“Understanding Home Equity: Calculation and Benefits”

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How to Calculate Your Home Equity in 3 Steps

Home equity represents your ownership stake in a home and a sum you may be able to borrow from using a home equity loan or home equity line of credit (HELOC). You can calculate home equity by subtracting your mortgage balance from your home’s current market value. Let’s go over how to determine your home equity and the pros and cons of drawing from it.

Step 1: Know Your Home’s Value

The first piece of information you need to calculate equity is your home’s value. If you’re looking for a ballpark figure of your home’s value, it’s possible to get an estimate without having to work with a professional appraiser. Websites like Zillow, Redfin, and Realtor.com offer home values that can give you an idea of how much your home is worth. If you decide you want to move forward borrowing against your equity, a lender will typically require a formal appraisal before approving your application.

Step 2: Find Your Current Mortgage Balance

The next step is to add up all of the debt secured by your house; this debt might include the balance on your primary mortgage and any second mortgages you may have taken out. You can find these balances on loan statements or by logging in to your mortgage account.

Step 3: Subtract Your Remaining Debt From Your Home’s Value

From there, subtract your mortgage debt from your home’s market value. For example, if your home’s estimated market value is $500,000 and all of the debt you owe on your home totals $400,000, your home equity is $100,000.

Step 4: Turn That Into a Percentage

You can take the home equity equation one step further by calculating home equity as a percentage. First, divide your home equity amount ($100,000 from our example) by your home’s value ($500,000 from our example), then multiply that result by 100. In this scenario, your home equity would be 20%.

If you put less than 20% down on your home, reaching the 20% equity mark is important since it’s when you can request to have private mortgage insurance (PMI) removed. Removal of PMI can decrease your monthly payment and long-term costs.

Pros and Cons of Using Home Equity

The benefit of having a high amount of equity in your home is that more of the home belongs to you outright. At some point, you may also want to use the equity you’ve built up. Taking out a home equity loan or HELOC is a way to tap into home equity without selling your house. Here are the advantages and disadvantages of borrowing from home equity:

Pros

• Flexibility: You can use the money borrowed from home equity to cover major expenses, such as medical bills or a home improvement project. You could also use a low-interest home equity loan to consolidate other high-interest debt.
• Potential for low interest rate: HELOCs may offer a low-interest introductory period, and interest may be lower than unsecured loans and credit cards.
• Interest paid may be tax-deductible: If you use a home equity loan or HELOC to improve your primary residence or a second home, you may be able to deduct mortgage interest from your tax bill.

Cons

• Lender limits: Lenders may limit you to borrowing only up to 85% of the equity you have in your home. But this varies depending on factors like your home value, how much you owe, and your credit. If you just purchased your home, this could mean you don’t have enough equity to take out a loan.
• You could go underwater: If you draw from home equity and the housing market takes a dip, you could end up owing more on the home than it’s worth.
• Risk of losing your home if you default: If you can’t make payments on a loan or credit line secured by your house, your home could go into foreclosure.
• You’ll make less money if you sell: Home equity loans and HELOCs typically have to be repaid with the sale of your home, which will decrease the proceeds you get in hand.

The Bottom Line

Monitoring home equity is worthwhile even when you don’t want to borrow from it. If you’re paying PMI, you can request to have PMI removed when you reach the 20% equity threshold. Equity also contributes positively toward your net worth. If you decide to sell your home, the equity you have built up (minus any selling fees) goes to you or can be put down on another home.

Finally, home equity provides a way to borrow money using a home equity loan or HELOC. Before you borrow against your home, however, make sure you can afford the extra monthly payment and check your credit score and report to see where you stand. If necessary, take steps to improve your credit so you can ensure you’ll get the best possible rate and terms on your loan.

For any mortgage service needs, call O1ne Mortgage at 213-732-3074. We are here to help you with all your mortgage needs!

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