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Refinancing and remodeling

Dr. Don TaylorDear Dr. Don,
I have a question about cash-out refi's. I owe $230,000 on my home but it recently appraised at $360,000. We live in a sought-after area of Atlanta and want to stay in our neighborhood.

After shopping around for a couple of years, we have decided to add on to the house instead of moving. We have had a LIBOR-based adjustable-rate mortgage to finance the house while we were deciding what to do. That loan is currently at 3.125 percent but the rate resets every six months.

Now that we have made the decision to remodel, I am leaning toward using a cash-out refinancing with a 30-year fixed-rate mortgage. We anticipate the remodeling to cost around $100,000 and I don't want to have both a floating rate mortgage and a home equity line at the same time. That's a lot of interest rate risk. Does that sound like a good plan, and how would I go about doing this? Thanks for your help. -- Charles

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Dear Charles,
The concern I have about you using a cash-out refinancing is that a $330,000 mortgage on a $360,000 home may put you in a position where you have to pay private mortgage insurance (PMI). You're also crossing over from a conforming loan to a non-conforming "jumbo" loan.

The 2003 conforming loan limit for a single-family home is $322,700 in most states. The limit is higher in Alaska, Hawaii, Puerto Rico, Guam and the Virgin Islands.

Now that you've decided to stay put, it makes sense to move to a fixed-rate mortgage from your adjustable-rate loan. Fixed rates hitting a 40-year low last week also helps in the decision to commit to a fixed-rate mortgage.

A home equity line of credit (HELOC), home equity loan or a construction loan would allow you to capture the increase in the appraised value before doing a refinancing. That should get you past the PMI issue. A $100,000 HELOC would be more flexible than the construction loan. You'll take on some interest rate risk waiting for the completion of the remodel, but will also realize some interest savings by staying in variable rate loans through the construction process.

Get a handle on how long it will take to remodel your home and make a decision whether you're willing to accept the interest rate risk over that time period. Keep track of what's going on in the mortgage market on Bankrate using its weekly rate survey and its Rate Trend Index.

-- Posted: March 19, 2003




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