Down Payment Assistance Programs

What Does Seller Assist Mean?

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If you don’t have enough money for a down payment on a home, you may wonder about the seller’s ability to help. While the seller can help with many different costs regarding your home purchase, the down payment is not one of them. If a seller were to help you with the down payment, it could be considered an inducement to purchase – or in other words, a bribe.

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What’s an Inducement to Purchase?

If you are hemming and hawing about whether you want to buy a home or not, the seller could sway you by telling you he will help with the down payment. That could convince you to buy the home, even if it wasn’t your original intent. If you meet with financial difficulty down the road, you could blame it on the seller and the fact that he ‘bribed you’ to buy the home.

Other Ways Sellers Can Help

Luckily, there are other ways that sellers can help you with your loan. If you can’t get a down payment, consider the VA or USDA loan program. If you are a veteran, you can use the VA loan program, if you buy a home in a rural area and are a low to moderate-income family, you can use the USDA program. If neither of those options work, the FHA loan requires just 3.5% down on the home.

Once you figure out your loan program, you can have the seller help you with the closing costs. This is called seller concessions. This is money the seller gives you to help you cover the closing costs. Most loan programs allow the seller to contribute up to 6% of the sales price of the home. This is separate from the down payment, though. The seller can help you cover any lender fees as well as third-party fees. Keep in mind, though, the money the seller gives you is really money you are borrowing from the bank to buy the home. The seller increases the price of the home accordingly, which means you borrow the money to cover the closing costs.

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Here’s an example:

You agree to buy a home for $150,000. Before you sign the contract, you decide to ask the seller to help you with the closing costs. The total closing costs are $8,000. The seller agrees to pay them, but you have to increase the sales price to $158,000. As long as the home appraises for at least $158,000, you should be okay. This means that your monthly payment is now a little higher and you pay interest on the $8,000 that the seller will give you at the closing. The seller walks away with the same amount of money whether he helped you with the closing costs or not.

Who Can Help You With the Down Payment?

What if you truly cannot come up with the down payment? Who can help you? While it’s not the seller – anyone that isn’t involved in the transaction, such as the real estate agent, can help you. Typically, this means family members. They can give you gift money, but this gift money is different than the gifts you receive on your birthday.

Lenders need to trace the origination of the gift money. In other words, they need to make sure that it’s not a loan somewhere down the road. They will need a gift letter from the donor, stating that the money is a gift, the purpose of the gift, and that it doesn’t need to be repaid. The donor must include your name and the address the money is meant to help purchase. The donor must then sign and date the letter.

The donor will also have to provide proof of the funds’ origination. Typically, lenders require only 2 months of bank statements to show that the donor has possession of the money. If there are any large deposits that don’t coincide with the donor’s income, the lender may need further proof of the funds’ origination to make sure there isn’t a loan hidden down the line somewhere.

The bottom line is that the seller can help you, but not with the down payment. If you need help with your down payment, you’ll need either a no down payment loan program, such as the VA or USDA loan, or you’ll need to receive the funds as a gift from a family member.

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Can Closing Costs be Financed?

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Closing costs can cost as much as 5% of your loan amount. If you have a $200,000 loan, that’s another $10,000 you must come up with to close the loan. What if you don’t have it? Can closing costs be rolled into a mortgage?

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It depends. If you are purchasing a home, you may have a tougher time rolling your closing costs into the loan. If you are refinancing your mortgage, you may be able to roll the closing costs into the loan if you have room in the home’s equity.

Does it make sense to do so though?

What’s Your Home’s Value?

The determining factor regarding whether you can roll your closing costs into your loan is the appraised value. Next is the purchase price or the current balance on your existing mortgage, depending if you are purchasing or refinancing.

You can’t borrow more than the home’s value. In most cases, you can’t borrow more than a specific percentage of the home’s value. For example, FHA loans allow you to borrow up to 96.5% of the home’s value and conventional loans allow up to a 95% LTV. If you only put down the minimum down payment, you won’t have room to roll closing costs into your loan on a purchase – this is typical.

