How To Build Equity On Your Home & Why It Is Important
When you purchase your first home, there are probably a million thoughts running through your head; excitement, proudness, worry. One thing you may overlook is building equity on your home right away.
But what is equity?
Equity is the difference between the market value of your home and the amount you owe the lender who holds the mortgage. The quicker you pay off your mortgage, the more equity you will build.
Think of it as an extra bank account. Homeowners tap into their equity savings to pay for things like remodeling their home, paying for their child’s education, etc. There are ways to tap into it that will be listed below.
But first, there are ways to increase the amount of equity.
How Do I Increase The Equity Of My Home?
If you have decided your home is not your forever home and want to move onto something bigger for your family, there are ways to increase your home equity.
Putting a large down payment on a house right away is a good start. That will make your amortization period shorter. Your payments will be higher every month, but you will pay less interest and your equity will pile up. Or buy a home that is below your budget that you know you can have a shorter mortgage on and make larger payments until it is time to move to a more expensive home that you have a bit more money for now.
Making improvements on your home or remodeling can add huge value to your home and increase equity. Even the smallest improvements can make the biggest difference, especially if that specific improvement is popular in the area. If you pay cash for the upgrades instead of taking out a loan, it will grow your equity even more and deduct those costs at tax time.
Any extra money you have or come across, whether that be a bonus or a gift, put it towards your mortgage. You may not think $25 is a lot, but it ends up helping in the long run. You could even switch your monthly payments to bi-weekly (if that is in your budget) to pay it off quicker. Or try rounding up the total; if you are paying $1,265 a month, increase it to $1,300.
How Do I Tap Into My Equity Savings?
There are a few ways to do this. Most homeowners will wait to borrow the money or take out a line of credit when the economy is doing really well. If you take out a large loan and home values crash, you could end up owing more on your house than it is even worth.
A home equity loan is like taking out a second mortgage. There is no fee to get one, but you will pay interest on it and have to repay it back on top of your original mortgage.
Home equity line of credit works just like a credit card. You will be given a certain limit and can spend up to that amount. There will also be an interest rate added, but no fee to this either.
For a cash-out refinance, you are re-financing your current mortgage for more than you actually owe to take the difference in cash. You have to prove you can afford it and may have to show your income in order qualify for the loan. The downside is having to pay interest on the loan as long as it lasts.
Most lenders suggest leaving 20% of the equity alone incase the market does crash, you will still have some money left over.
Is Equity Real Cash?
No. Do not mistake equity as being physically there. It is more of a mental concept than anything.
But, think of it this way: the equity of your home is what you own. If you owe $200,000 for your mortgage loan and your your home was just appraised at $550,000, you have $350,000 in home equity. When you move or finish paying off your mortgage, you can use that equity for your next down payment.
Can I Use My Home Equity To Help Pay For Anything?
Technically you can use your home equity loan to pay for anything, but most loaners will advise against it. Using it to go on vacation or buying an expensive car will not add value to your home or increase your equity. Using it to remodel your home will increase the value and it could potentially be tax deductible.
If you use your loan to pay off any debt you have, you still have to repay that loan. Therefore, you are back where you started. If you do not make payments for your loan, just like your mortgage, the bank can foreclose your home.
Think of what will benefit you in the long run. Compare your needs versus your wants.
Even though it is not physical cash, home equity helps you in the long run, especially if the value of your home goes up on its own or by home improvements. If you need quick cash, home equity loans or a home equity line of credit are available to you, but make smart choices. Any poor choice you make could really hurt your credit score or cause you to lose your house you worked so hard for.