When the time comes, replacing your roof is a big, important, investment. Since a new roof can cost $10,000 or more, paying cash is not an option for most homeowners. Financing, by taking out a home equity line of credit or a home improvement loan, is how most homeowners pay for the roof they need.
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A line of credit or a loan allows a homeowner to pay in installments spread out over time, which is easier to handle than an upfront cash payment in full. This guide will help you sort out the different types of home renovation loans so you can find the one that best meets your needs.
The first step is to contact at least three licensed contractors to discuss your roofing options and to get estimates on the cost of a new roof. Knowing how much your new roof will cost will help determine which type of financing works best for you.
Home Equity Lines of Credit (HELOCs)
HELOCs are revolving credit lines that typically come with variable interest rates. Your monthly payment amount will depend on the current interest rates and your loan balance.
HELOCs are very similar to credit cards, except the rates are generally significantly lower because your home serves as a collateral, whereas credit cards are considered a form of unsecured debt (with some of the debt often becoming uncollectable for Credit Card companies, hence requiring high interest rates) with much higher interest rates.
Once, you are approved for a certain HELOC amount, you can then draw any amount, at any time, up to your credit limit. You can pay the loan down or off at will.
HELOCs have two phases. During the draw period, you use the line of credit as needed, and your minimum payment may cover only the interest due for that month.
However, eventually, usually after ten years, the HELOCs draw period ends and your loan enters the repayment phase. At this point, you can no longer draw funds and the loan becomes fully amortized for the remaining years.
HELOCs offer low closing costs and are very convenient. They offer low monthly payments during the draw period. The downside of these loans is that they use variable interest rates, meaning the interest rate can rise in tandem with the Federal Reserve’s prime rate.
Also, your monthly payments can significantly increase once the repayment phase begins and you begin paying both the interest and the principle on the loan.
Homeowner’s Insurance Coverage
You might be able to use your homeowner’s insurance policy to cover the cost of a new roof. Many homeowners’ insurance policies also include roof replacement insurance, and hence will cover roof replacement if the roof was severely damaged by fire, wind, or hail. However, if your roof degraded due to age and general wear-and-tear and/or due to a lack of maintenance (no roof cleaning, allowing moss outgrowth, not dealing with issues like loose shingles in time, etc.), the insurance company won’t cover the replacement. One thing to consider is that making a claim on your insurance will, most likely, raise your premium in the future.
Cash is often the best option if the homeowner has plenty available. If you’ve been able to save enough money to pay for a new roof out-of-pocket, then you can avoid paying interest on loan installment payments.
The only downside to paying cash is that the savings you invest into your home would not be readily available in an emergency.
Roofing Company Payment Plans
Many roofing companies offer their own financing made possible through partnerships with various third-party lenders, with payment plans that make roof replacements projects more manageable for homeowners. Some roofing contractors can also help you secure a loan from a third party by acting as middlemen. Your roofing company will work with outside lenders to set up a program for you based on your budget and the cost of the roof.
With this option, you can spread out your payments over the course of several months or even years. These plans will charge you interest, which will add to the total cost of your roof replacement.
The benefits of financing through a roofing company can often outweigh direct lender financing. To get your business, roofing companies will often offer special promotions and financing that will beat banks and other lenders rates.
A roofing company can get special rates from their lenders because of the volume of lending they deliver. They pass these benefits along to their customers. When you are gathering estimates from roofing companies, it’s wise to also discuss any special financing options and interest rates they can offer.
Do make sure that you are comfortable with the program, that the interest rate is competitive with the current market rates, and that you can afford the monthly payments before signing with a roofing company.
Conventional Cash-Out Mortgage Refinances
A cash-out mortgage refinance is one of the most common ways to pay for a new roof. With a cash-out refinance, you refinance the existing mortgage for more than the current outstanding balance. You will then have a new first mortgage and you keep the difference between the old and the new loan and use that cash to pay for the roof.
You must have enough equity in your home to cover the cost of the new roof to make this a feasible option. However, if you don’t have the equity or your credit score is low, you may find it difficult to qualify for the loan amount you need.
If you do qualify, despite a mediocre credit score, you may pay more in interest and fees than someone with a higher credit score. Always check lenders fees, including interest rates and closing costs.
Cash-out refinances can offer larger loan amounts with fixed interest rates allowing you to calculate the total cost of the loan upfront. Depending on the market rates, your new mortgage may have a higher interest rate than your old mortgage. With a cash-out refinance, there are also closing costs, which can be expensive.
FHA Cash-Out Refinances
These cash-out refinances are backed by the Federal Housing Administration (FHA) and, therefore, reduce risk to lenders. Homeowners with lower credit scores and higher debt to income ratios are more likely to qualify for this program. Also, FHA cash-outs have a higher maximum loan to value (85%) than conventional cash-outs (80%).
FHA cash-outs offer a fixed interest rate. You may be able to get a lower interest rate than your current mortgage; if for instance, you are willing to convert a 30-year mortgage to a 15-year mortgage.
Note: FHA cash-outs typically charge an upfront fee of 1.75% of the loan amount, which is wrapped into the new loan. Also, you will be required to pay monthly mortgage insurance, which is typically $67.00 per month per $100,000 borrowed.
FHA Home Improvement Loan: The 203K
While these loans were designed to encourage buyers to purchase and rehabilitate deteriorated housing, they can also be used to refinance and raise cash for a new roof on your existing home. The loan can be for up to 97.75% of the value of your home after the improvements are done. These loans are available to someone with a lower credit score and offer a minimum down payment as low as 3.5%.
