Equity can be taken out of your home to do many things, depending on your needs. Similar to a bank account that increases as the mortgage is gradually paid off and as the property value rises. Home Equity is the appraised value of your home minus the remaining mortgage balance.
Example:
Appraised value of home – $350,000
Remaining balance on mortgage – $250,000
Home equity = $350,000 – $250,000
= $100,000
There are several options when looking to use home equity.
- Refinance
- Second Mortgage
- HELOC (Home Equity Line of Credit)
- Borrowed Prepaid amounts
Refinance
At the end of the mortgage ‘term’ you can refinance your mortgage and borrow up to 80% of the homes appraised value. Minus the remaining balance on the mortgage.
Example:
Appraised value of home – $350,000 x 0.8 = $280,000
Minus the remaining balance – $280,000 – $250,000
Useable home equity – $30,000
This amount will be paid out to you as a lump sum and added to your mortgage, bringing the new mortgage balance to $280,000. Breaking a mortgage before the end of the term is possible but be aware of the penalty before doing so, depending on the amount it may be worth waiting.
Second Mortgage
If you’ve just started a new mortgage term and need to use home equity, a second mortgage is an ideal option. Keep in mind the interest rates are higher than a first mortgage. In the case of a borrower defaulting, the property is sold and the first mortgage is paid off before the second. There isn’t always enough money remaining to pay off the second lender, so they raise interest rates according to the risk.
Some private lenders will let you borrow up to 90% of the appraised value of the home, minus the remaining balance on the mortgage.
HELOC (Home Equity Line of Credit)
This is exactly what it sounds like. It’s a set limit, line of credit that uses your home equity. You can finance a HELOC separately from your mortgage but will only be able to receive up to 65% of the homes appraised value minus the mortgage balance. You can also combine a HELOC with your currently mortgage to receive up to 80% of the home’s appraised value minus the mortgage balance.
Borrow Prepaid Amounts
During the mortgage term, if you’ve paid extra money down on your mortgage, those are considered prepaid amounts. If you’ve prepaid an extra $10,000 over the last two years of the mortgage term, then you may have the option to borrow that amount back. The money would simply be added back onto the total mortgage amount.
You have the option to use equity in your home to buy, invest, or pay off debt. Home equity is important and shouldn’t be used frivolously. One of the best ways to utilize your home’s equity is to put it back into your home. Using equity to do renovations will likely increase the value of your home equal or greater to the amount of equity used. This way you’re not actually losing any equity, but likely gaining.
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