What is Home Equity?
If you’re a homeowner, or if you’re planning to buy property, you’ve probably heard the term ‘home equity’.
Understanding the concept of home equity is important for all potential homeowners, but many people aren’t sure what it means.
Simply put, home equity is the market value of the property minus the value of what you owe. In other words, it is the total amount of money that you’ve paid back to the bank. The better your home equity, the higher your net worth.
You can think of home equity as a value or percentage. Let’s say your home has a value of $200k and you still owe the bank $160k. Your current home equity value is $40k or 20%.
Understanding home equity and home ownership
If you’re new to thinking about home equity, you may be wondering about your actual status as a homeowner.
A 20% equity doesn’t technically mean that you only own 20% of your home. When you took out your mortgage, the bank purchased the house on your behalf.
Legally speaking, you own the entire house. However, your property serves as the bank’s collateral until you pay off your mortgage. Until you do - according to your bank’s interests - what you truly “own” is your home equity.
How does my home equity benefit me?
This is where it gets interesting.
An equity of at least 20% qualifies you for “a home equity line of credit” or HELOC. This credit can be used for big expenses, such as property investment and debt consolidation. HELOC is great because typically it has lower interest rates than other loans and is tax deductible.
Let’s say you’re looking to invest in another property which is valued at $100k. A bank loan will generally cover 80% of the expense, meaning that you would need to fork out $20K. Add to that legal and admin costs and you may start re-considering this promising investment.
Luckily enough, you have $40k of home equity on your first home which you can use to cover the cash deposit and initial costs.
Another great thing about HELOC is that you can use it again after time. You’ve just got to keep paying back your loan.
How do I increase my home equity value?
The more home equity you have, the better. Equity growth happens in two ways; by paying off your home loan and by increase in property value.
Of course, the first way is by paying back monthly instalments of your loan, which will work in your favor over time. As interest charges fall, a greater portion of your payment will go towards paying off the principal loan amount. By paying off your loan consistently, the rate at which you acquire equity will increase.
You can increase the value of your home by improving it. Renovating kitchens and bathrooms, updating fixtures and re-flooring can make a big difference. Or you could just get lucky. If positive change in the real estate market occurs, your property can value increase without you having to move a muscle.
Home equity means more than just how much of your mortgage you’ve paid off. It can be used as a means of credit when buying another property, or to consolidate debt.
Equity does take time and, of course, money to grow unless the value of your home appreciates overnight (lucky you!). But the investment will be worth it.