While these loans offer relaxed financial standards, they are offset by strict guidelines concerning the kind of home renovations that can be done. Renovations cannot include anything defined as “luxury”.
The 203K loan can be your most affordable option, even if you have a poor credit score, but it will likely require time-consuming paperwork to be filled out and that you meet all building codes, as well as health and safety requirements.
FHA Title 1 Loans
These loans are similar to other loans backed by the FHA. In this case, the FHA guarantees loans made to homeowners who want to make home improvements and repairs. With a Title 1 loan, you can borrow up to $25,000 for a single-family home, but loans over $7,500 must be secured by a mortgage or deed of trust. You do not need equity in your home and those with poor credit can still qualify.
State and Local Loan Programs
In addition to loan programs available through the federal government, there are many loan programs operated by all 50 states, as well as counties and municipalities. With a quick internet search, you should be able to find such programs.
VA Cash-Out Refinances
These are cash-out refinances guaranteed by the Veterans Administration (VA) and are very similar to those backed by the FHA. Only eligible service persons and veterans may apply.
The biggest advantage is that you can finance up to 100% of your home’s current value. So, even if you only have 10-15% equity in your home, it could make sense to use a VA loan for the cash needed to pay for a new roof. VA loans offer fixed interest rates and do not require you to pay mortgage insurance.
VA cash-out refinances can have higher interest rates than other types of loans and a new property appraisal and income verification will be required.
Home Equity Loans
A home equity loan is a fixed rate personal loan that is secured by the equity you have in your house. In most cases, you can borrow up to 80% of your homes current market value, less what you still owe on your mortgage. On average, home equity loans tend to be approved faster than cash-out refinances and have lower closing costs.
The potential downside is that you may have to settle for a smaller loan amount with higher interest rates. This type of loan will be fully amortized, so you will pay interest and principal from the start, allowing you to know what your monthly payments will be.
There are two basic types of personal loans, those secured with collateral, such as your home, and those which are unsecured by assets. With an unsecured loan, a lender will take a much harder look at your credit score, employment history and your income.
Only homeowners with little or no equity in their home, and the ability to repay them quickly, should consider these loans. The main advantage of these loans is that they are simpler and faster to obtain than mortgage refinances, home equity loans and HELOCs.
On the other hand, the interest rate for personal loans is often much higher than other types of loans.
Personal Lines of Credit
These are revolving lines of credit that allow you to borrow what you need, when you need it, up to your credit limit. These function in a similar way as HELOCs and credit cards and can be linked to your bank saving or checking account.
Although they offer more flexibility than personal loans and lines of credit, they have the same drawbacks. Almost all credit lines have variable interest rates, and if the rate is raised, the higher interest rate can be applied to all of your existing balance – something that credit card companies are not allowed to do.
Be sure to check with the lender to see how often, and by how much, they can raise your rate. If you’re not careful, a once affordable loan can become difficult to repay.
Credit card companies can charge extremely high interest rates, in some cases, above 22% on purchase balances. Assuming you don’t pay the entire balance within 30 days, credit cards can be one of the costliest home renovation financing methods. In general, there’s only one credit card financing case that makes sense.
On a new credit card, you can sometimes get an introductory, zero or very low, annual percentage rate (APR). This introductory period is typically 12 months. Use the card to finance the roof but pay the entire balance before the higher interest rate kicks in.
Credit Unions are member-owned financial cooperatives designed to promote thrift. Often their loans have some of the most competitive rates and terms available. Speaking to a couple would be a good investment of your time when looking for financing for a new roof.
Peer To Peer Loans
Peer to Peer lending programs, or P2P, anonymously match borrowers with lenders through an online platform. These platforms make money by charging origination fees to the borrowers and taking a cut of the repayments made to lenders.
For home improvement borrowers, peer to peer loans are personal loans that typically range from $1,000 to $40,000 and offer terms of one to five years. The interest rates start around 5.9% and go up from there with caps as high as 36%.
These loans are only feasible for those with very good credit scores, as the interest rate increases with poor credit scores.
If you qualify for a reasonable interest rate, these loans have a number of advantages. The application process is simple and fast, the rates are fixed and competitive with those offered by banks and credit cards for personal loans, and there are no penalties if you pay the loan off early.
As with any loan type, know the pros and cons of P2P lending programs before you sign on the dotted line.
Do your Research
When it comes to any loan, Rule #1 is, always shop around. Although it’s not a bad idea to start with a quote from your current mortgage company, don’t stop there.
Research lenders current interest rates, but also their closing costs and other fees associated with the loans. It’s not uncommon for lenders offering low interest rates to tack on higher closing costs or other fees. Also find out if a loan has a balloon payment, a lump sum that is due on a certain date.
Finally, if you can, borrow enough to give yourself some wiggle room in case the project goes over budget. For instance, in a roof replacement, already existing water damage to the roof deck might be discovered once the old roof is removed.
Replacing plywood or OSB (plywood is often the preferred choice for a roof deck sheathing or re-sheathing/re-plywooding) before new shingles are installed, will add significant costs to the project. These potential costs should be spelled out in your contract before you sign the contract.
Pro Tip: Don’t get caught off guard with unexpected expenses; always ask that the roof deck is properly inspected from the attic space as part of the formal roof estimating process to ensure that you “will not find out” later that there is significant damage to the roof deck.
The damage to deck can often be “seen” before the existing roof is removed through the underside of the roof deck, when the contractor inspects the roof deck for damage through the attic.
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