Credit should always be used responsibly. If there's one thing people should have taken away from the last couple of years with the housing bust is that people should not be borrowing money they can never afford to pay back. A good renovation can be an investment into a home's value, meaning that a new kitchen or bath can add to the bottom line when determining a home's worth, not to mention it can make living in the home more enjoyable for the homeowners. A properly done renovation can cost upwards of $20,000, and most people don't have that kind of money lying around. This means financing or borrowing to pay the bill. In this article, Mike Holmes talks about the pros and cons of borrowing against your home's equity to pay for a renovation. Loans and lines of credit can be taken out using your home's value as collateral. When done responsibly, this can become an effective way to finance a home renovation project. Of course, the inverse is true as well.
From the Ottawa Citizen:
Using home equity to finance renos
It may seem risky, but it has its benefits
Doing a renovation yourself or hiring the cheapest contractor may not end up saving you money if things go wrong and need repairing or redoing. It’s worth financing a renovation to do the job properly.
Photograph by: The Holmes Group
‘Can I afford a renovation?”
It’s the question many of you might be asking yourselves as you plan ahead and start thinking about new home projects. Maybe you want to upgrade your kitchen or bathroom, or finish the basement. But it takes money to do it right.
The average kitchen or basement reno can cost anywhere between $20,000 and $40,000. But most people don’t have that kind of money lying around. So what do they do? They find the cheapest way to get the renovation they want.
Either they try to do it themselves or hire the cheapest contractor. Unfortunately, that mindset can lead you down the wrong path, one that’s full of problems. (Nine times out of 10 the cheapest contractor ends up costing you more.)
The good news is, you have options.
There are three ways most people pay for home renovations: savings, credit cards or borrowing against their home equity. If the project costs less than $10,000, using your savings or credit cards might be doable — check with a financial adviser or credit counsellor first.
Using credit cards to pay for a renovation isn’t something I recommend because of high interest rates. You could end up paying for your renovation for the rest of your life and three times over if you can’t pay off the card quickly. If you are making only monthly minimum payments, it’s a very bad idea. And if you need to pay for other expenses with your credit cards, you don’t want to hit your credit limit.
So if you don’t have enough savings — the case for most people — and you don’t want to rely on credit cards, that leaves you with option No. 3: borrowing against your home equity. You could do this a few different ways.
First, you could get a second mortgage using your home as collateral, but I don’t recommend it. Although the interest rate won’t be as high as it is with credit cards, it can be a lot higher than your current mortgage rate. And paying off both mortgages will be difficult if you’re already in a tight financial situation.
You could also get a home-equity loan. That’s when a lender lends you a lump sum using your home as collateral. Most lenders will let you borrow up to 75 per cent of your home’s appraised value, minus what you owe on your mortgage.
So let’s say an approved appraiser (approved by the lender) appraises your home at $500,000 but you still owe $300,000 on your mortgage. That means they can lend you a maximum of $75,000 ($500,000 x 0.75 = $375,000 - $300,000 = $75,000).
Now, that doesn’t mean that’s how much you’ll get. Your lender will determine your ability to repay the loan, and that depends on your income, credit history, employment, debt and other financial obligations.
A home-equity loan is given to you in one lump sum, which you pay back at a fixed interest rate, in fixed payments, for a fixed period of time — everything is fixed. And if you default on payments, you could lose your home.
It’s the question many of you might be asking yourselves as you plan ahead and start thinking about new home projects. Maybe you want to upgrade your kitchen or bathroom, or finish the basement. But it takes money to do it right.
The average kitchen or basement reno can cost anywhere between $20,000 and $40,000. But most people don’t have that kind of money lying around. So what do they do? They find the cheapest way to get the renovation they want.
Either they try to do it themselves or hire the cheapest contractor. Unfortunately, that mindset can lead you down the wrong path, one that’s full of problems. (Nine times out of 10 the cheapest contractor ends up costing you more.)
The good news is, you have options.
There are three ways most people pay for home renovations: savings, credit cards or borrowing against their home equity. If the project costs less than $10,000, using your savings or credit cards might be doable — check with a financial adviser or credit counsellor first.
Using credit cards to pay for a renovation isn’t something I recommend because of high interest rates. You could end up paying for your renovation for the rest of your life and three times over if you can’t pay off the card quickly. If you are making only monthly minimum payments, it’s a very bad idea. And if you need to pay for other expenses with your credit cards, you don’t want to hit your credit limit.
So if you don’t have enough savings — the case for most people — and you don’t want to rely on credit cards, that leaves you with option No. 3: borrowing against your home equity. You could do this a few different ways.
First, you could get a second mortgage using your home as collateral, but I don’t recommend it. Although the interest rate won’t be as high as it is with credit cards, it can be a lot higher than your current mortgage rate. And paying off both mortgages will be difficult if you’re already in a tight financial situation.
You could also get a home-equity loan. That’s when a lender lends you a lump sum using your home as collateral. Most lenders will let you borrow up to 75 per cent of your home’s appraised value, minus what you owe on your mortgage.
So let’s say an approved appraiser (approved by the lender) appraises your home at $500,000 but you still owe $300,000 on your mortgage. That means they can lend you a maximum of $75,000 ($500,000 x 0.75 = $375,000 - $300,000 = $75,000).
Now, that doesn’t mean that’s how much you’ll get. Your lender will determine your ability to repay the loan, and that depends on your income, credit history, employment, debt and other financial obligations.
A home-equity loan is given to you in one lump sum, which you pay back at a fixed interest rate, in fixed payments, for a fixed period of time — everything is fixed. And if you default on payments, you could lose your home.
A home-equity loan isn’t very flexible. If you can’t make a monthly payment for whatever reason, you get penalized, which is why more homeowners opt for a home equity line of credit (HELOC).
A HELOC is a revolving line of credit with an adjustable interest rate that allows you to withdraw money as you need it (instead of one lump sum), but the interest rate can fluctuate up or down.
It might seem risky, but the benefit is you don’t have to make fixed payments for a fixed period of time; in most cases, all you have to do is just pay the interest on the line of credit every month. If one month you can’t make any payments, it’s OK — but always double-check this with your lender because each lender is different.
If you’re concerned about affording a renovation, talk to financial professionals and lenders who can give you the right financing options. Because the truth is you can’t afford to do a renovation wrong — it costs more in the end, every single time, no exception.
Catch Mike Holmes on Holmes Makes It Right, Tuesdays at 6 p.m. on HGTV. For information, visit hgtv.ca. For information on home renovations, visit makeitright.ca.
A HELOC is a revolving line of credit with an adjustable interest rate that allows you to withdraw money as you need it (instead of one lump sum), but the interest rate can fluctuate up or down.
It might seem risky, but the benefit is you don’t have to make fixed payments for a fixed period of time; in most cases, all you have to do is just pay the interest on the line of credit every month. If one month you can’t make any payments, it’s OK — but always double-check this with your lender because each lender is different.
If you’re concerned about affording a renovation, talk to financial professionals and lenders who can give you the right financing options. Because the truth is you can’t afford to do a renovation wrong — it costs more in the end, every single time, no exception.
Catch Mike Holmes on Holmes Makes It Right, Tuesdays at 6 p.m. on HGTV. For information, visit hgtv.ca. For information on home renovations, visit makeitright.ca.
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