The Pros and Cons of Using Your Home Equity to Renovate Your Home
Rising home equity is expected to spur a record amount of home improvement spending, CoreLogic projects.
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A Colorado reader called my toll-free line 1-855-ASK-POST (1-855-275-7678) for advice on using his home equity to renovate his home.
Background: The Appellant is single and 62 years old. No children. She is retired. She fully owns her home, which is worth around $520,000. She has about $350,000 in retirement funds spread across bank accounts, mutual funds, 401(k), 457s and IRAs. But that money has to last through his retirement years.
“My social security hasn’t gone into effect yet, even though I applied for it,” she said. “I live off my investments and my credit cards.”
The repairs she wants to make are more cosmetic than necessary.
“Repairs would be nice to have, like remodeling my bathroom and kitchen,” she said.
His question: “Should I, given rising interest rates, take out either a mortgage or a home equity line of credit to finance repairs?”
Cash-in refinance and HELOCs are expected to increase in 2022. But are they right for you?
His debt situation: She has an unpaid credit card debt of approximately $34,000 on three cards. She still has about $11,000 in student debt.
Its possibilities: The owners have a few ways to access the equity in their home – a cash refinance, home equity loan, or home equity line of credit (HELOC).
With a cash refinance, you replace your current mortgage and borrow money against the equity in your home. If you own the house, you’ll get more money out of the deal because there’s no existing mortgage to pay off.
A home equity loan, also known as a second mortgage, allows a homeowner to borrow money from the equity in their home. The loan is split into a lump sum and repaid in monthly instalments.
A HELOC is secured by your home and gives you a revolving line of credit similar to a credit card. As you pay off the balance, your available credit is replenished. HELOCs often have a variable interest rate. The interest rate tends to be lower than what lenders charge for a credit card or personal loan.
Given the caller’s situation, I would not recommend a HELOC. Here’s why:
To bring inflation down, the Federal Reserve plans to continue raising interest rates. If your loan has a variable rate, the interest rate will likely increase.
Fed hikes rates by three-quarters of a percentage point to fight inflation
If you’re already struggling to pay your bills, getting a HELOC for unnecessary home renovations isn’t financially prudent.
Alternatives to a HELOC: There are state and local programs that can help with home repairs. Contact your local government or county housing department to see if you qualify for such a program.
I asked the caller if she had considered a reverse mortgage, which gives seniors a way to tap into the equity in their home.
“I thought about a reverse mortgage, but wouldn’t I have to stay in my house for the rest of my life? ” she asked.
Unlike a traditional home loan, you don’t have to make monthly payments on a reverse mortgage. The loan is not repaid until the owner moves, sells or dies. When the home is sold, any equity that remains after the loan is paid off is distributed to the person’s estate.
Generally, a reverse mortgage works best if you plan to stay in your home for a long time.
“I believe I could age in place in this house,” the caller told Ask Post. “My family has lived in this house for 52 years and it is perfect for a senior citizen.”
Borrowers can take out the reverse mortgage as a line of credit, lump sum payment, fixed monthly payments, or a combination. The loan amount depends on the age of the borrower and other factors.
To qualify for a reverse mortgage, you must be 62 or older. You must have paid off your mortgage or repaid a considerable amount to have equity. Your home must be your primary residence. Most importantly, borrowers must maintain the home and pay property taxes and home insurance.
A reverse mortgage would not be a bad option. She could use the loan to get rid of credit card and student loan debt and make whatever repairs she wants.
Should you tap into the equity in your home to fund your retirement?
But I suggested he come out of retirement and work full-time or part-time to save money for home renovations.
“I’m considering a part-time job,” she said. “The city is looking for retirees who can work part-time as lifeguards. The salary won’t be great, but something is better than nothing.
One thing she should keep in mind. Since she hasn’t reached full retirement age, Social Security will deduct $1 from her benefit payments for every $2 she earns above a certain annual cap. For 2022, this limit is $19,560.
It is about being rich in house and poor in money. I generally recommend that you only cash in on your home equity when you need to make necessary repairs. By this, I mean that your roof is leaking or there is a problem that jeopardizes the safety of your home.
“At this point, my instinct tells me that I should delay as much as possible,” the caller said.
If you have equity in your home, don’t let debt be your first choice for getting that money. Make it your last resort.