Many Americans have turned their attention to home improvements where they have spent more and more time during the pandemic. Renovating your home can not only make the stay indoors more enjoyable, but also increase the value of the home and become a profitable long-term investment.
But it’s a heavy decision-making process. It’s about deciding on the renovation project itself, then deciding how much to pay and, if necessary, how to finance it.
Angi, a home services platform formerly known as Angie’s List, released its 2021 True Cost report, showing a typical range of bathroom remodeling costs between $ 6,590 and 16,359. $ and kitchen renovations between $ 13,490 and $ 38,043. You can enter your postal code for a localized estimate.
Unless you’ve racked up some big savings, five-figure home renovations will mean taking out a loan of some kind. Fortunately, there are plenty of options for borrowing money to make this dream project a reality.
The financial suitability of this renovation and the best borrowing option will depend on a range of factors including cost of the house, cost of the project, owner’s credit rating, familiarity with construction, tolerance for risk and confidence in the market. .
“The best payoffs tend to be big visual changes for a modest price, things like exterior projects with exterior appeal,” said Mischa Fisher, chief economist at Angi.
»READ MORE: Here’s how to refresh the exterior of your home, the part everyone sees
Consider these options to fund your project:
Savings. There is no interest to repay and no paperwork to complete. Even so, homeowners should be careful to select a project that offers the best return on their investment and may want to think twice before tapping into the savings for home renovations.
With interest rates at or below 3% in many cases, it might make more financial sense to take out a loan and consider investing those savings elsewhere.
“If you have someone who is convinced that they can get a better return than 3.5% by investing their savings, I encourage them to at least discuss the opportunity cost of using that money,” said Patrick Walsh, senior vice president of Tandem. Bank in Atlanta. “If you pay off your debt at 3.5% when you could get a 6% return, you might be better off using some of that money for something else.”
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Construction loan. Products such as a 203 (k) loan from the Federal Housing Administration or Fannie Mae HomeStyle Renovation may be made based on the higher presumed future value of a home after renovation. However, they are not easy to use and usually involve tricky terms.
“FHA 203 (k) and Fannie Mae construction loans are expensive,” said Erika Safran, director of Safran Wealth Advisors in Manhattan. “They are highly regulated and the funds go to your contractor based on the stages of construction. “
Safran adds that construction loans can also include private mortgage insurance and that there are appraisals and appraisal costs going on during the project. For those using a construction loan, she advises refinancing into a conventional mortgage once the renovation project is complete.
Personal loan. For homeowners looking to borrow a relatively small amount, a personal loan might make sense because there are less upfront costs and it pays off faster than a full refinance (usually within seven years). Although the rates are higher than for a HELOC or a mortgage, they are generally lower than for a credit card.
Refinancing of collection. Mortgage refinancing has been a popular option for homeowners for a long time, whether they are renovating or not. The reason? Interest rates have been falling for decades.
Cash-out refinancing involves replacing the existing mortgage with a brand new one. If the cash-out loan is used to pay for renovations, it will be for a larger amount than the original loan. With interest rates so low right now, the homeowner could still end up with a lower overall payment down the road, but for a longer loan term.
Cash refinancing also means the money goes to the homeowner rather than the contractors, making it more flexible than a construction loan.
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Home equity line of credit. A HELOC is a good option for those with enough equity. While closing costs and payments are too, those upfront payments are only interest. Homeowners can also benefit from a tax deduction for interest paid. Safran said it is important for people to fully understand the terms of a HELOC before signing.
“Consumers may mistakenly opt for a HELOC due to a low payment without realizing that the minimum payment only covers interest,” she said. “In order to fully repay the loan within the five-year period, owners must pay both principal and interest.”
Borrowing against the equity in your home can also be risky if prices fall again, as they did during the Great Recession. Tandem Bank will allow homeowners to borrow up to 80% of their home’s value using a HELOC, Walsh said, but some lenders are going as high as 95%.
401 (k) ready. Borrowing against your retirement savings can be a quick way to get money, and you would be paying interest to yourself rather than to an outside lender. Borrowers can usually withdraw up to $ 50,000 or 50% of the balance.
But as with the use of personal savings, Walsh cautions consumers against withdrawing money from their 401 (k), which is invested in stocks and bonds, and using it to invest in a renovation.
“If you just use it as a space to finish the house and once it’s done, you go into debt permanently, that could be a viable option,” he said. “But in the long run, what is the opportunity cost of taking that money out of the [stock] Marlet? I don’t think you would get the same real estate return as on the 401 (k). “
Credit card. Another option sometimes discouraged by financial advisers is to use a credit card. A disciplined borrower can open a new card and take advantage of interest-free periods of 6 or 12 months to borrow money for free. But if this plan does not work, the borrower will be hit with interest rates of up to 20% or more.
Although credit cards have the highest rates, there are no additional upfront or closing costs, and if the debt is paid off in one or two years, you can complete the project without adding long debt. term.