Home equity is the portion of your home that you actually own.
What is It?
Home equity is the financial value of the homeowner’s interest in their property. It is the current market value of your home, subtracting what you owe on your loan. Another way to think about it is how much of your home’s value you have already paid for as opposed to how much of your mortgage you are still financing.
For example, let’s say you purchased a home for $300,000 and made a 20 percent down payment. Therefore, you are financing $240,000. At the time of purchase, the market value of your home was $300,000. Your down payment of $60,000 or 20 percent is your home equity. This is how much of your property that you really own at the moment.
Your equity is continually changing as you pay down more of the principal on your home loan. Additionally, you can gain equity as your home increases in market value over time.
How to Calculate Home Equity
1. Figure out your property’s current market value.
2. Find out how much principal you still owe on your loan.
3. Subtract your loan balance from your home’s market value.
What you have left from this calculation is your equity.
If your home appreciates in value, you build more equity by merely being the owner. For instance, let’s say your $300,000 home is now worth $320,000. To calculate, do the same calculations as above, but now add $20,000 in additional equity.
How to Use It
Some homeowners want to leverage their home equity, which is likely their most valuable asset. There are a few options to utilize it:
Home Equity Loan
This is also known as second mortgage. With this loan, you get a lump sum payment to use however you like. For example, you may choose to finance your child’s college education or pay off credit card debt.
Like any loan, you must repay the principal with interest. Failure to repay your home equity loan may result in foreclosure on your home.
Home Equity Line of Credit
Also known as a HELOC, this is a revolving credit line that functions similar to a credit card. For example, you may choose to use a HELOC to make home repairs if the construction happens in phases or in the event you don’t know the full scope of how much you will need.
HELOCs have two different payment periods. You can borrow up to an approved credit limit during the draw period. Draw period payments may be interest-only or include both the interest and principal, depending on the type of HELOC you receive. During the repayment period, your monthly payment will like be higher than the draw period payments. This payment consists of the principal amount that you borrowed as well as incurred interest.