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Home equity is the difference between what you owe on your mortgage and the current value of your home. You can build equity as you pay down your loan balance and as the market value of your home increases. If you still owe money on your mortgage, you only own the percentage of your home that you’ve paid off. Your mortgage lender owns the rest until you pay off your loan.
With each mortgage payment you make, the balance of your loan decreases, and you build more and more equity (assuming your home value doesn’t decline). When your mortgage is finally 100% paid off, you have 100% equity in your home.
Equity is an important financial tool and one of the greatest financial benefits of owning a home. If you sell your home, your equity will be a factor in how much buying power you have when purchasing a new home. If you plan to stay in your current home longer while you build more equity, you can borrow against that equity to secure a home equity loan. When you take a home equity loan, you are putting up your equity as collateral in case you default on the loan.
There is usually a lot of flexibility in how you use a home equity loan. However, If you are thinking of selling your home in the near future, the home equity loan would be paid in full at the time of the sale.
Typical ways to use a home equity loan:
- Funding a student loan for yourself or your child
- Paying off or consolidating credit card debt
- Funding a vacation
- Paying for weddings or important celebrations
- Starting a business
- Making home improvements and upgrades
- Paying medical bills
- Making key purchases, such as a car or a truck
- Funding investments
- Set aside for an emergency fund
Advantages of a home equity loan:
- The interest rates for home equity loans are fixed, instead of variable, and your monthly payment is consistent, so you never have any surprises.
- You can pay for big purchases little by little.
- The interest rate you pay on a home equity loan is often lower than those for credit cards or other types of loans.
- You can usually get access to funds quickly, sometimes within days of completing the loan documents.
- You also might be able to deduct the interest you pay on a home equity loan.
The Bottom Line: Home equity loans are a great tool to help you borrow against your home’s equity. However, they’re not the only way you can access the money you’ve built up in your home. Before you can decide if a home equity loan is a right choice for your needs, you need to understand your options. Borrowing against your home’s equity is always risky, as the lender can foreclose on your home if you fail to make payments. Be sure to get excellent financial advice before making any decisions.