With major government incentives, lockdowns and many of us working from home over the past year, Australians are spending in record amounts on home renovations. According to the Australian Bureau of Statistics, the monthly value of approved home renovations was $1.14 billion in March alone! But just how are we funding this?
Well, for home renovations, equity can be a valuable resource. It’s important to know how to use home equity in order to renovate a home without going into debt. Instead of taking out a new loan or dipping into savings, here’s how you can use home equity as a way of financing the changes you want to make to your home.
Understand your equity
Equity is basically the difference between the market value of your home (it’s worth) and what you owe to your lender on your loan. If you’ve got $400,000 owed on a mortgage when your home is worth $500,000, then you have $100,000 of equity.
Equity reflects both how much of your home loan you’ve paid off plus
any change in your property’s value over time – the more your property’s value has increased, the more equity you’ll have.
You can better calculate your renovation budget once you’ve figured out your equity. This means you will have to restructure your home loan, but be wary, many lenders won’t let you tap into all
of your equity – you will still have to comply with loan-to-value ratio (LVR) limits. This is why you should seek financial advice before you green light those renovation plans – you must be clear on how much you can borrow, and what you would like to spend.
How do you access equity?
Many Australians are looking to make changes to their work-from-home set up, or looking to fix up their kitchen, or repaint the walls. Whatever the renovation plan is, if you have at least 20 per cent equity, you’ll be able to make these cosmetic changes by taking out a line of credit loan. This will be limited to 80 per cent of your LVR.
What if you’re looking to knock out a wall, remodel the kitchen, or redesign the home office? For large-scale renovations that involve structural changes, you may need a construction loan. With these unique loans, your maximum borrowing amount is based on what the value of the property is predicted to be after
construction, rather than the current market value.
We all know the construction and renovation budgets can very quickly explode so take the time at the outset to carefully figure out how much everything will cost you, and be as specific as you can be. Factor in even the most minimal of costs.
Once you have a good idea of what your budget will be, you might realise that you’re lacking enough equity to finance your home improvement project. This is why it always pays to have a contingency plan in place.
Using your mortgage to build up funds
If you’ve budgeted for a renovation that will set you back $50,000, then you can plan ahead, by making additional mortgage repayments for a few months, which will gradually build more equity into your home.
Hopefully your home loan has maximum flexibility so that you’re in a position where you can pay-in more than the minimum amount. You can pay extra into your loan, or utilise a redraw facility or an offset account, to be able to access the extra funds when you decide to start your renovations.
This is why it pays to set off on the right foot. With any renovation plans, do your due diligence and budget carefully
. Make sure you have your contingency plan in case the renovation costs turn out to be more than expected.
Whatever your circumstances, quality financial advice should be one of the earliest steps you take. Using equity to finance renovations might be suitable to one family, and completely unsuitable for another.
If you have any questions or concerns about financing your renovations, taking out a loan or investing in property, reach out to us today.