Saving or Financing? How to Decide Before Your Next Home Improvement Project

Learn whether saving or financing is better for your next home improvement project, with tips on costs, interest, cash flow, and repayment risks.

While selecting paint and home improvement products can be fun in itself, the question of how to pay for such improvements can be just as important and demanding. Some people prefer to save the full amount before spending. Others, particularly when tackling urgent repairs or major improvements, opt for home improvement financing to start as soon as possible.

As noted above, neither financing method is inherently more advantageous than the other. Ultimately, the best financing method depends on the scope of the project to be financed, the savings available, the borrower’s cash flow, and the flexibility he or she wants to keep for unforeseen expenses.

Start With the Real Cost of the Project

Many homeowners fail to realize that, in addition to the costs of materials and the contractor’s labor to complete a home improvement project, there are additional costs associated with said project. Beyond the initial cost of the home improvement project, you will need to obtain any required permits, and the delivery company may charge fees for certain materials. You may also need to pay for storage for equipment and supplies and for cleanup of debris from the completed project. Of course, additional repairs may be discovered as work is completed.

It’s wise to include a contingency to cover unexpected issues in an older home, such as problems with the plumbing, electrical, or even structural parts of the property. Often, the cost of initial work is underestimated, so the total project cost ends up being higher than first thought.

When prioritizing improvements, separate essential repairs from desirable upgrades. Although waiting to upgrade your kitchen or replace your bathroom may let you pay for these improvements with saved funds rather than financed funds, many home repairs must be addressed before they worsen other problems and become even costlier.

Understand What Your Money Is Earning and What Borrowing Will Cost

When deciding whether to use savings for a home improvement project or finance the work, it is important to compare what your money could earn with what borrowing would cost. Because savings accounts and lending products present interest differently, understanding the difference between APR and APY can help you make a more accurate comparison before choosing how to fund the renovation.

APR, or Annual Percentage Rate, generally describes the annual cost of borrowing through products such as loans and credit cards. APY, or Annual Percentage Yield, is typically used for savings and other deposit accounts and factors in the effect of compounding. Looking at both can give you a clearer sense of whether it makes more financial sense to leave your renovation funds in an interest-earning account or use some of that money to reduce the amount you need to borrow.

Interest rates should not be the only factor in the decision, however. Loan fees, repayment terms, and whether the rate is fixed or variable can affect the overall cost of financing, while withdrawal restrictions or minimum balance requirements may influence how useful your savings are when it is time to pay for the project.

When Paying From Savings Makes Sense

Using savings instead of taking out a loan can work well for you if the interest from the loan does not dwarf the interest from your savings, when you need to pay off and finish the work fast, or even when you don’t want to go into debt for cosmetic work, which you have ample time to pay off in monthly installments.

It’s worth noting, though, that there are many ‘unpredictable’ expenses associated with homeownership (such as when an appliance fails or there is a problem with the plumbing, etc.). It would be foolish to wipe nearly all of your available cash to spend on something that is largely cosmetic in case something more urgent arises to spend money on shortly afterward.

Consider whether you can afford to pay with your own savings. If you have enough funds saved for other purposes, covering the up-front cost of a cosmetic improvement will not use up your emergency funds too much. Consider how much you will have left in your account after paying for the improvements to make sure you can still cover typical future household expenses.

When Financing May Be More Practical

If work needs to be done straight away and you cannot wait until your savings reach the required level, borrowing may be the best option. Clearly, capital spent on repairs that, if left to deteriorate further, will need to be spent in greater quantities in the near future would be spent harmlessly. This is certainly the case with structural problems.

Borrowing also allows you to maintain liquidity and keep money in your account for other household expenses. Waiting for a few months to pay for necessary repairs (like water damage) may lead to higher repair costs down the line.

For many home improvement loans, the loan and repayments may seem inexpensive compared with other expenditures the homeowner must service on an ongoing basis. However, it's crucial to test the repayment amount against your projected future cash flows to ensure it remains affordable if other household expenses increase.

Consider a Combination of Both

A home improvement financing package may not be the only way to pay for needed repairs or improvements. Combining savings and a home improvement loan is an often preferred way to pay for a home improvement project.

For example, you may save for a portion of the desired renovation, such as a new kitchen, and take out a home equity loan for the remaining amount needed to complete the renovation. This would let you keep a cushion of saved funds for future needs while borrowing only the minimum required to complete your project.

Another key factor is how much you can spend from your savings before looking into ways to finance the remaining balance.

Think Beyond the Renovation Itself

Be aware of other expenses you will need to cover in the near future. For example, could you be going on a trip, paying for children to go to school, having a car repaired, or paying a bill, such as an insurance renewal?

It’s also important to consider the value of the improvement. Will it increase your home's value, or will it make your home more comfortable and better for you and your family?

Whatever the best way to fund home improvement projects is, it should enable the improvement. So, besides the cost of the project itself, you also have to consider the full cost of repaying the funds and compare it with potential interest on savings accounts. It is also wise to preserve some financial ‘stiff capital’ for unexpected costs beyond the home improvement itself.