Raising Capital for Home Improvements

LAST YEAR alone, Americans spent more than $200 billion on major improvements and additions to their homes. How did they raise all that money? For the most part, they did it the old fashioned way: they borrowed it.

Your best deal when seeking money for a major home improvement project is to borrow from your company profit sharing plan or against the cash value of your whole life insurance policy. You will pay below market interest rates and you will not be hit with rather hefty loan origination fees. If you cannot tap these sources, you can apply for a variety of loans offered by banks, credit unions and finance companies. Interest rates are lowest at credit unions, higher at banks and highest at finance outfits.

Most homeowners finance their remodeling projects by taking out a second mortgage on top of the one they already have. You can borrow up to 80% of the appraised value of your house minus the unpaid balance on your first mortgage. Bankers charge one to two percentage points more for second mortgages than for first mortgages, and you can repay over 30 years. As with any loan that is secured by real estate, you must pay closing costs.

You might do better financing your improvement if you paid off your first mortgage and took out a new, larger loan. This is known as refinancing. It makes the most sense if you bought your house between 1979 and 1982 when interest rates were at nosebleed levels. You will face stiff closing costs, and possibly a prepayment penalty of up to six months interest for paying off your first mortgage early. But refinancing usually will be worth it if it lowers your interest rate three percentage points or so.

Many borrowers are using home equity lines of credit to pay for home renovations. You can get these loans from brokerage firms as well as banks, savings and loan associations and some credit unions. You open a line of credit equal to 75% to 80% of the appraised value of your house, minus the unpaid portion of the mortgage principal.

Then you simply write your own loans by writing out checks as you need the money. The interest rate is adjustable, varying monthly with whatever index the loan is tied to. But you do not pay any interest until you actually borrow the money, and then only on the amount that you borrow. You will have to pay closing costs, but you can use the borrowed money for any purpose not just remodeling.

The interest that you pay on a mortgage or home equity loan remains deductible under the new tax rules. But Congress has put on some limitations. These restrictions apply primarily to affluent people and are quite complex.