Personal Finance > Ask the Expert
Paying for home renovations
I want to remodel, but should I use savings, a refi or my home equity line of credit?
November 1, 2002: 12:04 PM EST
By Walter Updegrave, CNN/Money Contributing Columnist

NEW YORK (CNN/Money) - I'm considering remodeling my kitchen and family room. I know that in my area I will get two dollars back for every dollar I spend to upgrade my house. But I'm unsure whether I should pay for this renovation out of savings or whether I should refinance my mortgage or use my home equity line of credit. What do you think?

-- Sean Miller, Danville, California

The first thing I think is that you've got an inflated notion of how much of a return you're likely to get on the money you put into a home renovation.

You're talking about recouping 200 percent of your home refurbishing spending, which translates to a 100 percent net return. That's astronomic by home renovation standards. In most cases, you're lucky if the value of your home increases by as much as you spend.

Your return on investment may vary

That's not to say there aren't exceptions. The return you get on a home renovation will vary depending on the project -- kitchen renovations, family renovations and master bedroom suite upgrades tend to do well -- as well as the area of the country you live in. But I wouldn't go into a renovation project expecting it to be a terrific financial investment.

Don't take my word for it, though. Why not check out our Renovation Wizard calculator? Based on the latest data from Remodeling Magazine's "Remodeling Cost vs. Value" report, our calculator gives the average cost of various home improvement projects for different parts of the country and then calculates the percentage of that cost you're likely to recoup on resale.

All you've got to do is select the type of project you're considering, pick the region of the country you live in and the city closest to you, and you'll have a good estimate of the average cost and payback for your project.

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A low return doesn't necessarily mean you shouldn't go through with a project. Much of the return in this sort of endeavor comes in the extra enjoyment you'll get from living in a more modern, convenient and comfortable home. But that means you must also weigh how long you're likely to remain in the home.

Generally, it doesn't pay to do more than fairly cosmetic renovations if you're planning to sell soon. That's because you're not likely to boost the sales price enough to make a big expenditure worthwhile. (For more on the many factors you should take into consideration before launching a home improvement project, click here.)

Paying for it

Assuming you go ahead with your plans, you then face the issue of how to pay for your project. Ideally, I think you're better off financially if you can avoid taking on debt, which would mean dipping into savings or paying for the project out of your current cash flow, or both. I prefer this approach because debt is easy to take on, but hard to pay off. It can linger for years and years, and it has a way of boxing people in and limiting their options down the road.

That said, though, I think it's important that people have a cushion of savings to fall back on both for emergencies and for future retirement income. So if paying for your renovation out of money you've saved would essentially wipe out your short- and long-term savings, I would probably opt to leave the savings untouched (or a good portion of it, anyway) and finance the project through borrowing.

As for whether to refinance your entire mortgage or draw on your home equity line, there are a few considerations. If you have a good-size balance on your current mortgage and you can lower your rate significantly through a refi -- say by a full percentage point or more -- then refinancing might make the most sense.

You'll have to take on closing costs, however, so you should only go this route if you plan on remaining in the home long enough to recoup those costs. For more on how to evaluate refinancing, click here.

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If you're not going to get a much lower rate, then you can avoid the closing costs by using your home equity line of credit. If you choose this route, I'd advise trying to pay off that line as quickly as possible. Home equity line rates are usually set at or a percentage point or two above the prime rate and then move up or down with prime. With prime now at 4.75 percent, home equity rates are nice and low.

But eventually the economy will begin to recover and rates will rise again. And you certainly wouldn't want rising loan payments to interfere with your enjoyment of your comfortable new digs, would you?

Walter Updegrave is a senior editor at MONEY Magazine and is the author of "Investing for the Financially Challenged." He can be seen regularly Monday mornings at 8:40 am on CNNfn.  Top of page

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