If you’re new to real estate, you’ve probably heard the term “equity” at some point. This popular phrase is used quite often when referring to the value of homes or other property, and building equity is actually an important part of owning a home. Keep reading to learn more about equity, what it is, how to build it, and why it’s important to your homeownership.
What Is It?
So, what is equity anyway? Simply put, equity refers to the difference between the overall market value of your home (what it’s worth if you sold it today) and how much you still owe the original lender of your mortgage. This difference can be calculated by considering how much equity you’ve built up and researching your home’s current worth in the market.
Gross Vs. Net
Gross equity is how much equity your home has before the cost of paying a realtor, closing costs, etc. So, if your home will sell for $300,000 and you’ve got a $200,000 mortgage on it, your gross equity would be $100,000.
Your net equity will be $100,000 minus the realtor costs and other fees associated with selling a home. You could have your equity reduced by as much as $20,000 or more, depending on the specific terms of the sale and services you used. Even if you did spend $20k on your selling costs, you’ve still pocketed $80,000 dollars in the end.
How to Build It
How does one build equity on a property? There are several ways to do so, starting with your down payment. From improving the property to paying extra on your mortgage principal, you can easily increase your home’s equity by following these simple steps.
Improving the Property
Improving the property is always a good idea; not only for the sake of making your home more customized to your personal tastes and updating outdated appliances or other things, but also to increase the resale value and, of course, increase your equity.
Whether you’ve updated the kitchen or remolded the bathroom, any improvements you make will add equity to your home, but you probably won’t know just how much until you actually sell it (or get it appraised).
Paying Extra on Your Mortgage Principal
Every time you send your bank a mortgage payment, you’re taking yet another chunk out of the original (and interest) balance. This increases your home’s equity, and if you pay extra on your mortgage every month, you’re reducing that amount even quicker. This is perhaps the easiest way to build equity, and if you can afford to pay more per month, you can pay down your balance even quicker as well. Imagine all you could accomplish with no mortgage payments!
If you put down $50,000 to buy your home, you’re already increasing your home’s equity by that much, as it reduces the initial mortgage cost by the provided amount. The greater your down payment, the more equity you’ll have right off the bat, and the sooner you can pay off your mortgage altogether.
Rise in Comparable Sales
When homes in your area start selling for more money, this can increase the market value of your home as well; thus increasing the overall equity you have available. Let’s say you bought your home five years ago for $200,000, but in recent years, similar homes have been selling for closer to $230,000. This can increase your overall home equity by $30,000! Pay close attention to what the markets are doing in your area so you can be aware of your home’s value and the equity you have access to.
Does It Ever Fall?
As incredible as home equity can be, it’s not immune to the changes in the market. Drops in the housing market, damage or destruction of your home, mortgage refinancing and loans: these can all serve to reduce your home’s equity. If you bought your house for $300,000 and similar homes have dropped in value to around $220,000, you’ve lost over $80k in equity. This is why it’s so important to keep track of housing markets, particularly in your area.
Don’t make borrowing against your home’s equity a habit, either. This can be an alluring practice, especially if you’ve built up an impressive amount of equity over the years, but certainly isn’t something you’ll want to make a habit out of.
Equity can be built in a variety of ways, from paying extra on your mortgage to improving your home. Always keep a close eye on your local markets and the national market to get a better idea of where your equity stands. If you want to know for certain how much equity you have available, you’ll want to hire an appraiser for your home.