Whats green, crisp, but doesnt grow on trees? The answer is money. In its basic physical incarnation, it looks, feels and spends the sameno matter where you get it. But when youre dealing with money on a larger scale
like a multi-thousand dollar loan for home renovations
where it comes from can ultimately make a big difference in your bottom line.
Home Equity Loan
Many borrowers looking to finance renovations turn to the traditional home equity loan. With a repayment term of at least a decade, this product allows you to borrow against the equity youve built in your home,
after years of principal payments and property appreciation.
The amount you can access depends on the market value of your home minus the balance you owe
on your mortgage. Most lenders cap disbursements at 75 to 80 percent
of the available equity, after they factor in the first loan.
Your credit score and income
affect your ability to obtain financing. Youll also have to pay closing costs, which vary by lender. Interest rates on home equity loans are typically higher than those on primary mortgages, as well. Fortunately, this interest is usually tax deductible
if youre using the loan proceeds for home improvements. If you find yourself unable to make your home equity loan payments, though, you risk losing your home.
SEE ALSO: 5 Disadvantages Of Home Equity Loans
Another home renovation financing option is a 401(k) loan. However, most financial professionals advise against it, unless youre facing an emergency situation
with no other feasible options. You put the funds in your 401(k) to assist you in retirement; they should not be withdrawn lightly.
Borrowing from a 401(k) is usually easy. A credit check is not required,
because the remainder of your account serves as collateral. Companies generally cap the amount you can access at 50 percent of your vested account balance, or $50,000, whichever is larger. Unlike a home equity loan, there are no closing costs or fees
to obtain a 401(k) loan, and interest rates are often quite low.
Depending on your employer, you may even be able to call an automated system and have a check within days.
However, the strict repayment requirements
are major drawbacks of 401(k) loans. You generally havefive years to settle the balance
of the loan, and your employer will take your monthly payments directly out of your after-tax pay. In addition, should you leave or lose your job, you have only 60 to 90 days
to repay it. If youre unable to settle the debt in that time, the loan will be subject to taxes, plus a 10 percent early-withdrawal penalty if youre under the age of 55.
Weighing The Options
Whether a home equity loan or borrowing from your 401(k) is the best option for you, will depend on many factors:
How important are the renovations to the value of your home and the safety of your family? How high is your credit score? Can your income support another loan payment? How close are you to retirement age? How secure is your current job?
Consider the answers to these questions very carefully, and consult a financial advisor
for additional clarity.
SEE ALSO: Looking For A New Bank? Three Scenarios That Arent Worth It