Home Improvement, investment
Question: I have a general question regarding ‘investing’ in a ‘home | improvement’ project. Suppose you want to add a ‘den’ | to your house. Let’s suppose the total cost would be 5k. | Definitely adding a den would increase the value of the house. | Of course if you go for a home equity loan you can deduct | the interest on your taxes. Suppose if you had the money to | pay and you opted to go for the home equity and invested 5k | in say stocks/mutual funds etc., where you can realize 10-12% annually. | The return you realize from this investment will not only offset your | monthly payment but also will produce income. Let me illustrate | this by an example: | | 1. If you borrow 5k home equity loan at 7% for 5 years | the monthly payment would be approximately $100-105. | | 2. Suppose if you invest 5k in stocks/mutual funds and | realize around 10% per annum (i.e, $500): | Capital gains tax you will pay (28%) $140 | After tax amount 500-140 = $360. | Monthly payment for home improvement $105 | Final amount you realize $360 – 105 = $255 | | 3. Say for a period of 5 years then your gain is around $1200 | on an investment of 5k. | | 4. Supose if you don’t go for the home equity, but pay for the | home improvement completely, then the investment gain depends | on the real estate home value appreciation per year for the | area you live in. Assuming the real estate market appreciation is | around 6%, and if you sell the house at the end of 5 years | you will gain $300 (selling price of the house include your 5k). | | Which is better? | Investing and home equity loan is better or pay for it upfront | and hope for real estate appreciation? | | Your responses on this analysis appreciated.
Answer: If you can earn more on the money than you have to pay to borrow it (including taxes and other fees) then it is better to invest the money and borrow, otherwise it isn’t. So with the numbers you give (7% home equity loan(+tax benefits) vs. 10% investment return (7.2% after taxes)), it would be slightly better to invest your money. The appreciation of the addition is irrelevant as you get it whether you invest or not.
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Filed under: Home Equity Loan
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