If you refinance your loan, though, you may have room. Let’s say your home is worth $300,000 and your existing loan has a balance of $250,000. If you don’t have the cash to pay the closing costs upfront, you may be eligible to roll them into your loan amount since your LTV would only be 83%.

How Long Will You be in the Home?

The next thing to consider is how long you’ll be in the home. Is this your forever home? If so, you may not want to roll the closing costs into your loan for one reason – interest. If you increase your loan amount to cover the closing costs, you pay more interest on the loan itself. If you stretch this out over a 30-year term, you could be paying thousands more than what the closing costs actually cost at the closing.

If you won’t be in the home for the long-term, rolling the closing costs into your loan may not be a bad idea. Let’s say you plan to stay in the home for five years. That means you’ll pay just a small portion of the closing costs, plus the interest on the loan for 60 months. You’ll still have cash in your pocket from the money you didn’t put out upfront for the closing costs and you won’t pay thousands of dollars in interest.

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What are Your Other Options?

If you decide that paying thousands of dollars in interest isn’t worth it or you don’t qualify to roll the closing costs into your loan, you have a few other options.

First, you can ask the lender for a ‘no closing cost loan.’ While the name suggests that there aren’t any closing costs, the lender actually pays them for you. No, they don’t do this out of the goodness of their own heart, though. They increase your interest rate in exchange for the lack of closing costs. Typically, it costs you an extra 0.5% in your interest rate to get the lender to cover your closing costs.

You can also ask the seller for assistance. Sellers are able to contribute between 3% and 9% of the purchase price of the home to help you with closing costs. FHA and USDA loans allow up to 6% and conventional loans allow between 3% and 9% depending on the amount of your down payment. Just like wrapping the closing costs into your loan, sellers typically increase the price of the home in order to make enough profit while helping you with the closing costs. It can be a viable alternative when a lender won’t allow you to wrap the costs into your loan, though.

The answer to ‘can closing costs be rolled into a mortgage’ is that you must look at the big picture first. If you are buying a home, your better option may be seller-paid closing costs as there may be more room for opportunity there. The largest factor standing between you and help with your closing costs is the value of the home, though. If there isn’t enough value to inflate your loan amount, then you’ll have to resort to paying the costs yourself or asking friends/relatives for gift money to help you with the costs.

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Buying an Old House? Pay Close Attention to these Issues

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Buying a house can be exciting and complicated at the same time, but buying an old house can be even more complicated. Before you dive into that rare find, make sure to consider the following factors.

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It May be Built With Hazardous Materials

Older homes were built with older materials, many of which are hazardous. Asbestos and lead paint are the two most common hazardous materials found in older homes.

Asbestos was commonly used in insulation and fireproofing material and lead paint was commonly used in all homes prior to 1978. It’s important to pay for an inspection that will determine if either of these issues exists.

Lead paint is toxic, especially for children. Experts also believe that asbestos causes lung cancer and other serious respiratory issues. Give careful consideration to the purchase of an older home that has either of these issues. If you do still want to buy the home, you’ll need either issue cared for by a professional that knows how to effectively fix the issue without putting anyone’s health at risk.

There May be Mold or Mildew Growth

Cracks, leaks, and faulty building materials all lead to water dripping into a home. If not caught and if the environment is just right, mold and mildew can grow in the home. They are most common in basements and attics where it’s dark and moist, but mold and mildew can grow anywhere including inside windows, in bathrooms, and anywhere else in the home that water leaks.

If the mold and mildew growth is excessive, it’s best to hire professionals to remove it. Trying to remove it yourself could be time-consuming and risky for your health. The professionals know how to protect themselves as well as everything else in the home to avoid spreading the mold spores.

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The Roof May be Historic

It’s common to check the integrity of a roof when you buy a home, but you may be dealing with a different problem when buying an old home. Roofing on some homes has a historic grade. This means you may have to get approval before restoring it and you may have to use certain materials according to the guidelines.

