Paying for your project: home equity financing vs. home improvement loans

As a homeowner, you probably have a laundry list of home improvement projects on your wishlist. Kitchens age, your style changes, roofs, and furnaces need to be replaced – there is always something you can do to customize your home to your family’s needs.  

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Unfortunately, home renovations don’t come cheap, which is where financing comes in. A few options you may be comparing include a home equity loan vs. home improvement loan, or a home equity line of credit vs. home improvement loan. We’ll help you decide whether a specialized home improvement loan is a better fit for you than using a home equity loan or HELOC for home repairs. Let’s dive in to our top product types: 

Home improvement loan

A home improvement loan is any type of loan offered for the express purpose of home renovation. While there are a few specialized products on the market, including government-backed FHA loans, most home improvement loans are just personal loans marketed for home renovation purposes. 

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That makes them simple. You apply for a loan, qualify based on your credit score and income, and receive the funds in a lump sum, which you can then use to pay for your project. Loan amounts generally range from $1,000 to $100,000. 

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Pros: 

• Fast funding
• No risk of losing your home
• Fewer closing costs 

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Cons: 

• Higher rates
• Excellent income and credit needed 
• Shorter repayment periods 

Home equity financing 

With home equity financing, you get funding secured by your home – meaning that you use your home as collateral for the loan. There are multiple types of home equity financing products on the market, with different features, terms, and costs. The amount you can borrow is determined by how much your home is worth and how much you owe on your mortgage. These types of loans are considered less risky for lenders because they can foreclose on your home if you fail to repay. 

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Pros: 

• Better rates
• Higher loan amounts
• More repayment options 
• Potential tax benefits when used for home renovations 

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Cons: 

• Slower funding timelines 
• Higher closing costs
• Risk of losing your home if you default 

Home equity loan vs home improvement loan

Comparing a home improvement loan vs. home equity loan has a few more key similarities than comparing a home equity loan vs. other home equity options.

How it works

Both of these products are conventional loans – you receive a lump sum of cash and repay via monthly payments toward the interest and principal of the loan.

Key differences 

While these products have many similarities, there are a few key differences. One of the main ones – home improvement loans are unsecured, while home equity loans are backed by your home. Defaulting on a home equity loan carries the risk of losing your home. Additionally, a home equity loan often requires an appraisal to confirm the value of your home, leading to longer funding timelines. Let’s compare and contrast: 

Home equity loans

• Term – 5 to 30 years
• Interest rate – 7 to 16% in current rate environment 
• Loan amount – $20,000 to $400,000
• Repayment structure – Fixed-rate, monthly payment of principal and interest for the duration of the term 
• Fees – Origination fees, closing costs, appraisal fees 

Home improvement loans

• Term – 1 to 12 years
• Interest rate – 7.5 to 35% in the current rate environment 
• Loan amount – $1,000 to $100,000
• Repayment structure – Fixed-rate, monthly payment of principal and interest for the duration of the term 
• Fees – Origination fees (some lenders may not charge this for well-qualified borrowers), prepayment penalty for early repayment 

Home equity line of credit vs home improvement loan

There are some big differences between a home equity line of credit (HELOC) and a home improvement loan. While a home improvement loan comes to you in a lump sum payment, a HELOC is more similar to a credit card that is secured by your home. 

How it works 

With a HELOC, you get a maximum draw amount determined by your home’s value. For the duration of the draw period, generally 10 years, you can borrow up to that maximum amount. When you pay down your balance, you can take out more funds. During the draw, you’ll make interest-only payments on only the funds you use. 

After the draw period ends, you’ll enter the repayment phase, generally 20 years. During the repayment phase, you cannot take out additional funds, and you’ll make payments toward both your principal and interest. 

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The flexibility of a HELOC can be a particularly useful feature for a major renovation project, where hidden costs are likely to jump out of the woodwork at any given time. 

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Another key difference between HELOCs and home improvement loans: HELOCs almost always come with a variable interest rate. 

