We’ve talked about equity in our recent articles but we wanted to dive in and give you a full article of information on this point, especially for those still scratching their heads over this word.
So, grab a coffee – or tea, if you must! – and settle in for a superhighway of helpful facts and figures on one of our favourite words within real estate jargon.
What is home equity?
As we mentioned last week, equity is the difference between the current value of your first purchase and what you still owe on your loan.
Or in other words, equity is how much of your house you yourself actually own, rather than the lender.
Think of it like this:
Your house is worth $500,000 but you still owe your lender $300,000 so your equity – or how much of your house is undoubtedly yours – equals $200,000.
Lenders will see this $200,000 as your security or collateral against potential mortgage repayment failures on your behalf.
What can I use my equity for?
You name it, you can use it!
Think of house renovations or buying a car, starting a business or enjoying a holiday.
Investment properties are also often bought using home equity.
What is a home equity loan and how does it work?
Not surprisingly, home equity loans are often known as second mortgages as they enable buyers – both owner-occupiers and investors – to purchase a second home.
However, regardless of what you’re using your equity for, lenders will have different rules and regulations on how much you can borrow and how you can access your equity.
They’ll want to check the following, for a start:
- your home’s current market value
- how much you’ve paid on your mortgage
- what you plan to use the equity for
- current market conditions
How much home equity can I borrow?
As a general rule, lenders like to stick to the 20% ultimate security number, much as they do when they prefer a 20% mortgage deposit.
In the case of a home equity loan, lenders won’t be happy if you’re still to pay 80% or more on your property’s current value.
Remember, your equity is their security so offering lenders just 5% for this security ain’t likely to cut it with them.
Also, if you do have less than 20% equity, you will have to pay Lender’s Mortgage Insurance (LMI), just as you would if you only had this much as a home deposit.
How can I grow my equity?
But cheer up!
Everything’s not lost if you’re in the 5% box.
There’s one easy way to grow your equity and it requires virtually no hard work on your behalf.
Simply put, your property may have shot up in value since you bought it, meaning its current value is now sky-high, along with its equity possibilities.
In other words, the $200,000 equity opportunity you may have enjoyed a few years ago may now be even bigger, and all thanks to your home’s market value.
Also much larger is your new ‘real’ ownership of your house.
Not bad, hey!
And although this market value change won’t happen with every property, it’s certainly something to keep in mind.
Other great ways to grow your equity include:
- saving more /putting extra cash towards your mortgage
(NB: this may well mean less eating out and coffee catch-ups)
- get a shorter home loan – it’s harsh but it will force you to save!
- pay larger payments more regularly
- put all bonuses including tax refunds into your mortgage
- dedicate one partner’s income solely towards repayments – and live off the other’s income alone. This is an oldie but still a goodie, we think!
- revamp or renovate some or all of your house to up its value stakes – but be very careful that your budget doesn’t go overboard
What are the benefits and risks of home equity loans?
Whether it’s buying an investment property or a much-needed car, utilising your home equity can be a game-changer for your finances.
But before you get too excited about using this cash, think about the following:
- Higher overall debt = larger repayments and attendant interest rate factors
- Extra fees and charges are needed when taking out an equity loan
- More time is also needed to repay this loan
- A risk of losing your first home if the loan is not repaid
- The temptation to use equity for other purposes ie holidays
- Can lead to spiralling debt
- Relatively easy source of funds
- Ideal for those with steady source of income who know exactly how much they need to borrow
- Interest rates on home equity loans can be lower than that of credit cards and similar
We’re here to help
If you’re considering a home equity loan, chances are that even after reading this article, you still have questions about them.
That’s where Lending Loop can help out with our smart team of independent experts.
At the same time, they can find you the best possible deals from more than 40 of Australia’s biggest banks and specialist lenders.