There May be Electrical Issues

Electrical systems in old homes are often as old as the home. This means they probably won’t meet today’s fire code and could pose a serious hazard. Before you assume the home has proper wiring and can handle the electrical needs that you have, make sure to have it inspected.

While having the home rewired can be an expensive investment, consider it an investment in your safety. Faulty wiring can be a serious fire hazard, which can put your home and your own lives at risk.

The HVAC Systems May be Inefficient

If the HVAC systems are as old as the home, chances are they either aren’t working or aren’t efficient. Most older homes didn’t have air conditioning, so pay attention to that important detail. While the home probably has a furnace, there’s no guarantee that it’s in good working condition or that it too isn’t a fire hazard. Having the inspector thoroughly inspect the HVAC systems can help you ensure your safety.

You May Not be Able to Make Major Renovations

If the home is in a historic district, you may be limited on the changes you can make to it. Even if the home isn’t in a historic district, there may still be limitations from the building and planning department of your city. Knowing ahead of time what you can and cannot do can help you make the right decision.

Buying an old home comes with its own issues. While you should always pay for an inspection when buying a home, you want to find an inspector that is experienced in dealing with old homes. This way you know he or she inspects every nook and cranny of the home and gives you a thorough report in order for you to make a decision.

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Buying a Condo with FHA Financing

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FHA loans and condos are often the two things first-time homebuyers want. But do they go hand-in-hand? Even if you aren’t a first-time homebuyer, can you buy a condo with FHA financing?

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The short answer is ‘yes,’ you can buy a condo with FHA financing. The longer answer is that you can buy a condo with an FHA loan, but you have to follow the strict requirements set by the FHA. Any loan program has stricter requirements when it comes to condos because they are ‘riskier’ than a single-family home.

Keep reading to learn what you need to secure FHA financing on a condo.

The Condo Must Have FHA Approval

Perhaps the largest hurdle to jump when buying a condo is getting FHA approval. This goes beyond what the lender will allow. The FHA must say that it’s okay for FHA borrowers to use FHA financing to buy a condo in that development.

Here’s what it takes for the FHA to approve a condo development:

  • No more than 25% of the units in the development may be for commercial purposes
  • One person (investor) cannot own more than 10% of the units
  • A majority (85%) of homeowners in the development must be on time with their HOA dues
  • At least half of the units must be primary residences
  • The FHA must approve the association’s budget and financial status
  • The association must not be involved in any litigation or have any pending litigation against them
  • The development must have adequate property insurance

These are the FHA requirements in a nutshell. They look at each development on a case-by-case basis. Because when you buy a condo you buy more than your own unit, you buy into shared property with the other owners, the FHA needs to make sure the association has things under control. They need to know that one person doesn’t own a majority of the units or that the units aren’t mostly rented out or used as condotels.

The Easiest Way to Buy a Condo With FHA Financing

Do you want the easiest way to purchase a condo if you are an FHA borrower? Find a development that the FHA already approved. There are plenty of them throughout the United States. This way you cut down on the red tape and the time it takes to get to the closing.

HUD offers a list of FHA-approved condos on their website. You can make your search as narrow or as broad as you like. For example, you can search by ‘all states,’ but you can probably narrow your search down to at least the state you want to live, or even as narrow as a specific county. If you found a particular development you are interested in already, you can also search by condo name.

Your real estate agent can also be a valuable resource when helping you find an FHA-approved condo. Use a realtor that is familiar with using FHA financing on a condo for the best results. Real estate agents have early access to MLS listings, which the realtor can tell if the development has FHA approval or not.

Buying an Unapproved Condo

If you happen to fall in love with a condo that doesn’t have FHA approval yet, you are in for a longer ride. The development must get FHA approval in order for you to move forward with your financing. Keep in mind that the association isn’t obligated to request FHA approval – it’s up to the directors if they want to go through the approval process or not.

