Q. I'm thinking about refinancing my mortgage to renovate my apartment. What should I know in advance?
With interest rates at record-level lows, there's no time like the present to refinance your mortgage. Depending on credit scores, the dollar amount you need and the appraised value of your apartment, you can refinance for a higher amount than your current mortgage and withdraw the funds to finance your project.
However, if you own a co-op apartment, you will need to get your board's approval --- not only for the renovation plan --- but also for the amount of cash you need to pull out.
"If you have a high rate that has room to improve by refinancing, then if the numbers make sense keeping it as one loan may be best --- basically, a cash-out refinance pulling the equity out and lowering your rate at the same time," explains senior home loan consultant, Ali Kamalzadeh of First Choice Bank.
"If you already have a rate that is low and there's no benefit in refinancing, then a second mortgage"--also known as a home equity loan or line of credit--"may be best," says Kamalzadeh.
But often, he says, his clients don't like the idea of that second payment every month, and the loans often aren't available for co-ops. More on that later.
"Rates for renovation can vary depending on the bank, the exact loan program, amount borrowed, loan-to-value ratio, and more," says Beth Divney of Mortgagerate.com. "Interest rates don’t have to be higher [than a typical refinance], and currently rates are so low.”
Shop your loan. It’s best to contact multiple banks before selecting one. Brokers also deal with different lenders and can often find the best deal if there’s one to be had.
No reno proof necessary
“Once the refinance transaction closes, the bank won’t need to do anything further. They won’t request proof that you're renovating," says Sunny Hong of DE Capital Mortgage.
The amount you can borrow "will be based on your apartment’s appraisal, and usually the maximum is up to 80% of that appraised value, but there are amount limitations as well, which vary from lender to lender," says Hong.
Diveny estimates that the number will likely be more like 60-70 percent, but again, it depends on the bank.
Dealing with the board
Your co-op board may be concerned “if you try to take out more money than what you owe,” Diveny says.
A co-op board may have a problem if the refinancing increases your debt-to-income ratio--that is, the percentage of your gross monthly income required to pay bills, says Hong. (Your lender can tell you what your DTI will be during the application process.)
In that case, you may need to do a full board package, and not just a quick-sign-off.
A full board package consists of the exact same financial info that was required to purchase your co-op in the first place. It may vary from building to building.
Allow typical paperwork processing time, similar to a conventional mortgage or maybe a little longer. If you're a co-op owner, some of the timeframe also depends on your board and their process. Each building is different.
"Nowadays, a cash-out refinance for a coop is about 90 days," says Hong. "It's almost never 30 days but possibly around 60 days. I would definitely set aside 90 days as the banks are busy--purchase transactions are priority over refinance transactions--and coupled with the board approval, it can easily go to 90 days."
You can have access to cash in as little as three days after you close though “typically the funds are available on the fourth business day after closing," according to Hong.
If you change your mind, “you can rescind and get your money back within three business days from the closing date,” says Divney.
A word about construction loans
Construction loans are those that specifically finance rehab, renovation or new construction. For co-ops, they can be hard to come by. Banks are inclined to process construction loans "only for the wealthy," says Diveny.
If you have heavy savings, you'd be better off financing the renovation with your current resources, or refinancing as mentioned above.
With construction loans, banks require that the work be completed prior to a draw. Meaning, each phase of your project must be finished before the bank will pay for it. Therefore, you'll need your own cash in hand at the start of your renovation, if you can even secure the loan.
Another potential way to finance a renovation aside from refinancing and pulling cash out is to apply for a second mortgage. Depending on your circumstances and the individual lender, you may or may not qualify.
"A home equity loan is a fixed rate loan that amortizes over a certain period of time," explains Divney.
The interest on a home equity loan is deductible, since your apartment acts as collateral.
A home equity loan will be a lump sum of money available to you at one time after the loan closes. Your payment would be based on the entire loan amount and you would pay both interest and principal. Interest rates will vary from lender to lender.
A Home Equity Line of Credit (HELOC) is more common. It is "an adjustable loan that is like a line of credit," said Diveny, similar to a credit card with interest-only payments. Payments are based only on the amount borrowed, not the amount available, and rates usually adjust monthly based on the terms set on the HELOC.
“The rate varies from lender to lender but it is prime + 0 to 1% or more, and it can change at anytime,” says Hong.
This brings a certain amount of risk with it; a HELOC has no cap as far as how high the rate can climb in a certain period.
(While they do have lifetime caps, your rate could begin at 4%, and in five years it could be several points higher.)
This is precisely why many co-op boards don't like HELOC. You can afford the payments now, but if the prime rate climbs, you may not be able to afford them later on.
"Some co-ops allow [them]," says Hong. "However, most banks won't give second mortgages or HELOCs on co-ops."
That's because most co-ops already have an underlying first mortgage, which is sort of like a second lien already.
"Adding a HELOC would be the equivalent of having a third lien," explains Hong.
If you do qualify, here's a tip for cutting your interest-rate risk.
"Most if not all HELOCs offer you the ability to lock in portions of the line drawn," says Kamalzadeh. "So for example, If you have a $100K credit line and have used only $35K, you can call in and request that $20K of the $35K be locked into a fixed rate for the remainder of the balance until paid off."
Tracy Kaler was a designer, decorator and renovator in her last life. Before working as a freelance writer, she held several furniture sales jobs in the Big Apple and purchased a new wardrobe. Now she works in her pajamas and commutes two feet to her desk each day. This is one of the few advantages of living in a New York apartment, and well, so much for that wardrobe.
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