Construction Loan vs. HELOC: What’s Best for a Home Improvement Project?

Construction Loan vs. HELOC

Construction Loan vs. HELOC: It can be challenging to finance your home renovations. There are many options for funding your home improvement projects. We’ll be comparing two of the most popular so that you can make an informed choice. We’ll be discussing construction loans and HELOCs here.

How do Construction Loans work?

A construction loan to a specific home improvement or construction project.

A construction loan allows the lender to arrange a construction schedule. The contractor is paid directly by the lender in a series of “draws” or structured payments at a set point during the construction period. These loans are best for significant projects such as major renovations or additions.

There is a variety of types of construction loans.

Construction-to-Permanent Loans

A construction-to-permanent loan for new construction. The borrower typically pays only the interest for the duration of the construction period. The loan becomes a mortgage when the construction is.

This type of loan is cost-effective because there’s only one closing.

Construction-Only Loans

A construction-only loan (also known as a standalone construction loan) is another type used for new construction. However, once work, to repay the loan, the borrower must either pay the loan off with cash or get a mortgage. Separate loans allow wise borrowers to negotiate the best terms.

There will be two closings with their closing costs. This means that the upfront cost of a loan with one closing is slightly higher than one.

Renovation Construction Loans

A renovation construction loan is a typical construction loan for significant renovations. Finance major renovations or remodels. A mortgage once the project is completed or paid back separately.

Most lenders won’t approve the total cost of a renovation. The loan amount will typically be between 2-8 percent and 8-10 percent less than the total cost. The loan term is typically 3-5 years if it is considered a separate loan. It may also have a fixed rate or variable rate.

How to get your construction loan approved

A construction loan approval is usually more complex than a mortgage. The value of the home is what backs a mortgage. A construction loan is available if the home or improvements still need to be completed.

A lender will need evidence that, in the case where the renovation, will increase the property’s value. You will need your financial records to get a mortgage. Lenders want to see a ratio of 45% or less debt to income, good credit scores, and a down payment (for new construction loans) of up to 30%.

A detailed plan, budget, and timeline are essential for any project, whether a new build or a renovation. Sometimes, the lender may even require you to approve the contractor you hire for the project. Most contractors are familiar with these loans and will work with the lender to complete the project.

What is a Home Equity Line Of Credit and How Does It Work?

A home equity credit (HELOC ) allows borrowers to access their equity. HELOCs by your home equity offer competitive interest rates compared to other funding sources.

HELOCs offer great flexibility for ongoing renovations without a set contractor or schedule. Because it is a revolving credit, you can only use the amount you require and pay it back at any time.

A HELOC loan can be accessed in two phases:

  • Draw period: The borrower’s initial draw period is typically 5-10 years. It is the maximum amount that they can borrow at any one time. You can make interest-only payments or flexible payments during this period.
  • Repayment Period: The remaining balance must be paid back within 5-20 years, depending on the lender.

While most HELOCs offer variable interest rates, some can with a fixed rate. Although you can borrow between 80-90% and 90% of your home equity, the amount will vary from vendor to vendor.

Qualify for a HELOC

Alternatives To Construction Loans on how much you need to complete a project. HELOCs, on the other hand, are based on your home equity. You can use them for any purpose you choose. Prosper’s HELOC calculator can give you a quick estimate of how much you might be eligible for from a HELOC.

Calculating your credit eligibility for a HELOC will require you to enter your equity and loan/to-value ratio. The lender will assess your credit and financial situation before granting you a HELOC.

Comparison of Construction Loan and HELOC: The pros and cons

Which is better: a home equity loan or a construction mortgage? It all depends on your situation. Each has its pros and cons, depending on the type and scope of your remodeling project.


* Flexible access to funds that you can access when you need them

Secured loans offer competitive interest rates

* To keep your payments low, long repayment terms


* The longer repayment term can lead to higher long-term costs.

* Home equity limit may limit the loan amount

* Your home could be at risk if you default on your loan

Construction Loan Pros

* The loan amount is determined based on the home’s future value and project. It does not include equity.

* Short repayment term means lower long-term interest costs

Cons of a Construction Loan

* Pre-approved loan amount; little flexibility for unexpected costs

* Higher interest rates compared to a secured loan

For homeowners who don’t have a lot of equity or want to do projects that are more expensive than their equity, construction loans can be a great choice.

HELOCs offer a lot of flexibility and are ideal for small projects with a flexible budget or a series of incremental projects. You only pay interest on the amount that you withdraw from the HELOC. Helps to keep your costs down, mainly if you only use a small portion of your funds.

Cash-Out Refinances and Home Equity Loans

While home equity lines and construction loans are the most common options for financing a home remodel, they are not the only ones. Let’s take a look at three options for financing your extensive remodel.

Home Equity Loans

A home equity loan is similar to a home equity credit line. It allows the borrower to leverage their equity for a low-interest loan. A HELOC, unlike a HELOC, is a lump-sum loan with a repayment period that begins immediately.

LOANS have a fixed interest rate, while HELOCs can have adjustable rates. The payments are consistent throughout the loan’s term. The funds are upfront, so interest accrues right away. A HELOC is still an option for projects spread over a longer time.

When used to fund a home-remodeling project within a budget, a HELOAN is an attractive alternative. It often has lower interest rates and requires less reporting. It is a popular choice for people with a fixed income, such as retirees, because it offers consistent payments.

Cash-Out Refinances

Another popular way to finance remodels and renovation projects is a cash-out refinance. A cash-out refinance, which leverages your home equity, provides low-interest funds.

You can refinance your house for more than what you owe if you have equity in the home and receive the difference in cash. You can use the money for whatever purpose, but it’s wise to use those funds for remodeling.

It may not be an option if you have a high-interest rate or current rates higher than your original mortgage. You will also have to pay closing costs every time you take out a new mortgage.

Refinancing can save money if interest rates have fallen since your original mortgage. Refinancing doesn’t require you to make yet another monthly payment.

Home Improvement Loans

A home renovation loan is a lump sum that can then fund multiple remodel projects. These loans have a fixed interest rate and a specific repayment term. You will pay interest on the lump sum. However, the fixed monthly payments, and the payment due date, provide budget and cost certainty. You can usually repay the loan quickly and without penalty.

How to choose the right home renovation loan

There are many options for financing a home remodel or renovation. The best option for you depends on your financial situation and needs. You can mix and match various financing options to meet your financial needs. For example, you could take out a construction loan to finance most of the work and get a HELOC for overages, incidentals, and side projects.

Even if you are looking for a lump-sum loan like a home improvement loan or construction loan, it is worth arranging for a HELOC before the deadline. You want unexpected expenses to continue your project moving forward. It’s easy to fall into the trap of using credit cards or unsecured personal loans to pay for unexpected expenses without planning.

You don’t need to stress if you plan your budget and understand your options. You can weigh all your options and choose the best option for you.

How do I budget for a home renovation?

Home Advisor estimates that a home remodeling project will cost around $47,000. A kitchen remodels typically costs around $25,000, and a bathroom renovation can run around $10,000.

Please make a list of the projects you want to complete before you decide how to finance them. Prioritize the projects so that you want them to. Will allow you to make changes if necessary.

After you have created a list of potential projects, create a budget. Remember to include the cost of materials, new equipment, and labor. To account for unexpected costs or overages, changes to material costs, etc., it’s a good idea to add 20% to your home remodeling budget. For general inquiries: * Email: * Phone: +1 (571) 544-6600

Leave a Reply

Your email address will not be published. Required fields are marked *