There are numerous benefits to owning your own home. Not only does it provide a place to live, but it also provides a source of wealth. One of the primary advantages of owning a home is the chance to build equity. A home equity loan or line of credit allows you borrow money using your home’s equity as collateral. If you’re currently paying off a mortgage and are in need of some additional funds taking out a home equity loan may be the perfect solution.
What is Equity?
Equity can be defined as the difference between the current value of a property and the balance of all mortgage obligations. Essentially, it is the amount of ownership that has been built up by the holder of the mortgage through payments and appreciation. Home equity is created when the value of your home increases and/or when you reduce the amount you owe on your home through your loan payments.
How Does it Work?
A home equity loan is a way of cashing out your investment in your house. The buyer builds equity in the home and this is what a home equity loan borrows against. Although that equity cannot be sold lenders will lend money against it.
Types of Home Equity Loans
Traditional or Second Mortgage
A home equity loan, also known as a second mortgage lends out a lump sum of money that must be repaid over a fixed period. Interest begins accruing immediately after you receive the funds.
Line of Credit
With a line of credit your lender provides you with a "credit card" or "checkbook", to use if and when you need to or decide to use it. No interest accrues until you actually make a purchase.
How to Increase Your Home’s Equity
- Home Improvements - Anything that increases the value of a house also increases the owner's equity. This is why home improvements can be such a practical and profitable investment.
- Higher Initial Down Payment - The most obvious way to build additional equity is at the first opportunity--making a larger down payment at the time of purchase. This extra money is immediately "banked" in the home, making it much less tempting to spend.
- Bi-Weekly Mortgage Payments - will increase your equity and pay off your house faster. By making bi-weekly mortgage payments instead of once a month you are essentially adding an extra payment to every calendar year.
- Lump Sum Payments - Making a lump sum payment every now and then is another great way to increase equity.
- Shorter Mortgage Terms - The lower mortgage interest rates that we have seen recently means that for many buyers, they are able to either initially secure a mortgage with a shorter term or, if they are currently in a long term mortgage (such as 30 years) refinance and get a shorter term. These shorter mortgage terms mean that you will be paying down your principal much quicker and therefore gaining additional equity at a much faster rate.