Utilizing cash reserves from a dedicated bank account with the job description of capital improvements is best. It’s important your liquidity and cash are not lumped into one savings or checking account. Problems may arise when you attempt to mentally account for all the things you’d like to do to your home and still maintain adequate cash reserves. At Flowerstone Financial, our planning best practice include segmenting out your various liquidity needs into separate accounts. Home improvements and ongoing maintenance is no different. Our brain works better when we categorize short term liquidity needs in separate accounts each with a unique purpose. Holding one big savings account to address overall liquidity needs, summer vacation, taxes, and home improvements blurs the lines and often creates problems. Consider creating a separate bank account and labeling its job description in your online preferences to address a specific job. Then use automation to fund this specific account from your general spending account. This allows you to not think about moving the monies yourself, or forgetting, and is less stressful on the brain. This same approach allows you to send monies to an investment account, pay down debt, or other helpful cash flow strategies so you feel good about your forward progress. Checking in and reviewing your financial plumbing system every six months ensures the right monies are directed to the right account. This also allows you to spend the rest without the guilt of thinking you may be shortchanging your future self!
Back to funding the exciting home improvement you have imagined. Other approaches beyond cash flow include using a home equity line of credit. This is commonly known as a second mortgage and may allow you to unlock some equity in your home. Under current tax laws when you use a home equity line of credit for home improvements the interest you are charged is deductible on your tax return. Borrowing from your house to increase its value or to simply address deferred maintenance needs is an efficient use of the dollars if cash is not available. Home equity lines of credit tend to carry a higher interest costs then your first mortgage. Given the reality of uber low interest rates today that shouldn’t be an issue. You may integrate the home equity payment into your monthly cash flow system and accelerate it’s pay off based on income. Other choices include refinancing both the first mortgage and home equity line of credit into one mortgage. We’ve covered mortgage planning and it’s role in your financial plan in an earlier post. More details and considerations are listed there.
There are benefits to keeping a home equity line of credit open once the balance has been paid off. These include addressing future capital improvements in addition to providing another source of liquidity to your financial house. It’s possible for this line of credit to act as a “life boat of liquidity” should life throw you a curve-ball. Holding additional liquidity in the form of home equity may be helpful to your financial plan and may strengthen other cash reserves. It takes discipline and patience to manage your home equity line of credit. That same discipline and patience may also serve your financial plan well when as you enjoy your new home improvement today while continuing to plan for tomorrow.
Advisory services through Cambridge Investment Research Advisors, Inc., a Registered Investment Advisor. Cambridge and Flowerstone Financial are not affiliated.