If you’re ready to start planning for your next home remodeling project, congrats! This is an exciting and smart investment for homeowners, and that’s something to celebrate. However, it’s easy to get carried away by the allure and excitement of these projects. So, before you get started (and risk “getting ahead of yourself”), it’s important to stop and take the time to seriously think through the financial implications of your next remodel. Whether your project budget is large or small, it’s critical to start with a clear understanding of all the options for paying for your next remodel, so you can choose the payment method that makes the most sense for both your financial situation and the goals of your remodel project.
There is a plethora of ways to fund your project, but ultimately, for most homeowners it comes down to two key categories: cash or financing. Here are some key things to consider when trying to decide how to pay for your next home remodel:
Best Option When Available: Cash and Liquid Assets
Cash and liquid assets are always the best option for smaller projects, or for any sized project if you can afford it. It’s the cleanest, freest way to pay for your remodel project because you won’t be beholden to a lender or dependent anyone else, you won’t have to deal with interest, fees, or other additional charges; and it’s an immediate and instantaneous method (i.e., you won’t have to wait on anyone to liquidate funds).
However, many homeowners don’t have enough cash available—especially if it’s a larger project such as additions or complete kitchens or other large full-room remodels—without (nearly or completely) depleting their savings and/or emergency funds. So while cash and liquid assets are definitely the best way to pay for your remodel project when possible, this payment method should only be used if you have plenty of cash to spare.
Second-best Option: Finance with a Home Equity Loan or Home Equity Line of Credit (HELOC)
A home equity loan is basically just what it sounds like—you take out a loan against the equity in your own house. Home equity loans are one of the most common and traditional ways to finance home remodel projects. These loans offer ready access to funds in a traditional lump sum payment schedule. This a smart option if you’re paying for a large remodel project that will increase the value of your home. Other pros include the amount you are able to receive for a loan and the relatively low interest rates available. There are a couple caveats or potential “cons” to consider, however: These fixed loans usually (but not always) have higher interest rates than HELOCs; and either way, home equity loan closing costs—typically from 2 to 5 percent of the loan—could still end up making this type of financing costlier than HELOCs when all is said and done.
If you’ve already locked in a great interest rate, or you want more flexibility, a home equity line of credit (HELOC) may be the best option. HELOCs are also best for medium- to large-scale projects, because they allow you to draw funds gradually, as needed, over an extended period of time. A HELOC is a revolving line of credit, like a credit card, so you're only responsible for paying interest monthly at first. After the initial "draw period," the HELOC converts to a fixed loan, so then you'll have to start paying back the principal on a set schedule. If you decide to go this route, be sure to shop around for HELOCs with generous draw periods. Some may offer periods of just 10 years, while others can range from 12 to even 15 years. And don’t forget to account for any fees associated with each loan when comparing different offers.
Ultimately, the answer to our headline’s question can be summed up much like the headline of a recent Consumer Reports article: Cash is best, but certain kinds of loans are better than others.