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How to use home equity to take your current home from drab to fabulous


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When Marina Vaamonde and her family started looking for a new home last year, they ran into a common problem in today’s real estate market: low inventory and high prices.

Vaamonde wanted an upgrade to her home in Houston, Texas, with more room for her family and a work space for those days when she was working from home. But finding something that met her needs in her current area proved difficult. The Vaamondes decided to renovate their current home to meet their needs.

The remodel allowed them to stay in the same neighborhood near the children’s school and was less of a financial commitment than buying a new house. “I’m glad we stayed and remodeled and didn’t just buy something,” says Vaamonde.

Vaamonde’s experience is not unique. A pandemic-driven surge in remote work increased the need for more space in the home. With many homeowners unable or unwilling to pay today’s high prices to move to a larger home, more homeowners have turned to renovating their existing space as a solution. With home values ​​skyrocketing, homeowners are sitting on a pool of usable capital that can be used to finance a home remodeling project.

But before you jump into a big renovation thinking it’ll be cheaper or easier than buying a house, here’s what to consider and how to finance the project.

What to consider before remodeling

Having a clear understanding of your long-term goals is an important first step when making major changes to your home. “What are your plans with this house after the renovation is complete?” asks Angela Moore, CFP and founder of Modern Money Education, a financial education firm.

If you plan to live in your home long-term, the improvements you invest in may be different than whether you plan to sell your home in the next few years or rent it. Regardless of the specific parts of your home you want to remodel, the planning process will be similar.

extra money budget

Supply chain disruptions and labor shortages have increased the cost of building materials. When calculating the price of a remodel, expect to pay more than you would have paid a few years ago.

But even under normal circumstances, you’ll want to budget for the unexpected when you update your home. “You always have to have a buffer, because something unexpected always comes along,” says Moore. Vaamonde is also a real estate investor and always plans for renovations to cost 20-25% more than the listed price.

Consider how long you can go without the space

Remodeling a house has a cost that goes beyond the sticker price. Consider the inconvenience and potential expense of not being able to live in your home or use certain areas for an extended period of time. You may have to deal with noise, dirt, and people coming in and out of your house all day.

Given the additional delays you are likely experiencing at this time, they may influence your renewal decisions. Vaamonde wanted to update the kitchen as part of the renovations, but ended up deciding against it. “When we started looking at prices and how long I would possibly be without a kitchen. I just couldn’t force myself to go down that path,” says Vaamonde. Replacing some flooring, updating bathrooms and creating a small workspace in a hallway took four months, she says.

Find a good contractor

Vaamonde hired a contractor he had worked with before. “What I like about him is that he’s not the cheapest, but I know he’ll get the job done,” he says. He also knew that the project would probably take longer because this contractor is often in high demand and is managing multiple projects at the same time. But it was worth it because she felt that she could trust him to get the job done without any additional supervision.

When searching for a contractor, look for reviews and see if you can find references from previous clients. If possible, look up photos of past work or go see it firsthand. It’s extremely important to research a contractor before giving them money or signing a contract, says Moore. Ask lots of questions about the cost, the schedule of the remodel, and whether or not you’ll need to get permits.

How to use home equity to pay for renovations

As home values ​​rise, more homeowners have the option of using their home equity to finance renovations.

Converting your home equity to cash can be a great way to pay for a remodel if you don’t have the extra money available or don’t want to tap into your savings. Common options for borrowing against your home equity include:

There are pros and cons to each type of financing, so it’s important to understand your options. “When looking at financing, there are a lot of different ways to do things. And the right way just depends on your situation,” says Moore.

A cash-out refinance replaces your existing mortgage with a larger home loan and you keep the difference. When interest rates are lower than your current mortgage rate, this makes more sense because you’re lowering your interest rate on the full amount of the loan.

When interest rates are higher than your current rate, you may just want to keep your mortgage and take out a smaller secondary loan. A home equity loan allows you to keep your existing mortgage, while borrowing against the equity in your home with a separate fixed-rate loan.

A HELOC is similar to a home equity loan except that it will generally have a variable interest rate. However, with a HELOC you will not get the money all at once. Instead, you will have a set limit that you can borrow, and you can withdraw the money as needed. This way, you only pay interest on the money you withdraw, instead of paying interest on the full amount from day one.

pro tip

Make room in your renovation budget for unexpected expenses and delays, especially given the supply chain disruptions and labor shortages we are currently facing.

Consider the risks of borrowing against your principal

Anytime you’re borrowing money to pay for home renovations, it’s important to understand the risks and consider all costs.

When you use your home as collateral to borrow money, it’s considered a secured loan or secured line of credit. This type of loan is less risky for the bank and usually has lower interest rates. The downside is that if you don’t repay the loan, you could lose your home. Also, if you increase the amount of money you’re borrowing, you’ll either make less of a profit on the sale or, in the worst case, could owe money at closing if the housing market falls (although experts don’t expect home prices to drop). houses collide).

When comparing lenders and weighing the pros and cons of each type of home equity financing, look at the overall cost, not just the interest rate. Upfront fees, or closing costs, associated with home equity financing can be 2% to 6% of the loan balance. Depending on how much you borrow, it can be thousands of dollars in fees. By comparing offers from a handful of lenders, you can ensure you’re limiting your out-of-pocket fees and getting the best rate possible.

Some home equity lenders waive closing costs or give credits to the lender. Be sure to ask about this when looking at lenders.

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