Should You Use Debt To Improve Your Home?

If you’re considering making repairs or improvements to your current home, you’re in good company. In 2018, over 58% of homeowners planned a home renovation of some sort, with 45% of that group intending to spend $5,000 or more to make their homes better. However, people pay for their home renovations in many different ways. Homeowners who don’t have significant cash on hand often choose some form of debt to finance their home upgrades. Let’s examine different types of debt that are often used to finance home renovations, so you can determine whether you should use it to improve your home.

Credit Cards

Credit cards are commonly used to finance home improvements, particularly smaller, largely cosmetic projects, such as repainting a room, installing new light fixtures, or refinishing older hardwood floors. In many cases, using a credit card for these types of repairs makes sense. Many home improvement companies readily accept credit cards, and if you don’t have the cash immediately on hand, a credit card may be a good choice to pay for the work and materials. Store credit cards from home improvement stores are sometimes used to pay for both materials as well as the repair or improvement services. In many cases, these types of cards may allow you to purchase both the materials and services at some sort of discount, so they’re worth considering.

However, there are several drawbacks to using credit cards for home improvement. Many home repairs are too expensive to finance with credit cards. Even if you could, carrying high credit card balances could lead to high monthly payments and affect your ability to save money or pay your other bills. Paying for numerous home improvements over time with a credit card could also lead to a high balance that’s difficult to pay off, leaving you saddled with high levels of debt and average to poor credit for years to come.

Home Equity Loans

Home equity loans and lines of credit (or HELOCs) are another popular method to finance home repairs and improvements, especially substantial ones. When obtaining a home equity loan, a lender uses the borrower’s home as collateral to secure the loan. This often allows the borrower to obtain the loan at a favorable interest rate, which eases the burden of monthly payments considerably. In many cases, homeowners can deduct the interest on home equity loans and HELOCs when they file their Federal income tax returns, too.

Home equity loans aren’t a good fit for everyone looking to improve their homes, however. For starters, if a borrower defaults on a loan that used his or her home as collateral, the lender could opt to seize that property, meaning you could end up losing your home altogether. For higher-priced homes, the new tax law limits the amount of interest that homeowners can deduct on their tax returns too, which may neutralize some of the potential tax benefits these types of loans traditionally provided. Many home equity loans use variable interest, so your interest rates and monthly payments could rise substantially over the life of the loan. Finally, your home may not be worth the amount that you need to borrow to finance your home repairs in the first place, so a home equity loan or HELOC may not even be an option for your situation.

Personal Loans

Another form of debt that homeowners use to finance home renovations is a personal loan. Banks and other lenders increasingly offer personal loans for the express purpose of home renovations and improvements these days, too. Unlike home equity loans and HELOCs, personal loans aren’t secured by real property, so you don’t have to worry about losing your home if you have problems repaying the loan later on. In addition, while home equity loans often have variable interest rates, personal loans are usually fixed rate. Personal loans don’t offer the interest expense benefits that borrowers traditionally received with home equity loans. However, in the wake of the tax law changes, it’s no longer the advantage that it once was anyway.

There are several disadvantages to personal loans, however. Since they’re not secured with real property, the interest rates lenders charge may be higher than the rates charged for secured home equity loans. Borrowers may also have difficulty getting a big enough unsecured personal loan to finance a major home renovation project. Finally, many lenders may be hesitant to provide personal loans to borrowers with less-than-stellar credit ratings.

Proceed Carefully When Using Debt to Improve Your Home

Millions of Americans use debt each year to make major and minor improvements to their homes. When done right, debt can help you improve the quality of life you enjoy in your home, and increase its value at the same time. In some cases, using debt for home renovations can even offer certain tax advantages. However, the debt incurred in making home improvements could also make it difficult to pay other bills or save for retirement and other important life events. Therefore, before you decide to use debt to improve your home, make sure you weigh all the pros and cons of the types of debt available. Doing so will help you make an informed choice, and help you avoid debt pitfalls that could put you at a financial disadvantage over the long haul.