The majority of homeowners do not own their homes. They do not have the amount of capital required to buy their homes in cash, and they, therefore, seek mortgages from certified mortgage lenders. They are co-owners with the lenders for as long as the mortgage is outstanding and not paid-in-full.
Home equity is the difference between the value of the property and the amount still owed to the lender. This surplus, which is home equity, belongs solely to the homeowner. For example, if a potential homeowner borrowed $400,000 for their house, and they have so far paid off $200,000 on the loan; their home equity could be as high as $200,000.
Home equity is one of the many benefits that come with owning a home. When a homeowner pays consistently on the mortgage, the equity increases. Home equity is based on the combination of how much of the principal has been paid and the property value. Building up home equity is a great way to invest in the future.
The benefits of home equity are built up over time and are dependent on increases in the real estate market. On the plus side, as the principal is paid down, it’s more likely that the homeowner will see the home equity increase. Home equity is one of the reasons that buying a property is a great investment as a long-term financial tool.
It can be challenging to determine how much equity is available in a home’s property. While it’s easy enough to figure out how much of the original principal is left on the house, calculating the increase in property value can be more difficult. Home counseling programs can assist with finding out how much home equity is available to the homeowner. You can use this free Home Equity Loan Calculator from NerdWallet to get a good estimate: https://www.nerdwallet.com/blog/mortgages/home-equity-loan-calculator/
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If it’s determined that there is home equity available, the equity amount can be used in the following ways:
- Borrow against the equity for cash
- Purchase a new home
- Use it as retirement income
- Home improvements
- Cover college costs for children
- Debt consolidation (this can be risky, and it’s NOT recommended in most cases)
- Covering emergency expenses
- Set up long-term investments
Many homeowners use home equity as a way to make home improvements, pay off debts, or simply pay for the things they need. There are two kinds of home equity loans that can be taken advantage of. A Home Equity Line of Credit (HELOC) is an extension of credit. It works like a credit card meaning that the borrower only takes out money as needed. The cash withdrawals must be paid back with interest. The HELOC is a great way to go for smaller purchases over time. The line of credit is available whenever it’s needed, which is good for emergencies.
Home equity can also be used for a large one-time cash loan. This type of loan is paid back as an installment loan, and it can be customized to meet the needs of the homeowner’s budget. The interest rate is normally fixed, so the homeowner won’t have to worry about increased payment amounts. A lump-sum home equity loan works well for those who need to pay off large balances or have major home improvements to do.
People who are looking for a new home to purchase can use a home equity loan to buy a new home or investment property. Home equity can also be used as a reverse mortgage for retirees who wish to remain in the property and take out a loan. Home equity should be used wisely, and it’s best to consult with a housing counseling agency to discuss the homeowner’s specific needs. Home equity is an important part of every wealth portfolio and should be managed with care.
How to Build Home Equity:
Home equity is primarily gained by making regular payments against the mortgage. The owner of the home borrows however much they need to buy the house but puts down a percentage as agreed upon with the lender. They then proceed to make monthly payments towards the mortgage. The payments offset the principal amount as well as the interest. The more consistent the homeowner is with their payments, the faster they can pay off the mortgage and build equity.
Other ways that homeowners can build equity include:
- Appreciating home values – If the homeowner’s market goes up in value, their homes will automatically be affected positively. Higher market values mean more equity.
- Extra payments – As much as the mortgage could be payable in 30 years, it does not hurt to pay more when the homeowner can. Paying more than the minimum monthly requirement reduces the amount owed and builds equity faster for the homeowner.
- Home improvements – If a homeowner is keen on updating their home, they could cause its value to go up. Replacing an old roof, replacing the fading siding, renovating the kitchen, or improving the landscaping could give the home a face-lift and boost its market value. In making these improvements, the homeowner should go for those that provide them with a favorable return on interest.
What Determines Home Equity:
It is strictly determined by the value of the home. If a homeowner buys a house for $400,000, then the value of the house shoots to $420,000, their equity will automatically rise by the said $20,000. If, on the other hand, it goes down by the same amount due to the various factors, the homeowner loses equity. Equity, negative or positive, has nothing to do with the initial cost of the house, which would most probably be the amount of the mortgage.
Home equity is how much your home is worth minus what you still owe on it. Keep in mind; this is not just how much you paid for it. Home equity is based on what your home would be bought for in the current market in its current condition. Depending on the terms of your loan and the housing market in your area, this can sometimes work against you.
How Can a Homeowner Use their Equity:
Home equity is money on paper and only becomes real when the homeowner sells their home and pays back the lender. People can, however, use it to open a line of credit or even take out a home equity loan. If the homeowner sold the house, they could use the extra amount to finance their next purchase, which would mean they would not need to borrow much. An even wiser idea would be to use the equity to build up an investment portfolio that could generate income for the homeowner.
Head over Tails – When Mortgages Outweigh Home Equity:
Have you ever heard of anyone ending up “upside down” on their home loan? This is when a homeowner owes more on a house than its appraised value on the open market. If a homeowner in this situation sells the house, they would still have to pay the bank the remainder of what they owe.
This is obviously a very bad situation to be in. If you find yourself in a similar situation, you should contact Advantage CCS for our Housing Counseling services. We can help educate you and help you understand all of your options. Here’s a direct link to our Housing Counseling services: https://www.advantageccs.org/services/housing-counseling
Borrowing against Time – Reverse Mortgages:
Home equity also plays an important role in reverse mortgages. These are a type of loan marketed to seniors under the premise that they will get to continue living in their home, and they won’t have to make monthly loan payments either. The caveat is that the amount that has to be paid back grows and grows until the house is sold, the borrower moves out of the home for a year or more, or the borrower passes away.
These loans can help seniors deal with costs they may face, but they can also be abused. Pennsylvania housing counseling can help you sort out what is the best path for your finances and your home.
Housing Counseling and Home Equity:
Utilizing housing counseling can help you avoid situations that can end in foreclosure and can help you save more money in the long run. Managing home equity can be tough, but there are people who can help you, if you find that you cannot manage your current mortgage payment. If you use the equity in your house, make sure you use it wisely.
We are always only a phone call away and can answer any questions you might have about buying a house, doing a Reverse Mortgage, or how to prevent a foreclosure if you’ve fallen behind on payments. Give us a call today at 1-866-699-2227 or visit us online at www.advantageccs.org to Live Chat with a counselor.