How Do Home Improvement Loans Work? Get All the Details

Is your home in need of a little attention? Or, you've found your dream home, it just needs a lot of work to make it perfect. In either case, you're probably wondering how home improvement loans work. Many homeowners rely on financing options for home improvement projects, which can cost thousands. So what is a home improvement loan, how does it work, and is it right for you? The answer lies in the type of loan you choose and the scale of your remodeling project. 

What Is a Home Improvement Loan?

A home improvement loan is a type of loan that lets you, as a homeowner, pay for home remodeling, renovations, repairs, or upgrades. You can use it to pay for many upgrades, such as remodeling your kitchen, adding solar panels, or building a new garage.

There isn't one single type of remodeling home loan. Instead, the options available depend on your credit score, the size of your project, and whether you already own your home or not. 

When researching your loan options, consider how much you'll need to borrow, the interest rate, and the loan repayment terms.

Home Improvement Loan Options

Home improvement loans come in two broad categories: secured and unsecured. A secured loan has collateral behind it—in this case, your home. If you stop making payments on the loan, the lender can claim your home. Unsecured loans don't have collateral. In exchange, they tend to have a higher interest rate.

It may be a lump sum amount, which you then repay in installments over a set period. Or, it may be a revolving loan, also called a line of credit. A line of credit works like a credit card. You have a set borrowing limit. You can borrow against it, repay, and then borrow more for as long as the credit line is open.

A few examples of home improvement loans include:

• FHA 203(k) loan: Can you add renovation costs to a mortgage? You can if you apply for an FHA 203(k) loan. The mortgage type allows you to buy a fixer-upper and use some of the borrowed amount to make repairs. 

• Home equity loan: If you already own your home and have paid off a chunk of your mortgage, you may consider using your equity to finance a remodel.

• Home equity line of credit (HELOC): A HELOC also lets you borrow against your home's equity, but it works more like a credit card than a lump sum installment loan. 

• Refinance: Similarly, if you've paid off a significant amount of your mortgage and interest rates have improved since you first got your loan, you may consider refinancing your loan to get some cash to fix up your home. 

• Personal loan: A personal loan is an example of an unsecured loan. There's no collateral, so the interest rate will likely be higher than for a home equity loan or mortgage. Personal loans have few restrictions, though, so you can use the funds for whatever you'd like. 

• Credit card: You can use a credit card to pay for your home renovations. However, cards often have much higher interest rates than other loan options. If you choose this option, look for a card that has a low introductory rate.

How to Get a Home Improvement Loan

The first rule of applying for any type of loan is to shop around. Different banks and lenders may offer considerably different rates.

Also, get a firm estimate from your local remodeling contractor so you know your borrowing needs before you apply for the loan. Depending on your current debt and borrowing history, you may need to focus on paying off existing loans or improving your payment history before you get a new loan. 

Once you've figured out how much you need to borrow and have chosen a lender, start the application process. The documents you need will vary considerably based on the loan type. For example, an FHA mortgage can require more documentation than a personal loan application. Your lender will let you know exactly what you need to provide, but it will likely include the following:

• Proof of income or employment history

• An appraisal (for home equity loans or refinance)

• Proof of identification

• Credit history