David Michael
Architectural Design & Building Specialists
CONSULTING GROUP
Paying For a Renovation: Mortgages
Mortgages
Many people pay for their renovation by taking out a home equity loan (second mortgage), home equity line of credit, or by refinancing their principle mortgage with cash-out option. You can get a lot of free information about the pros and cons of each of these options by talking with your banker or mortgage broker.
You should expect to talk with more than one person about these options, because some brokers or bankers will steer you toward the option that generates the highest commission for themselves, or towards the products that they sell instead of others they cannot offer. Clearly, such options might not actually be the best for you. So don't just do what the first person suggests.
Some questions you may want to ask yourself or your financial advisor, banker, or broker, include the following:
• Which product will gain me the biggest tax deduction?
• Which option will cost me less in points, refinancing my primary mortgage, or taking on a home
equity second mortgage or line of credit?
• Which option will cost me less in lifetime interest?
o If interest rates are lower now than when you originally or last financed, this will probably
be an overall refinance, if interest rates are higher now than when you originally or last
financed, this will probably be a home equity loan or line of credit.
• Do I know how much my renovation will cost?
o If the answer is no, a home equity line of credit with a maximum equal to the maximum cost
of your renovation may be a better answer. If the answer is yes, a second mortgage may
be the best answer. Of course, you should develop as strong an idea as possible of the cost
of your renovation before you finalize financing.
• Which option will expose me to greater risk if I cannot pay my loan, and do I have the ability to
withstand that risk?
o Usually, a cash out refinance exposes you to greater risk than a second mortgage or a
home equity line of credit.
• Will either of these options expose me to the need for private mortgage insurance (PMI), and
if so, how much will that add to my costs, and are there any benefits to me of getting PMI?
o Usually, PMI primarily benefits the mortgage company, in other words, the bank, not you.
Which money to use?
If you have a short or medium term savings pool lying around, clearly this may be the best way to pay for your renovation project. However, failure to have this type of pool of funds should rarely bar you from contemplating a renovation project. You probably have several other options.
How can I pay for my renovation?
Retirement savings
Many people pay for their renovation project by taking disbursements from their retirement accounts.
Whether this makes sense for you will depend on a number of factors, but you might ask yourself
the following questions:
• Will I pay a penalty (in taxes or to the holder of my account) for taking out some of this
money now?
• If I will pay a penalty for taking the money out, can I 'lend' myself the money instead?
o Ask your financial advisor or account holder about this.
• Will the equity I gain in my home equal or exceed the cost to my retirement account?
• Will the interest (and fees) I save in not taking out a loan to finance the renovation equal
or exceed the interest (and fees) I will lose by removing some of my retirement money?