Key differences 

While both HELOCs and home improvement loans will eventually need to be repaid, the similarities stop there. In addition to the differences that carry over from a home improvement loan vs. home equity loan (you’ll need an appraisal to get a HELOC, and the line of credit is also secured by your home), the structures of the two products are completely different:

Home equity line of credit (HELOC) 

• Term – 10-year draw period, 20-year repayment 
• Interest rate – 7 to 16% in the current rate environment. You’ll generally get a lower rate with a HELOC than a home equity loan. 
• Loan amount – $10,000 to $1,000,000 (depending on your home equity and the lender) 
• Repayment structure – Variable rate. Interest-only payments for 10 years, and interest and principal payments for the remainder of the term. 
• Fees – Origination fees, closing costs, appraisal fees. HELOCs may also come with additional draw fees, annual fees, and other charges based on your usage (or lack thereof).  

Home improvement loans

• Term – 1 to 12 years
• Interest rate – 7.5 to 35% in the current rate environment 
• Loan amount – $1,000 to $100,000
• Repayment structure – Fixed-rate, monthly payment of principal and interest for the duration of the term. 
• Fees – Origination fees (some lenders may not charge this for well-qualified borrowers), prepayment penalty for early repayment 

Home equity investment vs home improvement loan

Another option for homeowners who would like to tap into their home equity to cover the cost of their renovation is a home equity investment. A home equity investment is different from a traditional loan – instead of making a monthly payment, you get cash in exchange for a share of your home’s future appreciation. 

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You repay the HEI company their share when you sell or at any other time before the end of the term, typically 30 years. 

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This option has been growing in popularity over the past decade and offers added flexibility for homeowners who don’t want to deal with a monthly payment during their renovation project. 

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Like a HELOC or a home equity loan, the home equity investment is secured by your home and requires an appraisal to move forward. 

Key differences 

Just about everything sets a home equity investment apart from a home improvement loan, from repayment structure to loan amount to term length. While a home improvement loan comes with very predictable costs – a home equity investment’s final cost is based on how your home appreciates, so you won’t know exactly how much you owe until it is time to repay. 

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HEIs also come with more flexible qualification requirements than either a home improvement loan or other types of home equity products – homeowners can qualify without an income and with credit scores starting from 500. 

Home equity investment (HEI) 

• Term – Up to 30 years, no prepayment penalty 
• Interest rate – N/A. You are charged a percentage of your home’s change in value from the start of the deal. 
• Investment amount – $25,000 to $500,000 (depending on your home equity)
• Repayment structure – Balloon payment at time of sale or any other time before the end of the term 
• Fees – Origination fees, processing fees closing costs, appraisal fees. 

Home improvement loans

• Term – 1 to 12 years
• Interest rate – 7.5 to 35% in the current rate environment 
• Loan amount – $1,000 to $100,000
• Repayment structure – Fixed-rate, monthly payment of principal and interest for the duration of the term. 
• Fees – Origination fees (some lenders may not charge this for well-qualified borrowers), prepayment penalty for early repayment

Which is right for you?

It’s impossible to say which product is the best fit for you without knowing your specific situation. Ask the following questions to help guide you toward the best financial tool for your needs: 

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• How big is your project, and how much cash will you need to make it a reality? Do you have a good handle on the approximate cost, or do you expect that number to change? 
• Are you comfortable with leveraging your home to pay for your project? 
• How much can you afford to pay monthly?  
• How strong is your credit profile? Are you likely to be offered the best rates? 

Final thoughts

Your dream home is within reach, and likely closer than you think. There are numerous financial tools available to help you complete your projects and make that dream a reality. Take the time to comparison shop and fully explore all your options, whether that’s a home equity line of credit vs home improvement loan, or another home equity financing tool. 

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If you are a homeowner with plenty of equity and would like to pay for your renovation project without monthly payments, you should consider an HEI from Point. It takes 60 seconds to see how much you can get.