Home Equity: Explained

Home equity is a term you often hear not only in banks, but also at dinner tables and reunions, when your aunt or nephew starts talking about investments. Although it’s a familiar term, people rarely understand its essence and implications. In fact, a lot of homeowners themselves aren’t aware of the power home equity holds.

If you’re one of those who don’t have a clue about this real estate concept, we’ve tackled some frequently asked questions to help you understand the term.

What is Home Equity?

Home equity refers to the value of your homeownership. It’s the property’s market value at the time of purchase minus the current mortgage balance. So for instance, you bought a house worth a million pesos and your remaining loan balance is P500,000, you now have equity of P500,000. The longer that you stay in your home, the higher your home equity gets. Why is that, you ask? 

For one, you’re reducing the mortgage balance because you’re paying it off monthly. At the same time, the actual value of the property goes up over time. A property priced at a million pesos today will perhaps have a value twice that price five or seven years later. But then, this brings the next question: what good can this home equity bring?

What Can I Do with Home Equity?

You can use home equity to apply for loans and fund major expenses. For instance, in the aspect of investment, you can buy stocks or get another property, such as a condo or an apartment that you can rent out. It also applies to home upgrades. If you want to renovate, perhaps add another room, or take things up a notch and go for a bigger house, you can use home equity. Some people also tap into their home’s value when financing a new car, a trip abroad, weddings, or even their kids’ college education.

There are two types of loans when using equity. The first one is called a second mortgage. In this type, you receive a lump sum of money. Some financial institutions allow borrowers to get a hundred percent of their equity, while others put a cap at 80% to 90%. How do you pay the borrowed money in this case? You settle it over time in smaller installments, with interest. 

Meanwhile, the second type of home equity loan is the line of credit. Unlike the first one, you won’t get a lump sum. Rather, you’ll receive a checkbook or a debit card where you can get the borrowed money. Repayment will start when you begin spending the money. It also follows that the interest is charged only on the money spent. Much like how it works in a credit card.

How Do I Build Equity?

Since there’s financial power in equity, it’s only natural to ask how to get more of it, or more accurately, how to build your home equity further. Here are some helpful strategies:

  • Never miss a monthly payment. The most basic strategy is to be on time when it comes to monthly payments. Remember, equity increases as you settle your mortgage balance. If you can step up your payments, going above and beyond your monthly obligations, better. But if that’s a little overwhelming for your finances, perhaps you can just make one extra payment each year. Making these sacrifices will help you settle the loan balance faster, which is good for your equity and for your savings. 
  • Refinance your mortgage into a shorter term. Similar to the principle mentioned above, you get to pay off your loan faster. Remember, however, that this set-up means you’ll be paying more every month. Consider getting a side hustle, such as an online job you can do after regular work hours or every weekend. This can effectively give a boost to your paying capacity. 
  • Make your home beautiful. Replace your lighting with modern fixtures. Paint your walls with timeless color schemes. Remodel your kitchen. Convert a basement into a livable room. These home improvements can increase the value of your property, and could raise your equity as well.

Home equity is a concept you constantly hear from your money-smart dad and aunts, and now you know why they’re raving about it so much. You could have an untapped financial power sitting at your “home” if you use it wisely. 

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