Hi all! Today we’re going to start a series of blog posts getting back to basics! We realize that real estate can be confusing when you’re not a Realtor – heck, we even get cases that challenge our problem solving skills! We thought it might be a good idea to, at least once in awhile, answer the most common questions we hear. Two things before we get started:
Good question! Simply put, home equity is the market value of your home minus the total of any liens against it. In non-Realtor-speak, it’s the amount your home is worth minus what you owe. Make sense? For example, let’s say the fair market value of your home is $250,000 and you still owe $200,000 on your mortgage loan. The difference between the two, in this case $50,000 is what you have in equity. It’s the real property value of your home to you.
Better question! Home equity is an awesome thing to build and there are a few ways to go about it! The first is to put a down payment on your home when you purchase it. If you purchase a home for $250,000 and immediately put $50,000 down on it, you now have $50,000 in home equity (leaving closing costs and other fees out of the equation for the moment).
Another way to build home equity is to pay against the principal of your mortgage. Let’s say you’re paying an extra $1,000 per month on your mortgage payment. A percentage of that will go toward paying down the principal balance of the mortgage faster, so you’ll build home equity faster.
As the fair market value of your home increases, like we’ve seen in recent years with rising property values, the home equity of your loan increases similarly. If you can sell your home that you purchased for $250,000 at $300,000 – boom, $50,000 more in equity.
A riskier way of building home equity is through renovation. Let’s say you spend $20,000 on a kitchen renovation that increases the market value of your home by $25,000. Excellent! You’ve earned $25,000 of equity and profited $5,000. The flip side (get it?) of the renovation strategy is that there are a number of scenarios where you don’t build as much equity as the cost of your reno – if you over-renovate for the neighborhood, spend money on something that doesn’t traditionally get as much back (we’re looking at you, swimming pools), or renovate to your specific taste without considering a buyer’s perspective, you may lose money on your renovation.
Unfortunately, no. While homeownership is one of the most stable investments, as we’ve all seen, it’s not without a certain amount of risk. When you’re riding the market to build equity, it’s just as possible that home values decrease than increase. If that happens, you’re losing equity. If you get locked into a mortgage with an unfavorable rate or repeatedly refinance, you could lose equity even as you make timely payments. These are obviously situations to be avoided, so it’s important to work with a Realtor and a mortgage lender you trust to steer you away from these possibilities.
Home equity is, by definition, not liquid (when you can repeatedly buy and sell and investment without affecting its price). For that reason, it’s important to consider how you might make that equity work for you. Home equity management is the process by which you invest the equity in your home, usually through loans then further investments, with liquid assets. Yes, all of this takes a lot of math, careful planning, and a certain amount of risk, but it’s how you can put the equity in your home to work for you.
Phew, that was a lot!
We know it is. While we handle scores of buy/sell transactions every year, the average person only moves 11.3 times in their entire life (as of 2015) and obviously not all of those involve buying and/or selling a home.
It’s our job to know how to navigate the real estate world and our privilege to assist you in the process! Connect with us today – via text, phone, or social media – so we can talk about how to figure out your home’s fair market value and how much equity you likely have in your home. Even better, we can talk about listing your home now while the market is favorable to maximizing equity and putting it to work for you in your next home!