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How to Demystify Home Equity and Make It Work for You

Submitted by Tommy Wyher on Wed, 05/10/2017 - 3:01pm

Like any potentially lucrative industry, real estate is complicated. Most homeowners know only enough information about real estate to keep paying their property taxes and homeowner’s insurance. Terms like “equity” might be casually familiar to them, but many aren’t able to define it properly or use it to their advantage. However, home equity has the potential to be a powerful financial tool once you understand it, and there are several strategies you can pursue to make your home equity work for you. Examining your options closely and making some informed decisions can help you obtain money from your home equity when you need it most.


Before we dive into your options for borrowing against home equity though, let’s go over the basics and make sure that everyone reading this article understands just what we’re talking about when we say “equity.” One of the biggest questions on your mind so far might be, “what exactly is home equity, anyway?” Don’t worry: we’ll start slow, then bring you up to speed so that you have a comprehensive understanding of home equity and its potential uses by the time you’ve finished reading.


Defining and Calculating Home Equity


Your home equity is an asset based on your home’s interest. Still too vague? Let’s put it this way: home equity is the portion of your home for which you have paid. To calculate your home equity, you’ll need to know the market value of your home, and the outstanding balances on any loans you’re currently paying off on it.


There are several ways in which you can discover the current market value of your home, but the most accurate way is probably to hire a professional appraiser. If you’d rather save money though, it’s easy to arrive at an estimate by doing some legwork. Look through the prices of homes in your area that have recently been sold, speak with your local tax assessment office and consider speaking with a realtor in your area to see if they’ll tell you anything about the prices of homes they’ve recently sold. Once you’ve collected enough examples of homes that are similar to yours, you should be able to arrive at a ballpark figure for what your home is currently worth.


Finding the outstanding balances on your current loans should be a far simpler and faster process. Most homeowners keep accurate records of their outstanding debts and payments that they’ve made, but if you don’t have this information on hand or need to verify it, your lenders should be more than happy to remind you what you owe them.


Once you’ve arrived at the current market value of your home and found out your outstanding balances, simply subtract those balances from the current market value. The result will be the amount of available equity you have in your home.


What to Do with Your Home Equity


Because your home equity represents money you’ve already paid into your home, there are several ways in which you can borrow against it. There are a few ways in which you can do this, but the most popular are as follows: home equity loans, home equity lines of credit, and reverse mortgages. Each of these methods offer their own advantages, depending on your circumstances.


Comparing Home Equity Borrowing Strategies


A home equity loan is a single sum of money that comes with set interest rates and fixed payments when you borrow it. You’ll plan to pay it off over a set amount of time, making it a predictable way to borrow against your home equity. A home equity line of credit, on the other hand, establishes a certain borrowing limit for the duration of the loan. If you don’t exceed this amount, you can pay it off in part and borrow against it again and again. Reverse mortgages work differently, allowing you to defer all payments until the home has passed out of the last surviving homeowner’s possession. While reverse mortgages often come with several conditions attached to them, this grace period makes them ideal for a lender who needs to take out long-term loans against their home equity.


No one can tell you what the best way to leverage your home equity is—it depends entirely on your financial situation and the length of the loan you want. Whatever you decide though, we hope you now have a better understanding of what home equity is and how to exercise your options.