Equity: Your Questions Answered
March 9, 2019 / Written by Rich Harvey
The use of home equity, whether for investment in a new property or improvements to an existing home, is a common wealth-building strategy for many owners.
It allows one to tap into the rising value of the property over time, as well as the increased share of that asset that you take with each repayment of the principal part of your mortgage.
If you’re interested in learning more, below are some of your equity questions answered.
- What is home equity?
Home equity is the market value of a homeowner’s property in the current market, excluding the remaining debt. It’s the difference between your home’s value and what you currently owe on your mortgage.
The property's equity increases as you, the debtor, make payments against the mortgage balance, and/or as the property value appreciates.
If you’ve ever wondered how property investors keep buying property after property while it takes others decades to save, it’s often because they’re using their home equity as collateral for a home equity loan.
- What is a home equity loan?
A home equity loan is a type of loan in which the borrower uses the equity their home as collateral (security for repayment of a loan). In doing so, a home equity loan essentially allows you to borrow against your home’s value.
- How much can I borrow?
The loan amount is determined by the value of the property (as determined by a valuer, who is usually appointed by the lending institution).
- What are the benefits of leveraging home equity?
Think of home equity as an asset. You can use it to help with the payment of new properties and more. Home equity is usually a homeowner’s most valuable asset.
- You can access it without having to sell your home.
- You benefit from gearing.
- The funds you borrow are typically at home loan interest rates (often more affordable than other credit).
- Home equity loans tend to be easier to qualify for.
- Home equity loans are typically relatively large loans, assuming you have sufficient equity in the home.
Most of the benefits above are available because home equity loans are relatively safe loans for banks to make: The loan is "secured" with your house as collateral.
- What are the risks associated with equity?
As with any loan, you need to carefully structure it to ensure you are not taking an undue risk or placing yourself under financial strain.
If you fail to repay, the bank can take your property, sell it, and recover any unpaid funds by foreclosing on your home.
- How to get started?
Just like any other loan, to get a home equity loan you’ll have to apply with lenders. The lender you choose will start by evaluating your home’s market value, then they’ll propose a maximum amount you’re able to borrow.
In most cases, lenders limit loans to less than 80% of your home’s value (the loan to value ratio).
They’ll also evaluate your income and your credit history when approving loans.
Home equity is a valuable resource and, if used intelligently, it can be used to start a wealth-generating property portfolio.
Of course, it’s not free money and you need to consider the potential risks against the rewards, but if you’re smart about it the rewards can be significant.