How to finance your renovation

You love the area you live in, but your family has outgrown the house. Rather than packing up and moving into new digs, you can renovate your current home to meet your needs and avoid compromising on location.

Working with an architect or builder to decide how your revamped home will look is the fun part of renovations – determining how you will pay for it can be much more daunting, especially when renovation costs are rising. 

Here are some options you may want to investigate:

Personal loan

Personal loans come in all shapes and sizes. Most commonly used to finance a new car or a holiday, personal loans can also be a simple and cost-effective way to finance your renovation if you are spending less than $50,000. 

Although personal loan interest rates are generally higher than those of mortgages, an unsecured personal loan typically has a lower interest rate than a credit card. Additionally, personal loans have shorter loan terms – generally three to five years, compared to a home loan’s 20 to 30 years – so the interest costs can be minimised, with interest rates that can be fixed for the duration of the loan. 

Low-interest credit card

If your renovation is an inexpensive DIY project of minor cosmetic changes, you could consider using a low-interest credit card to pay for it. This could be handy if you are buying materials online or over the phone. 

But like any other credit card purchases, it’s important to manage expenses wisely and consider paying the debt as quickly as possible to minimise interest costs.

Redraw on your mortgage

If you have made extra payments on your mortgage and have a redraw facility, you may be able to access the extra money you “overpaid” and use it to finance your renovations. 

However, keep in mind that redrawing your extra repayments means you’ll lose the benefit of reduced interest charges on your mortgage because your mortgage principal will go up.

Refinance and extend your current mortgage

One common method to fund an extensive renovation is to refinance your home loan and increase your mortgage. 

This option relies on the equity you have built in your home, which is the current value of your home minus the amount you still owe on your mortgage. For example, if your home is worth $600,000 and you still owe $400,000, you have $200,000 equity in your home. 

Additionally, because your lender will likely want to you maintain a Loan to Value Ratio (LVR) of less than 80 per cent to avoid Lender’s Mortgage Insurance (LMI), your usable equity may be 80 per cent of your property value minus your remaining mortgage principal – in the previous example, 80 per cent of $600,000 is $480,000, minus your $400,000 mortgage would leave you with $80,000 of usable equity. 

It's important to remember that your lender may charge fees for refinancing and increasing your mortgage like this. Also, a bigger mortgage means that your loan repayments may increase and/or it will take you longer to pay off your mortgage.

Refinance to a new mortgage

Another common way to finance your renovation is by refinancing your mortgage with a new lender. As well as borrowing a little extra to help cover the cost of your renovation, you may be able to shop around for a lower interest rate and loan features that better suit your current financial situation and personal goals. 

Remember that when refinancing, you may have to pay exit fees from your existing mortgage, as well as upfront fees like application fees on the new mortgage.

As with any financial decision, your choice will depend on your individual circumstances. Be sure to consider all costs and research your options.

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