier loans to qualify for as it is based on your ability to repay the loan and can be obtained in a few days.  This financing method is owner-builder friendly. For more information on the Title 1 loan, check out this HUD site.

No matter what loan type you are considering, your chances of being accepted will be greatly improved if you have the following items in place prior to applying…

  • Low debt-to-income ratio
  • High credit score
  • Solid employment history
  • Equity in your home

Financing is one of the important items to consider before starting your new home addition.  To see the rest of your essential pre-planning list, go to our previous post… Tips for Adding on to Your Home.

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