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The condo development’s status will determine how long the process will take. If you happen to find a development that was once FHA approved, but has since let the approval expire (they have to keep renewing their approval), you may get by with a streamlined approval process if the approval expired within the last six months.

If the development’s approval expired more than six months ago or they never had approval, they must go through the process from scratch. This means proving all of the factors we stated above plus resolving any other issues that come up during the approval process. It can take as long as 4 – 6 weeks to get FHA approval.

Securing FHA Financing for Your Condo

The good news is, though, that the qualifications to get FHA financing for a condo are the same as if you were buying a single-family property. You need a 580 credit score, 31% maximum housing ratio, 41% maximum total debt ratio, and a 3.5% down payment.

Some lenders may require a few compensating factors to make up for the risk of default that a condo poses, but that’s not always the case. Lenders have to follow the FHA rules and then can add their own requirements on top of that – they call it a lender overlay. If you come across a lender that is especially tough on borrowers buying a condo, keep shopping around with other FHA lenders to find one that doesn’t have the overlays.

Buying a condo with FHA financing is not impossible, but it definitely requires a little more work. Finding a condo development that the FHA already approved is certainly the easiest way to go about it, but you can always request approval to see how the process goes for you.

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Should you Refinance to Remove Mortgage Insurance?

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If you put less than 20% down on your home when you bought it, you probably pay Private Mortgage Insurance as a part of your mortgage payment. If you took an FHA loan, no matter how much money you put down, you must pay mortgage insurance each month.

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You may wonder if it makes sense to refinance your loan to get out of the PMI if you have the chance. In some cases, it may make sense, but certain factors have to fall into place. Keep reading to learn if it’s right for you.

What Will it Cost?

Your first consideration should be the cost. You can’t refinance for free. So what will it cost? Do you have the money available to pay the closing costs or will you wrap the costs into your loan? This will make a difference in what you should do.

If you have the money to pay upfront, you can keep your mortgage payment down and enjoy the PMI free loan, assuming you have at least 20% equity in the home. If you wrap the costs into your loan, you increase the principal balance of your loan. This makes your payment higher. While you still might avoid PMI, you just made your loan balance higher, which means it will take longer to own the home free and clear.

What’s Your Break-Even Point?

Putting the cost aside for a second, it’s time to figure out your break-even point. It’s not enough to assume that you’ll save because you won’t pay PMI anymore. You need to know when you will start realizing those savings. This goes back to the closing costs. How long will it take you to pay back the closing costs based on the savings you’ll earn?

Here’s a quick formula that you can use:

Total closing costs/Monthly savings on new loan = Months to break even

Just how long is a ‘good amount of time’ depends on your circumstances. Typically, a break-even point of three years or less is feasible. But, that’s only if you are going to stay in it longer than three years. Let’s say that your break-even point is 3 years and you are going to move in 4 years. Does it make sense to fork over the money for closing costs just to save a little money over the course of one year? It probably doesn’t make sense.

On the other hand, if you plan to stay in the home for the foreseeable future and it will only take 3 years to pay off the closing costs, then it may make sense to do so. You have to know that break-even point as well as your plans to figure out what’s right for you.

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Can You Get the PMI AutomaticallyRemoved?

If you have a conventional loan, you should know about a little rule that conventional loans have. You are able to request that the lender remove your PMI once you owe less than 80% of the home’s value. This could be the home’s original value or the current value, if it increased. You may have to pay for an appraisal to prove the higher value of your home, but that costs peanuts compared to a full-blown refinance.

If you know that you owe less than 80% of the home’s value, you can request removal of the PMI in writing. The lender will then evaluate the situation to determine if you do in fact ow less than 80% of the home’s value.

Here’s another fun fact, though. If you don’t request that the lender remove the PMI when you owe less than 80% of the home’s value, the lender has to remove it once you owe 78% of the home’s value. It’s an automatic removal. You don’t have to request the removal in writing or prove anything. The lender must remove it on their own.

