The Best Way to Pay for a Home Remodel

Purchasing a home will likely be the single most expensive item you will ever pay for in your lifetime. When thinking about remodeling your home, you should first ask yourself: is this my forever home, or do I plan to sell it in 5 – 10 years to size up? If you plan on selling your home in the near term, it might be better to do a facelift rather than a full-blown renovation.  Remodeling Magazine released the new 2020 Cost VS Value Report, and it's worth a read before deciding where best to spend your money. https://www.remodeling.hw.net/cost-vs-value/2020/

As a general rule for kitchen remodels, according to HomeAdvisor.com, you should spend between 5% - 15% of the value of your home. Spending too little may decrease the value of your home, and spending more than 15% could put you at risk of losing money when it comes time to sell.  So, to come up with a general budget, if you own a house valued at $300,000, you should spend between $15,000 - $45,000 for the kitchen renovation. Now that you have a general idea of the budget, how will you pay for it?

Should you choose a smaller facelift type of renovation, you may be able to pay for the project with savings alone.  I sat down with local Northwestern Mutual Financial Planner, Matt Malbrough, to ask if he had any advice on saving up for such an expenditure.  Matt says, "first, take a look at where you are spending your current monthly income after paying the mortgage, car note, and other mandatory expenses." Since most people pay with credit cards these days, it's now very easy to log into your account to view a spending report to pinpoint where the bulk of your disposable income is going. Matt says, "for instance, I have a client that realized that she was spending over $1,000 a month on groceries and dining out for her and her daughter. By adjusting how much they ate out, she was able to start saving some money every month." He says that when you are saving for a particular purpose, like a renovation, it would be a good idea to open a separate bank account to limit the temptation to spend it on other unnecessary items or entertainment. "Setting up the account as an automatic withdrawal would be even more ideal for reaching your savings goal," Matt says.

If you would like to put more into your kitchen remodel and spend closer to 15%, you could look into financing the project.  A Home Equity Line of Credit (HELOC) is a good option.  Banks will lend 80%-90% of the value of your home, but that would include your current mortgage. For instance, if 90% of your home's value is $270,000, and you have an outstanding mortgage balance of $240,000, the most you could borrow is $30,000.

If you have a more significant amount of equity in your home, you could instead opt for a Cash-Out Refinance of your current mortgage, especially now with interest rates so low.  Lenders will usually cap the amount of the loan at 80%-85% of the value of your home.  So in the above example on a $300,000 home, the mortgage lender would lend up to $255,000.  If your current mortgage has a balance of $200,000, you could refinance for $255,000 and cash out $55,000 less closing costs.  The closing costs on a refinance are higher than on a HELOC, but the interest rate is typically lower and spread over 15 or 30 years. Be careful not to stretch yourself too thin with this option, though. According to Matt Malbrough, "the general rule of thumb is you should never get a mortgage more than 3 times your annual income.  If your increase in equity is mostly from a robust real estate market, you still may not be able to afford the payments if the total goes beyond the 3 times rule."

A personal loan is also a possible way to raise renovation funds.  By nature, these loans are based solely on your credit rating, and typically, the amount lent will be smaller.  This type of loan could be a good option for the facelift type of renovation since it's not tied to your home's equity. However, this option's interest rate is higher, but typically not as high as credit card charges.

Credit cards are the least economical way to pay for a renovation due to high-interest rates.  You could use this payment method for some of the renovation finishes, like lighting and faucets, and still be able to pay off the balance monthly.

In reality, you will probably find that most people use a combination of savings, financing, and a credit card to remodel their homes.  The key to not getting into a situation of being "house poor" is to think carefully and not get too tempted to go beyond 15% of your home's value on a kitchen remodel.  A few other tips:

• You can save some money by doing some of the demolition and painting yourself, but don't get DIY crazy. You may make things worse and have to spend even more money hiring someone to fix your mistakes.
• Choose 1 major thing in your kitchen remodel to splurge on and make it the focal point, like a 36" professional range with a custom vent hood. You can find lighting, plumbing fixtures, and countertops at a more mid-range price, and it will still look fantastic. And these days, lower-range options like luxury vinyl flooring, and decorative ceramic tile, can look very high end. 

Again, check out the 2020 Cost VS Value Report (https://www.remodeling.hw.net/cost-vs-value/2020/ ) to check what value different projects add to your home.  Not surprisingly, curb appeal items tend to get you the most value for money spent.  Even something as simple as a brand new front door practically pays for itself. As homeowners, we all want to maintain and keep our homes beautiful.  When deciding on an extensive remodel of your home, it's always a good idea to speak to a financial planner who can give you priceless advice on the best way to save, spend, and still have money for your future retirement.  You can reach Matt Malbrough, Wealth Management Advisor, ChFP, CFP at Northwestern Mutual in Lafayette, Louisiana – [email protected]. Check us out at www.homeprojectcenter.com.