Building equity in your home is an exciting part of homeownership. Building equity means increasing the percentage of an asset you own — in this case, the percentage of your home compared to how much you still owe on your mortgage. Paying off your mortgage is a natural way of building equity, but you may be wondering if there are ways to expedite this process. Let’s take a look.
What is home equity?
Home equity is the amount of home you own compared to how much you borrowed. Your down payment is the first major contribution you make toward your home equity. The bigger the down payment you make, the more home equity you start off with. As you pay off your mortgage, you start to progressively owe less money and own more home equity.
How do I know my home equity?
You may calculate home equity by subtracting the outstanding balance of your mortgage from the appraised value of your home. For example, if your home’s appraised value is $400,000 and your outstanding mortgage balance is $100,000, then your home equity would be $300,000.
Why is building home equity important?
Building home equity is considered important for a few reasons. The overarching theme is that more equity gives you more control over your asset. Typically, when you buy a home, the goal is to own the asset and let it appreciate over time before eventually selling it for profit.
Here are a few other reasons why home equity is considered an essential aspect of homeownership:
- Home equity loans allow you to borrow against your equity: Borrowing against your equity means you can cash in on your home equity by taking out a loan against it. You may use this loan to cover other expenses, make home improvements, invest in another home or use it in the event of an emergency. If you’re able to borrow against your equity, having this leverage may prove useful someday.
- The more equity you have, the more you may profit from selling your home: If you’ve paid off your entire mortgage before you sell your home, you’ll get to keep all potential profits from the sale. In many cases, however, sellers may not have paid off their entire mortgage and are required to do so upon the sale of their home. If you still owe money on your mortgage, this will affect how much you profit from the sale. Generally speaking, the more home equity you have, the more money you’d get in that sale.
- The opportunity to use your home equity to decrease your debts and improve your creditworthiness: Cashing in on your home equity may be used to pay off other debts. By paying off other debts, you’re decreasing your debt-to-income ratio and ultimately, improving your financial health and creditworthiness.
How to build equity in a home
There are a few ways to build equity in a home, and some help you expedite how much equity you build in a shorter period of time:
- Make regular mortgage payments: If you’re taking out a mortgage, it’s best practice to make regular, timely mortgage payments. When you make payments on time, you avoid late fees and compounding interest. With each payment that goes toward your principal, you’re helping build home equity.
- Make early or extra mortgage payments: If you’re making early or extra mortgage payments toward your principal, you’re potentially building home equity at a faster rate by decreasing the amount you owe ahead of your amortization schedule.
- Sweat equity: Sweat equity is hard work that creates value. For example, instead of paying for a contractor to make a home improvement, you could decide to save that money and try to take on the project yourself. The money saved and potential value added to your home may help build home equity.
- Home improvements: By making home improvements that increase the value of your home, you’re also increasing your home equity. For example, finishing your basement and adding a bathroom increases the usable square footage of your home and ultimately how much someone might pay for your home, which in turn helps build your home equity.
Building home equity is the concept of paying off your mortgage and gradually owning more and more of your home. Building home equity is desirable because you’re increasing your control and ownership over your asset, which provides you with opportunities for financial flexibility like using your home equity to improve your home, cover debts or make a profit when you sell your home. Consider speaking with a home lending advisor to decide what benefits you may get out of tapping into your home equity.