If you are close to this point, it may not make sense to pay to refinance since you can get the PMI removed free of charge. If you are happy with your current loan’s term and interest rate, it may be better to just leave the loan alone and let the PMI fall off on its own.

As you can see, every borrower has a different situation. It’s up to you to figure out which option works the best. Weigh the pros and cons of each situation to help you decide which option will leave you with the best results.

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Pros and Cons of a Small Down Payment on a House

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Did you know that you don’t have to put 20% down on a home to get financing? Today many programs allow down payments as low as 3% and there are even programs that don’t require a down payment at all.

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While this sounds ideal, it may not be the best for everyone. Keep reading to learn the pros and cons of making a small down payment on a home.

The Benefits of a Small Down Payment

First, we’ll start with the benefits of a small down payment.

  • You’ll have money in reserves. It’s always a good idea to have money in an emergency fund when you own a home. What if something breaks as soon as you move in or you realize that you need to buy a specific appliance? If you don’t have the funds, it can put you in a dire financial situation right away. Instead, you can have the money sitting in your savings account for that rainy day.
  • Makes it easier to buy a home – If you can find a loan program, such as the FHA or even a conventional loan that requires a low down payment, you may be able to buy a home sooner than you thought. If you are forced to wait until you have a 20% down payment, on the other hand, it can take longer.
  • You increase your rate of return – When you put less down on the home, but your home appreciates, you are able to earn a higher rate of return. The more money you put into the home, the less you make in equity; you are just making back what you put into the home.

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The Downsides of a Small Down Payment

Of course, there are downsides to a small down payment.

  • You’ll have little equity – If you ever want to access the home’s equity to make improvements to the home or even pay for another large expense, you won’t’ have any for quite a while. Gaining equity in the home with a small down payment can take many years.
  • You’ll pay mortgage insurance – Whether you opt for a conventional loan or a government-backed loan, you will pay mortgage insurance on the loan. If you take an FHA or USDA loan, you will pay mortgage insurance for the life of the loan. Conventional loans only require it until you owe less than 80% of the home’s value.
  • You’ll pay a higher interest rate and have a higher payment – The less money you put down on a home upfront, the more your payment will cost you. Lenders typically charge higher interest rates because of the higher risk of default. Your payment will then be higher but even with the same interest rate, your payment will be higher because of the higher amount of your principal balance.
  • It’s tougher to win the bid on the home – If you are trying to buy a home in a competitive market, sellers may favor the buyers that put more money down on the home. A higher down payment often means an easier time getting financing, which is what the seller wants as they don’t want to lose the offer that they accept.

It’s a Personal Decision

Each situation is different when it comes to making a down payment. Sometimes a large down payment is good, especially if you will stay in the home for the long-term and you have reserves set aside on top of the down payment. If you aren’t sure about your longevity in the home or you worry about your financing future, though, making the smaller down payment may be the better option.

You have to weight the pros and cons of each side. It helps if you talk to a few lenders and even your tax advisor to see which option will suit you the most in the long run. It’s not an easy decision to make and it’s not a decision you should rush into. Instead, take your time and decide which option is right for you.

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How to Buy a Home without a 20% Down Payment

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Did you know that you don’t need 20% down on a home to get a mortgage? It’s just one of those myths that have stuck around through the years. Today there are loans that allow much lower down payments and a few that don’t even require a down payment!

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Keep reading to learn the steps you should take to buy a home with less than 20% down on it.

Ask Yourself the Following Questions

Are you a veteran?

This is the first one. If you are and you served at least 90 days during wartime; 181 days during peacetime, or 6 years in the National Guard/Reserves you may be eligible for a VA loan. What’s so special about the VA loan? For starters, you don’t need a down payment. The VA allows lenders to give you a 100% loan and they don’t charge mortgage insurance!

If you are a veteran with enough time served and you have an honorable discharge, check with the VA to see if you have home loan entitlement. If you do, you may have a 100% loan waiting for you!

