The Basics of Home Equity

Understanding The Home Equity Loan Process

Building equity over time is one of the many benefits of owning a home. Remodeling and renovations in a home, as well as paying off a credit card or tuition loan are just a few of the ways that home equity loans can be used. What is home equity and how does it work?  This article will take a closer look at the basics of home equity and how a reliable community bank can provide competitive fixed rates and terms, personal service, expertise and simple payment options.

What is Home Equity?

A home equity loan may be right for you if you need a large influx of money or are paying off higher interest debt. Turn your debt into an asset with a Home Equity Loan. Home equity is the portion of a homeowner’s loan that has been paid off. It is the portion of the property that the lender no longer has a stake in. Home equity is the current market value of a home minus what is owed on the house. A home equity calculator can give you an idea of what your home is worth and how much equity you may have if you’re thinking about selling your home or borrowing a chunk of your equity. Additionally, a home appraisal can provide the value of your house, if more specific numbers are needed.

Gains in the value of home equity come with the paying down of the principal of a mortgage loan, as well as with an increase in the market value of the home over time. Every month when a mortgage payment is made, the mortgage balance is decreasing and the home equity is increasing. In order to calculate your home equity, the amount of the outstanding mortgage loan is subtracted from the price paid for the property. Once a mortgage is paid off in full, the homeowner will have 100% equity in the home.

Most property values do not remain the same over time. Home appreciation averages about 3% each year. Since property value increases depend on location and the economy, there is no way of knowing how long one needs to stay in their home in order to see an increase in value.  However, insight can be gained by looking at historical price data and trends for homes in a particular area to see if they are trending up or down.

Paying monthly principal payments and home appreciation build equity and help homeowners create financial stability. Making a larger down payment when the home is purchased instantly builds equity for the new homeowner.

What Options Are Available To Borrow Against Home Equity?

Home equity money comes with lower interest rates, making it a smart way to borrow money.

1. Home Equity Loan – A home equity loan works like a second mortgage. You pay this loan back in monthly installments, with interest, while continuing to make your normal payments on your original mortgage. The lender pays this out in one lump sum.  With the stability of predictable monthly payments, this option is ideal if you have a large, immediate expense.
2. Home Equity Line of Credit (HELOC) – This is more like a credit card, only the credit limit is tied to the equity in your home. As with a credit card, you only pay back what you borrow. A person can withdraw as much as needed up to the credit limit during an initial draw period, which is usually up to ten years. As the HELOC principal is paid down, the credit revolves and can be used again. This option provides the flexibility to get money as it is needed. Due to variable rates, the monthly payments can go up or down over the loan’s lifetime.

What are the Benefits of Home Equity Loans?

• The mortgage interest may be tax deductible if used for home improvement or mortgage refinancing.
• Lower interest rates are available since the home is the collateral for the loan. It makes the loan less risky than other forms of financing such as credit cards or personal loans. You have a fixed interest rate with the loan.
• It is a long-term strategy for building wealth. Your home is an individual’s most valuable asset.
• Loan proceeds are provided in one lump sum.
• Monthly payments are fixed.

How Does a Homeowner Qualify for a Home Equity Loan?

Lenders have varying borrowing standards and rates. Most lenders have consistent minimum requirements of a credit score of 680 or higher, a maximum loan-to-value ratio of 80%, and a debt-to-income ratio no higher than 43 percent. Your credit score indicates your creditworthiness and the likelihood that you will repay your debt. A debt-to-income ratio compares monthly debts and payments to pre-tax monthly income.

Most lenders also require a documented ability to repay your loan. Similar to applying for a mortgage, a bank will require a homeowner to provide all necessary documents in order to qualify for a home equity loan. The homeowner is also responsible for all closing costs. Some options may be available to roll some of those costs into the loan amount.

Here is a list of some of the documentation that  may be required when applying for a home equity loan:

• E-sign loan disclosures
• Income documentation to support the stated income
• W2s and pay stubs
• 2 years of tax returns
• 1099’s and/ or bank statements

To determine your debt-to-income ratio ( DTI), lenders will add up the total monthly payment for the house, which includes mortgage principal, interest, taxes, homeowners insurance, direct liens and homeowners association dues, along with any other outstanding debt that is a legal liability. The debt total is divided by your gross monthly income, which includes base salary, commissions and bonuses, as well as other income sources, such as rental income and spousal support. 

Next steps for Building Equity in Your Home:

There are a number of ways to start building equity in your home.

1. The quickest way to build equity is to make a large down payment. The bigger this payment, the more immediate equity in the home.
2. Pay more than the minimum required payment each month. Making an extra payment each year, or even an extra $100 a month will help chip away at the loan’s principal balance.
3. Stay in your home for more than 5 years. Equity is built when a home increases in value. There is never a guarantee to see the value jump, but odds increase when a homeowner stays in the same residence for longer periods of time.
4. Renovate and add curb appeal to your home. Adding an extra bedroom, renovating a kitchen, or investing in landscaping to improve the curb appeal are ways to increase the value of your home.

Understanding equity is a crucial part of the loan process. Leveraging the equity in your home can allow you to consolidate debt, pay for renovations, or help pay for a hefty downpayment. It is important to explore all of the options and choose the proper type of home equity financing to best meet your needs. If you are a homeowner and have generated enough equity in your home, have a low debt-to-income ratio, and a strong credit score, then a home equity loan may be worth considering.

Community banks can provide a differentiated, intimate customer experience for a homeowner seeking a home equity loan.

Jarrettsville Federal offers a variety of loan products to our customers. Our loan decisions are made on site and our loan specialists provide personal service. At Jarrettsville Federal our in-house processing capability allows us to completely manage your entire application, underwriting, and closing. This eliminates delays and miscommunications and allows you to reach your goals faster and without mistakes.  We offer home equity loans and home equity lines of credit. Our loan officers are waiting to work with you today. For more details contact us at 410-692-5151 or check out our website at https://www.jarrettsvillefederal.com/loans/.