Even if you have the cash to fund your renovation or addition, you still may want to review your financing options to see if there are any tax savings or other reasons to hold onto your cash. Some financing options are:
— A Home Equity Line of Credit
This is a line of credit using your home as collateral. Typically, lenders will give you a line of credit set at 75% to 80% of your home's appraised value minus the outstanding mortgage balance. In a remodeling situation, make sure you ask your lender if they will consider the value of the planned improvements when calculating the appraised value.
— A Second Mortgage/Home Equity Loan
A home equity loan, commonly called a second mortgage, is typically a fixed term loan with a fixed interest rate using your home as collateral. Again the amount a lender would be willing to loan would be based on the equity you have in your home and some lenders will be willing to factor in the value of your planned improvements when calculating your equity.
— Cash-Out Refinancing
With this option, you refinance your home, taking out a new mortgage in a dollar amount higher than your outstanding mortgage loan balance and use the extra money you borrowed for your remodeling project. This can be a particularly good option when current interest rates are lower than your mortgage interest rate.
For example, say you want to finance a remodeling project in the amount of $90,000, you currently have a mortgage balance of $100,000, and your home is now appraised at $300,000. In this instance you should be able to finance your project using a cash-out refinancing loan in the amount of $190,000 (the $100,000 that you still owe plus the $90,000 loan you want to cash out). You would be able to keep $90,000 in cash for your renovation or addition, and still have your remaining mortgage balance of $100,000.
— Construction Loans
A construction loan is a loan specifically for the improvements you have planned. In this case, a lender will loan you money for your renovation based on an appraised value of the improvements. Typically, the lender will require that you pay interest only on the loan until the construction is completed and then the loan will be converted to a typical mortgage.
Some thoughts about financing your project:
Be sure to have money set aside for any unanticipated expenses related to your remodeling project.
Make sure everything possible you want in your renovation or addition is included in your contracts so you aren't hit with any surprises. Any changes you make after the contract is signed could also involve extra expenses.
Lenders will consider your credit history and ability to pay. Contact your mortgage lender and/or your financial advisor for more information relating to your specific situation before you get too far into the remodeling process.
The tax laws are always changing. Talk to a tax consultant to help you determine your best financing options.
Most banks and mortgage companies offer the types of financing mentioned here. Shop around to make sure you're getting a good deal.