Do you live in a rural area? Do you make less than the average for the area?

These questions are a little trickier. If you live in a rural area, as determined by the USDA, and you make less than 115% of the average income for the area, you may qualify for a USDA loan. This is another government-backed loan. With the USDA loan, you don’t have to make a down payment – you can get 100% financing.

The eligibility for the USDA loan works a little differently, though. The USDA wants to know your total household income – not just the income of you and your co-borrower. They want to know the total household income because they know that multiple generations often live together and contribute to the household bills. The USDA loan is for low to moderate-income families. If your total household income is higher than 115% of the area’s median income, you wouldn’t be eligible.

The USDA does provide a few allowances though. For example, people with children living with them can deduct $480 from the total household income. This includes children under the age of 18 and over the age of 18 that are in school full-time. You can also deduct $480 for any disabled relatives living with you or $400 for any seniors living with you.

If you are eligible for the USDA loan, you can get 100% financing. You will pay an upfront mortgage insurance fee as well as annual mortgage insurance, paid monthly, so it’s a little different from the VA loan, but you still get 100% financing.

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If you don’t qualify for either of these, move onto the next step.

Qualifying for the FHA Loan

Your next step is to see if you qualify for the FHA loan. This loan allows just 3.5% down on the home and you don’t have to have excellent credit. In fact, the 3.5% down payment doesn’t even have to come from your own income – it can be a gift from a family member or employer.

FHA loans require a credit score of 580 and a maximum debt ratio of 31% on the front-end and 41% on the back-end. These are flexible guidelines, especially with the low down payment required. You can secure FHA financing only for a primary residence, though. The loan program is not for use on a second home or investment home.

FHA loans do charge mortgage insurance. In fact, you’ll pay it twice. The first time is at the closing – you’ll pay 1.75% of the loan amount. Next, you’ll pay it monthly in your mortgage payment. The lender will figure out the mortgage insurance which equals 0.85% of your loan amount and divvies it up amongst your 12 monthly payments.

Trying the Conventional Loan

Your final option for a low down payment loan is the conventional loan. This is the loan that most people think you need 20% down on. While you do need 20% down if you don’t want to pay PMI, you can get by with a down payment as low as 5% and still get the loan.

The difference with the conventional loan is that you need great credit and low debt ratios. The conventional loan requires at least a 680 credit score, a maximum 28% housing ratio and a maximum 36% total debt ratio.

If you qualify, you’ll pay PMI on the loan for as long as you owe more than 80% of the home’s value. Unlike any of the government-backed loans, once you owe less than 80% of the home’s value, you can cancel the PMI and keep the same loan.

There are many options for you to get a loan even if you don’t have a 20% down payment. Go through the options to see which one will suit you the best, and then look for a suitable lender. You may want to get quotes from a few lenders to see who offers the best interest rates and closing costs for your situation.

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How Much do You Really Need to Buy a House?

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You know you want to buy a house, congratulations! Now comes the hard part – saving money for the house. You know there are different loan programs out there, so just how much money do you need?

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We will help you understand the different requirements below.

Difference Between the Down Payment and Closing Costs

First, know that the down payment isn’t the only thing you need to think about when buying a house. You also have to pay closing costs. These are separate from the down payment. The closing costs can add up to as much as 3% – 5% of the loan amount.

Here’s an example. If you plan to put down 20% on a $200,000 home, you would need $40,000 just for the down payment. You would then need between an additional $6,000 to $10,000 for the closing costs. This means anywhere from $46,000 to $50,000 to close on the loan.

Do You Need a 20% Down Payment?

Now here’s the real kicker – you don’t need a 20% down payment. Many people believe this is the only way to get a loan, but it’s not. You can put down as little as 3.5% in some cases. In fact, some loans even allow you to get away with no down payment; you just pay the closing costs! So how do you know how much you need? It depends on the type of loan program you choose.

