Financing Home Improvements

Whether it’s building a swimming pool or replacing a roof on one of your rentals at some point in the future you’ll be hit with an expense right in your pocketbook. Do you finance those expenses or do you pay them out of pocket and how do you decide?

Different home owners will have different strategies for financing the inevitable. After all, if you can’t afford the maintenance on a home you can’t afford the home. But most owners will keep a cash reserve set aside to meet unexpected expenses. How much is enough?

Mortgage lenders have made a general determination of how much in reserves is prudent. This amount in reserves is a minimum of six months’ worth of mortgage payments. If the principal and interest, taxes and insurance payments are $2,000 per month then $12,000 should be enough to cover any surprises.

Obviously, this is the least expensive form of maintenance funds. The funds aren’t borrowed so there are no interest payments to a lender.

The next method of paying for home improvements or maintenance is with a home equity or home improvement loan. A home improvement loan is one loan extended to a borrower for the purposes of home improvement or maintenance. A lender will want to see a list of proposed improvements for the home and may even send out an inspector to verify the improvements have been made.

A home equity loan is not issued for a specific amount but is a credit line extended to the borrower with the house as collateral. An equity loan is much like a credit card; a borrower can use as much or as little of the credit line when needed and pay off the loan over time. This is perhaps the most convenient financing method.

Finally, funds can be pulled out when a property is refinanced. This is called a cash out refinance and funds are withdrawn to be used for other purposes while the borrower is refinancing to a lower interest rate. If a borrower is refinancing for a lower rate and needs some additional funds for a roof, air condition or other improvements, the interest rates on cash out refinance loans are better than an equity loan or home improvement loan.

If you need to finance home improvements or need funds for maintenance, remember you have choices. And if you don’t yet have a healthy reserve account, maybe it’s time to start building one.