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Real Estate News Real Estate News

What Does It Mean to Build Equity?


Written By: Ashley Sutphin
Monday, July 19, 2021

If you own a home, one of the benefits compared to renting is that each month youre making mortgage payments, so youre building an asset which is equity. Equity refers to the amount of your home that you truly own after you take into account the debt you owe.

To calculate your current equity, you should subtract your loan balance from your homes market value.nbsp;

If the number is negative, then your home is worth less than what you owe on it. That means you have upside-down equity.

This is obviously not the goal. The goal is to grow your equity over time as you pay your loan. Until you pay off your mortgage, even though youre considered a homeowner, your lender still has an interest in your property.

You own your home, but its collateral for your loan.

How Does Equity Work?

If you bought a home for 200,000 and you put down 40,000, which would be a 20 down payment, you would then have a home equity interest of 20 of your homes value. You own the 40,000 of your home right off the bat because of your down payment.

If your home value goes up over time, then while your loan balance could stay the same, your equity could go up. If you bought your home and the market spiked, so your home was worth 400,000, youd still owe only 160,000, meaning youd have gone from owning 20 of the home to 60.

How Can You Build Equity?

The primary way you increase your equity is by paying off your loan.

If you have a standard amortizing loan, that means youre making equal monthly payments. Those payments in this scenario go toward the interest and principal. Over time the amount thats going toward your principal goes up. Each year that you own your home and pay your mortgage means youre gradually paying it off faster.

You can also grow your equity by working to increase the value of your home. Home prices do tend to rise in a healthy economy on their own as long as the real estate market is doing well, and you can speed that up based on the work you do to your home.

You can also make accelerated payments on your mortgage. Most of the time as a homeowner, youll make 12 payments a year. If you split a payment into two equal amounts and send it every two weeks, you end up making 26 payments a year. That ends up being the same as having paid 13 monthly payments, so youre taking some interest off the total life of your loan.

Youll be able to pay your mortgage faster and build equity more quickly too.

Using Home Equity

The equity you have in your home is an important asset, and its calculated as part of your net worth. You can use your equity in different ways.

If you sell your home, then youre taking the equity you have in your home from the sale.

You can also get a loan against your equity. This is known as a home equity loan or second mortgage.

Overall, having a mortgage is sometimes viewed as forced savings. Each month that youre making a payment or perhaps multiple payments, youre building equity or building the value of an asset. Its like adding money to a savings account but instead of your asset being cash, its your homes equity.



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