Conventional Loans

Conventional loans carry the stigma that you need a 20% down payment, but that’s not the case. Yes, you need 20% down if you don’t want to pay Private Mortgage Insurance, but you can still get conventional financing without that large down payment.

You’ll find conventional lenders that allow you to put down as little as 5% on the loan. This does mean you will have to pay PMI until you owe less than 80% of the home’s value, but it gives you the chance to get conventional financing with its low-interest rates and attractive terms.

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FHA Loans

If you don’t qualify for conventional financing because your credit score is too low or your debt ratio is too high, you may want to consider an FHA loan. With FHA loans, you only need a 3.5% down payment. The FHA allows lenders to provide you with 97.5% financing.

In exchange for the large loan amount, you’ll pay an upfront mortgage insurance fee as well as an annual mortgage insurance fee. The annual MIP is added to your mortgage payment each month. You pay 1/12th of the annual amount each month. FHA loans don’t offer the option to eliminate MIP after you owe less than 80% of the home’s value, though. You pay the MIP for the life of the loan, so keep that in mind.

VA Loans

If you are a veteran of the military, Reserves, or National Guard, you may not need a down payment on your home. If you are eligible for VA financing and qualify, you can borrow 100% of the home’s purchase price. VA loans only charge an upfront funding fee in exchange for offering this loan to you; they don’t make you pay for mortgage insurance.

It’s important to remember that even with a 0% down payment loan, like the VA loan, you’ll still need the money to pay the closing costs. Lenders will verify these funds just as they would if you were to put money down on the home.

USDA Loans

USDA loans are another government loan program that provides 100% financing on your home. The catch with USDA loans is that you must be a low to middle-income family in order to qualify. You also must buy a home in a ‘rural’ area. The USDA has loose guidelines regarding what is rural, so you may be surprised to find the areas that you can live and still get 100% financing. USDA loans do charge upfront and annual mortgage insurance, though, just like FHA loans do.

So how much money you should save to buy a house depends on your situation. Obviously, the more you save, the lower your mortgage payment will be. It’s also the less interest you will pay over the life of the loan. If you don’t have money to put down on the home and cover the closing costs, you may want to consider a government-backed loan, such as the USDA or FHA loan to help keep your costs down as low as possible.

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Best Ways to Finance Home Improvements

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You want to renovate your home, but find yourself without the cash to do so right now. While you might be able to obtain a personal, unsecured loan, the interest rates on it might be higher than what you want to pay. Another option is a home renovation loan. You have several options when you already own the home. Lenders may offer you a home equity line of credit, a home equity loan, or a cash-out refinance.

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No matter which loan you choose, you’ll pay interest. How much interest you pay does depend on the loan, though.

Home Equity Line of Credit

The HELOC, or home equity line of credit, usually has the lowest interest rate. Don’t fall for this loan just yet, though. Yes, you do get a low introductory rate, but the rate is variable. In other words, it could change from month to month. There’s no way to predict your rate either.

The good thing about the HELOC is you only pay interest on the funds you use. Let’s say you take out a $50,000 HELOC, but you only draw $10,000 of the funds right away. You would then only pay interest on that $10,000. If you leave the remaining $40,000 untouched for the remainder of the term, you’ll never pay interest on those funds.

Home Equity Loan

The home equity loan works a little differently. With this loan, you don’t get to draw funds as you need them. Instead, you receive the funds as one lump sum. You can put the funds in a savings account or some other safe place to use them as you need.

Because you draw all of the funds at once, though, you start paying interest immediately on the full amount. The interest rate charged on this loan is usually slightly higher than the HELOC too. But, your chances of securing a fixed-rate are much higher on this loan. So you may pay a little more interest upfront, but you never have to worry about the rate changing.

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Cash-Out Refinance

Your final option is the cash-out refinance. With this loan, you refinance your first mortgage and take out a larger amount. Let’s say you owe $150,000 on your current mortgage, but your house is worth $300,000. You may be able to take out up to 80% of the home’s value with the cash-out refinance. In this case, that means an additional $90,000 for your home renovations.

