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Everything You Need to Know About Home Equity

What Is Home Equity?

PorchLight Real Estate - Home Equity - Jar of MoneyHome equity is one of the most valuable assets you can have as a homeowner. Simply put, it’s the current appraised value of your home minus what you owe on your mortgage. 

The longer you stay in a home and the value appreciates, the more equity you have in it. And the more mortgage payments you make, the greater your equity becomes. You can even make additional payments on your mortgage principal to build equity faster. 

Once you’ve built equity, you can stay in your home and continue to increase it over time. You can also borrow against it for home upgrades or other expenses like debt consolidation. And of course, you can sell your current home and that equity can be rolled into buying a new one.

How Much Home Equity Do You Have?

Currently, the Denver and Boulder real estate markets are experiencing low inventory. There are far fewer homes on the market and a lot of competition to buy what’s available. Because of this, homes are selling for more and values are increasing exponentially. 

You might actually be surprised to learn how much home equity you’ve earned in the last year alone! If you’re considering selling, taking out a loan or just curious, talk to a PorchLight agent about providing a free Comparative Market Analysis (CMA). The number our agents provide isn’t based on a generic algorithm like you might find on some of the big home search sites. 

A truly professional CMA looks at comparable homes (comps) that have recently sold, market conditions, along with your home’s location, age, condition, size and other factors. If you want an accurate picture of your value and equity, you need a proper CMA.

What Can You Do With Home Equity?

If you have equity in your home, you can allow your home to continue to build wealth for you by staying in it as long as it fits your needs and lifestyle. 

You can also sell your home and use the equity you earn in the sale as the down payment on your next home. This is a great option if your family grows and you need more space—or if you send kids off to college and would like to downsize.

Finally, you can use equity to pay for significant expenses such as consolidating debt, paying for college costs, renovating your home to increase its value, buying another property, even taking a much-needed vacation. 

The options to borrow based on equity are often more cost-effective than using a credit card or a personal loan, both of which can come with high interest rates. 

Let’s take a closer look at different ways to access the equity in your home: 

  • Home equity loan: Also known as a second mortgage, this is paid out in a single lump sum by your lender. You then immediately begin repaying it in fixed monthly payments at a fixed interest rate over a certain period of time, whether 5 or 15 years.

  • Home Equity Line of Credit (HELOC): Similar to a credit card, this is a line of credit with a borrowing limit and variable interest rate. You’ll typically be able to pull money as needed for a certain time period and make interest-only payments. Once the draw period ends, you’ll begin paying off what you borrowed over the next 10-20 years.

  • Cash-Out Refinancing: With this option, you’ll create a new, larger mortgage on your home. It will pay off your original mortgage and you can then take out a chunk of the difference (around 80% to 90% of your home’s equity) in cash. If your original mortgage came with a high interest rate, this might be a good route since current rates are at all-time lows. Just remember that this option comes with closing costs and other fees.

What’s Your Next Step?

Whether you’re ready to wrangle your credit card debt or send your child to college, you should first find out how much home equity you have. Again, talk to a PorchLight agent about providing a Comparative Market Analysis (CMA) report. This is a great starting point.

Once you know your home’s value, subtract what you owe on the loan and you’ll have a figure to start working with. Remember that lenders will only let you borrow 80-85% (and up to 90% in some cases) of your home equity. They will also likely require no more than 80% loan-to-value (LTV) ratio of your current market value—or 20% equity in your home. 

  • Let’s say your current value is $600,000 and your mortgage balance is currently $360,000. That means you have $240,000 in equity. 

  • Now, divide your balance by your current value. That’s $360,000 divided by $600,000, or a 60% LTV.

  • Generally, if your credit score is in good shape and your debt-to-income ratio is 43% or lower, you will likely qualify for one of the options listed above.

Now, let’s look at how much you can potentially borrow using a home equity loan

  • With a home value of $600,000 and a lender allowing you to borrow 85% of its equity, the max you can borrow is $510,000.

  • Now, subtract your current mortgage balance ($360,000) from the max you can borrow to arrive at $150,000. 

Note that these numbers and calculations are approximate and may differ based on the lender you choose. The process may also require an official appraisal of your home, so be sure to talk things over with your PorchLight agent to determine if you want to proceed. 

A final word. Remember that you’re still borrowing and using your home as collateral. Always review your budget to see if you’ll be able to make payments on what you take out, otherwise your home could be in jeopardy. Looking at the scenario above, if you were to take out a home equity loan of $150,000 and repay it over 15 years at 5% interest, your monthly payment would be around $1,186. And you’d pay over $63k in total interest. 

Real estate wisely—we’re here to help! Contact a PorchLight real estate agent to talk over your options and get your free, no obligation CMA.

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