Pros and Cons of Refinancing to Fund Renovations

Refinancing to fund a renovation works when the new loan costs you less than the improvements are worth to you. It fails when fees and a longer loan term quietly cancel out the benefit.

If you own a home in Caringbah and want to renovate, you have a choice to make. You can use your own savings, take a separate personal loan, or access equity in your property through your home loan. This article helps you weigh up that last option.

Can You Refinance to Access Equity for Renovations?

Yes. You can refinance your home loan for a higher amount, and the extra money comes from the equity in your home. Equity is the gap between what your home is worth and what you owe.

Your lender will order a property valuation to confirm that value. Borrowing above 80 per cent of the property's value can trigger lenders mortgage insurance (LMI), according to ASIC's Moneysmart site. That extra cost can erode the benefit of the refinance.

The lender must also check that the loan suits your needs and that you can afford it. Lenders must apply a serviceability buffer of at least 3 percentage points above the loan rate, as set by APRA. You may earn the same as when you took out your loan, but still borrow less than you expect. Check your borrowing capacity before you get quotes from builders.

The Pros of Refinancing for a Renovation

The main advantage is that you pay for the work at a home loan rate, which is usually lower than a personal loan rate. You also pay one repayment instead of juggling several.

There are other upsides:

• You can review your whole loan at once, including the rate, the features and whether you have an offset account.
• If your fixed term is ending, you can combine the renovation funding with a new rate decision. Our page on fixed rate expiry explains your options.
• You may be able to move to a lower interest rate while you raise the loan amount, depending on your lender and your equity.

A loan health check shows whether your current loan is worth keeping before you decide.

The Cons and Costs You Need to Weigh Up

The main cost is that you borrow more, over a long time. Spreading renovation debt across a 25 or 30 year loan keeps repayments low, but you pay interest on that money for decades.

Other costs to check:

• A break fee applies if you leave a fixed rate loan early.
• A discharge fee applies when your old loan is closed.
• Your new lender may charge an application fee.
• Exit fees on loans signed on or after 1 July 2011 are banned, but break fees and discharge fees are not.

ASIC's guidance says a refinance should deliver overall cost savings that outweigh what you lose, or it should better match your goals. A broker must also weigh the costs of switching against the benefits. If staying put suits you, we will tell you so.

If your loan is part of the Australian Government 5% Deposit Scheme, borrowing extra funds against the property from your lender ends the scheme's cover. Check this before you apply.

What Does a Renovation Refinance Cost Each Month?

Borrowing an extra $80,000 on a $450,000 loan would add roughly $553 a month at an illustrative rate of 6.75% p.a. over 25 years. That rate is an example only, and your actual rate depends on your lender, your deposit and your circumstances.

Consider a homeowner in Caringbah who owes $450,000 with 25 years left. Their repayments at 6.75% p.a. are about $3,109 a month. They want to renovate the kitchen and bathroom for $80,000, so they refinance to a $530,000 loan over 25 years. At the same illustrative rate, repayments rise to about $3,662, which is $553 more a month.

The homeowner checks that $553 sits comfortably within their budget, and that the new loan stays at or under 80 per cent of the valuation. They also add up the discharge fee and application fee against any rate saving. The numbers work, so they proceed. They keep the 25 year term instead of stretching to 30, because a longer term would cut repayments but add interest. Try your own figures with our mortgage repayment calculator.

Is the Interest Tax Deductible on Renovation Funding?

Only if the property earns rental income. Interest on money borrowed to renovate your own home is not deductible.

The ATO allows a deduction for interest on money used to renovate a rental property that is rented or held to produce income. If you refinance and use part of the loan for private purposes, the interest must be split between private and rental use. Mixing the two can cause problems that last for the life of the loan. Speak to your accountant before you structure the loan, because the outcome depends on your situation.

Refinance or Construction Loan: Which Suits Your Project?

A refinance suits cosmetic and moderate renovations where you can price the whole job upfront. A construction loan may suit a major build, because funds are released in stages as work progresses.

If you plan an extension or knockdown rebuild, look at our construction loans page before you commit to a top-up. For most homeowners the question is how much equity you hold and how big the project is.

How the Refinance Process Works With Solara Financial

We start by reviewing your current loan, your equity and what you want to build. We then compare lenders, explain the costs of moving, and handle the paperwork. If you would like a local conversation, see our mortgage broker in Caringbah page. Our refinancing page covers how the process runs from application to settlement.

If a renovation is on your list, call one of our team or book an appointment at a time that works for you. We will run your numbers and tell you plainly whether refinancing is worth it.

Frequently Asked Questions