Lenders take a risk when they give you a larger loan than your outstanding first mortgage. Because of this, the interest rate on the cash-out refinance is usually the highest amongst the three choices. This doesn’t make it the worst choice, but it does mean it will cost you more to keep this loan, especially if you take a 30-year term. The longer you borrow the money, the more interest you will pay on it over the life of the loan.

So do home renovation loans carry higher interest rates? It depends on the chosen loan as well as your qualifying factors. Just like any other loan, lenders base your interest rate on the risk you pose. If you have borderline credit scores and high debt ratios, you may end up paying higher interest rates. If, on the other hand, you have great credit and low debt ratios, lenders may give you access to lower interest rates even on a home renovation loan.

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When is Private Mortgage Insurance Required?

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Private Mortgage Insurance, or PMI, is an insurance that protects conventional lenders. In other words, if you take out a Fannie Mae or Freddie Mac loan, you may pay this insurance. It only applies to borrowers that put less than 20% down on their home, though.

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If you qualify for conventional financing with a down payment less than 20%, you’ll pay PMI, which is a percentage of your loan amount. The exact amount you pay depends on your credit score and your loan-to-value ratio.

Typically, the less money you put down, the more insurance you will pay. The same is true with your credit score. The lower your credit score is, the more insurance you will have to pay.

What is Private Mortgage Insurance?

PMI or Private Mortgage Insurance is a policy that covers the lender – not you. So even though you pay the premiums, it’s insurance to protect the lender. Because the lender takes a risk giving you a mortgage with less than a 20% down payment, the insurance is required. This gives the lender a little relief should you default on the loan.

How Much is PMI?

As we stated above, the amount you pay will vary. On average, though, borrowers pay 0.3% to 1.5% of their loan amount annually. The lender will charge you 1/12th of the annual amount with each mortgage payment. This figure gets included in your debt ratio to help lenders determine if you still qualify for the loan.

Can You Cancel PMI?

There are several ways you can get out of paying PMI. At the onset of the loan, though, there is no way around it. If you put less than 20% down on a conventional loan, you must pay the insurance.

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Moving forward, though, you may be able to get out of paying the insurance for the long-term using one of the following methods:

  • Pay your principal down faster. If you make just the minimum mortgage payments required, you will stick to the standard PMI schedule as it shows on your amortization schedule. If you make extra payments towards the principal, though, you may knock the principal down faster. This means you’ll hit 80% LTV faster, which means quicker elimination of the PMI.
  • Keep track of your home’s appreciation. If you notice homes in the area are selling for more than what you thought your home’s value was, consult with a professional. An appraiser will be able to tell you if your home appreciated enough to help you eliminate PMI. If it did, you can pay for a professional appraisal and petition the lender for the elimination of the PMI.
  • Make home improvements that increase your home’s value. If you plan to renovate your home, make improvements that will increase your home’s value. If it increases enough and you pay the principal down far enough, you may see 80% LTV sooner rather than later, allowing you to remove PMI.

PMI is Different than FHA MIP

Don’t confuse conventional Private Mortgage Insurance with the FHA’s Mortgage Insurance Premium. The FHA insurance is government-backed and required for the life of the loan on every FHA loan. With the FHA loan, it doesn’t matter how much you put down on the home. The minimum requirement is 3.5% of the home’s purchase price. If you put down more, it doesn’t help your MIP. You pay the same amount as every other FHA borrower, which right now equals 0.85% of your loan amount.

The only way to get out of FHA MIP is to refinance the loan into a conventional loan. If you do this, though, it’s best to wait until you owe less than 80% of the home’s value. This way you won’t be stuck paying PMI too and you can start fresh on your conventional loan.

PMI does offer some benefits, even though it’s another charge on your mortgage payment. Without PMI, you might not be able to get a conventional loan with less than 20% down on a home. This makes the guidelines a little more flexible and conventional loan programs more accommodating.

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