Equity in a home is the difference between the current value of the property minus the mortgage loan balance. This calculation can be a significant amount of money in a rising real estate market. Likewise, you'll have a lower loan balance if you've owned your home for a lengthy time. This debt reduction will also increase your equity as long as home values have increased.
So how can you use this increasing home equity to your advantage? There are two ways: a home equity line of credit or cash-back refinancing.
Home Equity Line of Credit (HELOC)
- Equity of at least 15% and can get a line of credit for 85% of that
- Home is the collateral for the loan, and the lender can foreclose if unpaid
- Homeowners don't have some of the protections that purchase mortgage loans offer. The lender can call the loan due-in-full at any time. This happened during the recession that started in 2008 at the same time that credit card lenders were reducing existing credit limits. Dire situation for many people.
- HELOC money is tax-free if used for home improvements, repairs, or remodeling.
A refinance is a loan that pays off the existing mortgage balance, originates a new loan, and returns cash to the homeowner. The amount of cash depends on a new appraisal's estimate of value and the loan balance on the current loan.
- Based on a new appraisal, many lenders require the homeowner to maintain a minimum of 20% equity in the property.
- Cash available: new home value x 80% - loan balance = cash-out amount. For example, a new appraisal is $300,000 and the loan balance is $150,000. Plug in the numbers:
$300,000 x .8 = $240,000
$240,000 – $150,000 = $90,000 cash-out
- The cash back is 100% tax free and can be used for any purpose.