For example, if your home is worth $300,000, and you owe $200,000 on your mortgage, you have $100,000 in home equity.
You can tap into your home equity by applying for a home equity loan, which provides a lump sum amount; or opt for a HELOC, which functions like a credit card with a credit limit based on your home’s equity. If you use a home equity loan for home improvement projects, the interest you pay on these loans may be tax-deductible.
However, when using your home as collateral, it’s important to remember you also risk losing your property if you can’t repay the loan. Interest on these loans can also add to the overall cost of your project.
>> Related: Learn more about the differences between home equity loans and HELOCs
Personal Loans
Personal loans may be an attractive option for financing your detached structure, especially if you have a good credit score. Unlike home equity loans, most personal loans are unsecured, meaning they don’t require any collateral such as a home.
Interest rates on personal loans largely depend on your creditworthiness, though they tend to be higher than those on home equity financing options. If you have an excellent credit score, you may qualify for lower interest rates, making this a cost-effective option. However, individuals with lower credit scores may face higher interest rates, which could significantly increase the cost of borrowing.
>> Related: Learn more about the best personal loans
Construction Loans
If you’re starting from scratch and building a brand-new detached structure, a construction loan may work well for you. These short-term loans are specifically designed for financing construction projects and provide funding in stages.
Construction loans typically have a shorter term and require you to make interest-only payments during the construction phase. Once your project is complete, you can either pay off the loan or refinance it into a more traditional mortgage.
Construction loans can, however, be more complex to navigate than other financing options. You’ll likely need to provide detailed plans and cost estimates for your project to lenders. Lenders will also generally require a clear repayment plan so be sure to think through your finances ahead of applying.
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