How To Finance a Home Addition Without Equity

Options for Financing If You Don't Yet Have Equity in Your Home

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One of the most common ways to pay for home additions and upgrades is by tapping into your home equity, such as with a HELOC or home equity loan. But what if you don't have any equity built up yet? For example, you might be in this position if your home value recently dropped or if you just bought a house and want to make some changes.

While home equity can provide a handy way to pay for these upgrades, it’s not your only option. There are plenty of other ways to finance home additions and improvements, but each one has its own pros and cons. We'll help you figure out which is the best option for you.

Key Takeaways

  • If you don't have much equity in your home, you won't be able to use home equity financing products.
  • Government-backed home improvement loans are great options, but you'll need to be aware of rules and restrictions.
  • You may be able to refinance your mortgage with a renovation mortgage, allowing you to get a new loan as well as the funds you need to pay for the work.

Government Home Improvement Loans

Quite a few government programs can come in handy if you need to borrow money for home improvements. Some of these loans are only available to people who meet specific eligibility criteria, but if you qualify, they can be an attractive option—and often feature low interest rates.

You'll find these options through banks, credit unions, and online lenders. However, the rules of how these loans work are dictated by the government agency that backs them. Here are the most common government-backed home improvement loans.

FHA Title 1 Loan

A Title 1 loan from the Federal Housing Administration (FHA) is one of the most widely available government home improvement loans. As long as your home isn't brand-new (and someone has been living in it for at least 90 days), you may qualify.

Title 1 loans can also be used for a wide range of improvements, including new appliances, solar panels, and renovations to make a home more accessible for people with disabilities. However, you won't be able to use this type of loan for work you've already paid for, or for luxury upgrades like hot tubs and indoor theaters.

If you'll be working on a single-family home, you may be able to borrow up to $25,000 with a maximum term of 20 years. But be aware that your lender will require your loan to be secured by your home if you're borrowing more than $7,500. If you borrow less, no collateral is required.

USDA Section 504 Home Repair Loan

If you own a home in a rural area, a Section 504 Home Repair Loan from the U.S. Department of Agriculture (USDA) could be a great option. These loans are capped at $40,000 with a 20-year term length.

To qualify, you must earn less than specific income thresholds based on your county and household size.

These home repair loans have two standout features. First, the interest rate is fixed at an ultra-low 1%. Second, if you're over age 62 and have no way to repay the loan, you could receive the money in the form of a grant of up to $10,000.

VA Supplemental Loan

If you have a home loan from the Department of Veterans Affairs (VA loan) and haven't paid it off or defaulted on it, you may be able to use a VA supplemental loan to pay for your home upgrades. The supplemental loan allows you to either tack your new loan onto your existing mortgage, or keep it separate with its own lien.

A VA supplemental loan does come with some limitations. You can't use it to make luxury upgrades like adding a tennis court or swimming pool. If you're borrowing more than $3,500, you'll need to have the work inspected. In addition, no more than 30% of the loan proceeds can pay for semi-permanent items such as washing machines, refrigerators, or stoves.

State and Local Home Repair and Improvement Loans

Many local and state governments also offer loans to help you improve your home. However, these may be geared toward home repairs rather than upgrading a home that’s currently suitable for living in. Eligibility for these loans may also be limited, as many programs aim to assist borrowers who meet certain criteria, such as seniors or people who earn less than a certain income. Regardless, it's worth looking into local and state home improvement loan options, no matter your situation.

State and local loans tend to offer very attractive rates, sometimes 0% interest. They may even take the form of grants that don't have to be repaid. To see what's available in your area, do a simple Google search for "[your state] + home improvement loans and grants" or visit 211.org to get help from someone who can connect you with programs in your area.

Renovation Mortgage Refinance

Fannie Mae and Freddie Mac both allow lenders to offer special renovation mortgages that let you borrow additional funds to pay for home additions and upgrades. Many people use these loans to upgrade their new homes right away, but you can also refinance your existing mortgage into these renovation mortgages.

Renovation mortgage refinances from government-backed mortgages are another possibility. For example, FHA 203(k) rehab loans are quite popular because they can be used for very extensive work, even demolishing and rebuilding an entire house.

Personal Loans

Personal loans are great for many uses, including home improvements and additions. Lenders commonly market personal loans specifically for home upgrades, sometimes even with more-affordable rates than general-purpose personal loans.

Personal loans have their pros and cons. On the plus side, they generally aren't tied to your house with a lien, so if you default on the loan, the lender won't have a claim on your home right away. But since it's unsecured by your home, a personal loan’s rates may be higher than those for a home improvement loan, which would be secured by your house.

Credit Cards

Many people use credit cards to finance home additions, but for this to work, you'll need to be strategic. When you finance home upgrades with credit cards, it's easy to get trapped in a cycle of debt because you're often borrowing large amounts at high interest rates.

Instead, try this method:

  • Figure out how much you need to spend to make your improvements.
  • Find a credit card with a long 0% APR offer.
  • Divide the amount you plan to spend by the number of months the card will have 0% interest.

If you can afford to pay off that amount each month so that you finish paying off the full amount by the end of the card’s introductory period, great—open the card and charge the home upgrades on it.

For example, let's say you want to finance a $1,500 home upgrade with a card that offers 0% APR for 15 months. To pay off your home improvements by the end of the interest-free period, you’d need to make a $100 payment each month.

If you won’t be able to afford to pay off the balance by the time your 0% offer ends, don't use a credit card to finance your home upgrades. It’s better to find another way.

Should You Add to Your Home Without Equity?

Borrowing money to upgrade your home if you don't have any equity in it can be risky. You're taking on more debt, and since that debt isn’t secured by your home equity, it'll typically come with higher rates than you could otherwise get.

Financing home improvements without equity may be worthwhile if you've crunched the numbers in your financial plan and are confident you can afford them. Many home upgrades can even raise your home's value, and some have a better return on investment than others.

Frequently Asked Questions (FAQs)

What is the interest rate on a home improvement loan?

It depends on the type of home improvement loan you're seeking: a government-backed loan, a personal loan, a credit card, or another loan product. Regardless, the rates on these loans change often, so it's best to find a resource that's updated regularly to know if you're getting a good deal on a loan or not. For example, here are the current rates for personal loans.

How long can you finance a home improvement loan?

It depends on the type of home improvement loan you use. Some loans, such as VA supplemental loans, can be rolled right into your existing loan, even if you're just starting with a 30-year mortgage. Other loans, such as personal loans designed for home improvements, may have terms ranging from two to 20 years.

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Article Sources

  1. U.S. Department of Housing and Urban Development (HUD). “About Title I Property Improvement Loans.”

  2. HUD. “Fixing Up Your Home and How To Finance It,” see “Title I Property Improvement Loan Program Maximum Loan Amounts and Terms.”

  3. USDA. “Rural Development Single Family Housing Direct Loan Program.”

  4. USDA. “Single Family Housing Repair Loans & Grants.”

  5. Department of Veterans Affairs. “Chapter 7. Loans Requiring Special Underwriting, Guaranty and Other Considerations,” Page 7-25.