People often talk about home equity. We know it’s important, especially if you want to refinance your mortgage. But what is home equity exactly? Why is it so important? How is it calculated? This article will answer all of these questions.
What you need to know about home equity
Home equity is the market value of a homeowner’s unencumbered interest in their property. Or, in other words, the difference between the home’s fair market value and the outstanding balance of all liens on the property.
It starts with the down payment you put down on your home. Then, it slowly grows with each other payment that you make against your mortgage principal. Also, if you invest your home and increase its value, you’ll end up with greater equity.
And, with greater home equity come greater financing options. It can help you secure a home equity line of credit, refinance your mortgage for a more favorable interest rate, or even get you a larger return on your investment if you sell your home.
Why is it so important to lenders?
Lenders use home equity to calculate your loan-to-value ratio, which is used, together with other factors, to determine the amount of loan you can receive. To calculate the LTV, a lender will divide the amount of the loan by the value of the property.
When and when not to use it?
Your home equity can come in handy in many situations. The best way it can help is if you use it to get a loan to renovate and improve your home. This way, you’re increasing the value of your home and adding even more equity. It can also be useful if you want to make an investment in the stock market, to pay off a student loan, as retirement income or as an emergency fund.
However, you should never use your home equity to pay off your credit card bills. Getting a loan won’t solve your credit card problems. Only becoming more disciplined, reducing your spending and paying everything you owe each month can do that. Otherwise, you could end up losing your home.