Your one-stop destination to learn about all things Real Estate

Home Equity, Explained

Home equity, put simply, is the amount of your home that you actually own. You're probably wondering what this means as you were likely under the impression that once you purchased your home, it was your house. While in theory this is true, technically you only own the part of it that you've "paid" for (likely the down payment plus any mortgage payments you have made). If you're like most and borrowed money to purchase your home then the lender has an interest (or money invested on your behalf) in the home up until the time you pay off the loan.

home equity definition and how it works

How Equity Works

So how exactly can you calculate your home equity or the portion of your home that you own? Well, it's actually really simple: identify the current market value of your home and subtract out your mortgage balance (the amount you owe on your home). The amount you are left with is the portion of your home that you "own".

As an example, let's say you purchased a home for $300,000 and made a standard 20% down payment ($60,000) leaving you on the hook for $240,000 in loans. In this case, you technically own 20% of the home, or $60,000 worth.

home equity example and how to calculate it

Building Equity

The more equity you have, the better — after all, it means you own a larger portion of your home. So how exactly do you gain equity? While there are a number of ways that it is ultimately possible to build equity, in most cases, it's accomplished by the following:

  • By lowering the debt to market value ratio — usually by making payments on your mortgage.
  • An increase in the market value of the property — typically a product of time or a change in the market but can also be achieved by making home improvements or upgrades.

Using Your Equity to Buy a New Home

Having equity in your current home gives you a major jump-start when it comes to purchasing a new home. When it's time to sell your home you will be able to use the equity built in your current home to put towards a down payment on your next one. In many cases, you will be able to upgrade your property but still achieve a lower mortgage payment because of the equity you've used to lower down the overall amount you owe on the home (how much you will need to borrow).

For instance, if your home is worth $250,000 and you have built $50,000 in equity, assuming you get asking price, you will make a profit from selling your home. While it would be amazing to have that entire $50,000 in your pocket you will have to factor out some fees such as closing costs and commissions. Even still, you have a great chunk of change left over to put towards your new home.

Borrowing Against Equity

In some situations it may work well for you to essentially use the equity you have built-in your home as a line of credit. You may have heard this referred to as a second mortgage. As you would typically need to sell your home in order to access the equity, this option allows you to keep and live in your home while also gaining access to the equity. It can be tempting to tap into this cash source once it's available but just remember that your goal should be to build equity so use the ability to tap into your equity very wisely.

borrowing against home equity

Equity and Retirement

A home is a valuable asset to own, and if you're a homeowner who is older than 62 and owes less than 50% of your mortgage — you may be able to tap into that equity with a reverse mortgage. Yep, even if you still owe on your home, you can access your equity if you need cash.

A reverse mortgage is a type of loan that converts home equity into cash and allows a homeowner to borrow against the value of their home. So instead of making loan payments, you would receive money from the lender. You get to keep the title to the house, continue living in your home, and are not required to make any mortgage payments or loan payments. You do, however, have to pay property tax and insurance. While you can pay the loan back at any time there are stipulations.

Reverse mortgages can be a great tool for retirement, but you will want to make sure you've thoroughly researched this option and found that it will be a good fit for your situation.

Building equity in your home can take some time and work, but the benefits are well worth it. Whether you plan to use equity to buy your forever dream home, borrow against it to pay off those pesky student loans, or to safeguard your retirement, there is no question that building equity opens many doors for your future.

Ready To Become A Smarter Homebuyer?

By signing up, you agree to Nestiny terms of use .
Whether you need a step-by-step guide, video resource or one of our many helpful tools, Nestiny has your back 24/7 for all things home buying and selling. You choose the pace, material, and when and where to learn. Unlock your free access to Nestiny today!
Are you a real estate professional? Go here .
By clicking this button, you'll enjoy free unlimited access to Nestiny and agree to our terms of use . And don't worry! Nestiny will not share your information with any parties without your consent.

You might like :

Ready To Become A Smarter Homebuyer?

By signing up, you agree to Nestiny terms of use .
Whether you need a step-by-step guide, video resource or one of our many helpful tools, Nestiny has your back 24/7 for all things home buying and selling. You choose the pace, material, and when and where to learn. Unlock your free access to Nestiny today!
Are you a real estate professional? Go here .
By clicking this button, you'll enjoy free unlimited access to Nestiny and agree to our terms of use . And don't worry! Nestiny will not share your information with any parties without your consent.