Published: November, 2020
If you own a home, the mortgage payments you make each month could help you build a substantial asset – home equity. The home equity you build represents how much of your home you own, which can grow with time.
What Is Home Equity?
Equity is how much of your house you actually own after you account for debt. To calculate this value, you will need to subtract your mortgage balance from your home's market value. Ideally, you want a positive number. If you come up with a negative number, your house is worth less than what you owe, and you end up with negative equity. Having equity is valuable because it enables you to:
- Borrow money against it through a home equity line of credit or a home equity loan.
- Receive cash once you sell your house and pay all related costs.
- Use it to pay the down payment on the next house you buy.
How to Build Equity in Your Home
There are ways to build up your home's equity, including:
- Make a Large Down Payment
Making a bigger down payment when you purchase a home allows you to gain equity right from the start. It is instant equity. For a bonus, when you put 20% or more of your property's value down, you avoid costly private mortgage insurance.
- Pay More Money on Your Mortgage
If you choose to add to your monthly mortgage payment each month, ensure the money you are adding will apply to the mortgage principal. Ask your mortgage banker how you can do that and keep an eye on your monthly mortgage statements to ensure the money is being credited accurately. There are several ways of paying more regularly:
- Add more money to your monthly payment. Ensure it is a high enough amount that will make a difference but doesn't harm your budget.
- Change to making mortgage payments biweekly. Instead of paying monthly on your mortgage, pay biweekly. This will add on an extra monthly payment annually to your mortgage.
- Schedule additional automatic payments with your bank or credit union to apply to the mortgage at regular intervals.
- Use occasional extra money such as work bonuses or tax refunds to put toward your loan balance.
- Enhance the Property
Home improvements, remodeling and curb appeal projects can boost the equity of your home. Smaller projects, such as replacing a front entry door or garage door or adding attic insulation, do better at increasing your home's equity, particularly if you pay with cash rather than through a loan.
Other things you can do to improve your property's value involve enhancing your home's energy efficiency. For instance, you can install double-paned windows, switch to LED lighting, upgrade to energy-efficient appliances and add solar panels. Even smaller upgrades, such as adding a smart thermostat, can appeal to energy-conscious buyers. Of course, modern bathrooms and kitchens are sought after, as are finished basements and decks.
How Does Building Home Equity Help Me?
Building equity in your home could be a long-term wealth-building strategy. Making your monthly payments decrease the amount you owe, therefore making payments on your home is often referred to as "a forced savings account." This is different than almost all other assets bought with a loan, such as vehicles, which lose their value as you are paying them off.
It can take some time to build equity, but it is worth it. After you have built up enough equity, you can turn around and draw from it through a home equity credit line or home equity loan. Boosting your property's value, making a larger down payment and paying more on your mortgage each month are only a few ways to grow your equity.