You have an unfinished basement that gives you the creeps every time you walk downstairs. You would love nothing more than to finish it, but you don’t have the extra cash to do so. You know that one of your options is to refinance your current mortgage and take the cash out of the equity to pay for the basement remodel. You could also take out a home equity line of credit or loan to pay for it. The premise is the same – you take out the equity in your home. Is this a good idea?
Your Situation Determines the Answer
There is no cut and dry answer to this question. For one person it might be a great idea and yet for another, not quite the best idea. So how do you decide? Here are some things to consider:
- Will the changes add value? Not every change in your home increases its value. Generally, a basement remodel does, especially if it increases the available living space, but you cannot just assume. You need to know for sure how much value the changes you want to make would add. A quick conversation with an appraiser or experienced realtor could give you a good idea of what to expect.
- How long will you stay in the home? Paying for a remodel is expensive as is the cost to refinance your loan. If you are not going to stay in the home long enough to recoup the costs of the changes, you could lose out on the deal. Generally, staying for at least 5 years is a good timeline to use.
- Can you afford the new payments? Refinancing with cash out of the equity of your home usually means higher mortgage payments. You have to determine if you can comfortably afford them. Whether you refinance your first mortgage as a cash-out refinance or you take out a home equity line of credit, figure out the fully amortized payment and whether you can afford it. If it will be a struggle, the refinance might not be worth it. Don’t make the mistake of looking at the interest only payment that home equity lines of credit offer – remember that payment will fully amortize in the next 10 years. Can you afford that full payment? If not, it might not be the right choice.
- How much equity do you have in the home? Many homeowners make the mistake overestimating how much equity they have in their home. If you are not aware of the current value of your home, you might not know exactly how much you have. If, for example, you only have 10-15% equity in the home, you probably shouldn’t touch it. In fact, most lenders won’t allow you to refinance with that little amount of equity. Assuming you find a lender willing to lend to you, though, think of the long-term effects. If you need to move suddenly or find yourself in a financial bind, you will not have any equity left to tap into. This is a big risk to take.
Getting Quotes for the Basement Remodel
Before you decide whether or not you will refinance to complete a basement remodel, you should get many quotes from contractors. You might find that the prices are all over the board. Before you jump in and use the first contractor you find, see if you can save money somewhere. Maybe there are certain aspects of the project you can do yourself. You might even find that there are some projects you can wait and complete down the road. This way you can have the main framework done and get a majority of the project completed without tapping out the equity of your home. If you can get a bulk of the work done and then work on saving money to complete the rest, you can minimize how much money you need to cash out of your home. This can give you the best of both worlds – you remodel your basement, but still have equity to fall back on should you need it.
Consider all of Your Options
The bottom line is that you need to consider all of your options. Take a close look at the cost of remodeling your basement and what it would take to save that kind of money. Maybe you save half of it and take the other half out of your home’s equity. This way you don’t completely use all of your equity, yet you fix up your home the way you want.
You should also think of the future very carefully. If you don’t see this as your “forever” home, home soon do you see yourself moving? If you will not stay long enough to enjoy the basement, why do it? The value it adds might or might not repay you for the total costs involved. You really have to evaluate your situation to see if it makes sense.
Don’t forget about the costs to refinance your loan. All loans have closing costs, unless you secure a “no closing cost” loan. Even home equity lines of credit have closing costs. It pays to shop around with different lenders to see how much money you can save on the closing costs. Of course, you should factor in the interest rate as well. The best way to do this is to look at the APR – this is the interest rate the loan actually costs you when you factor in all aspects of the loan. When you compare the costs and the APR, you can find the loan that makes the most sense.
In many cases, paying for a basement remodel with a refinance makes sense. If it increases the value of your home and you will stay in the home long enough to recoup the costs, it makes sense. However, there are those times when it doesn’t pay to refinance. When you cannot afford the payments or the value after the remodel is not high enough, it might make sense to hold off on the remodel. Find out what works best for your situation by shopping around and talking with various professionals in the industry to ensure a great return on your investment.