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Evaluating Home Equity

House with money inside illustrating evaluating home equity

Whether you’re looking to make some large-scale home renovations or help pay for a child’s college education, a home equity loan or home equity line of credit can help make those plans become a reality.

What is home equity?

Home equity is the difference between the value of your home and how much you still owe on your home. To determine the amount of equity you have, your lender will likely set up an appraisal of your home after you apply for a home equity loan. If your home is appraised for $275,000 and you owe $190,000, you’d have $85,000 built up in equity.

To get an idea of just how much you’d actually qualify for, you can use what’s called a combined loan-to-value equation. If your current loan balance is $190,000 and you’re planning on borrowing $30,000 for an attic makeover, your lender will use this formula:

$220,000 (your mortgage balance plus the cost of the project) ÷ $275,000 (the home’s value) = 0.8

Converted to a percentage, that’s a loan-to-value ratio of 80 percent, which falls into an acceptable range for many lenders. (Some lenders will let you borrow up to 100 percent of your home’s value in some cases.) With a home equity loan, you’ll receive all the money at once; if you’ve opted for a home equity line of credit, you can borrow the money you need, when you need it (much like a credit card) up to the loan limit

Careful consideration

When you’re contemplating a home equity loan, here are some points to keep in mind:

  • Your loan will likely need to be paid back in a shorter amount of time than your original mortgage—for example, 15 or 20 years.
  • Home equity loans typically have a fixed interest rate. Home equity lines of credit often have variable rates.
  • Look for the best rates and terms.
  • Interest on home equity loans may be tax deductible.*
  • If you decide to sell your house, you’ll need to pay off both your mortgage and home equity loan.
  • You’re putting your home up for collateral when you take on a home equity loan, so staying on top of payments is crucial.
  • If you need more money than the amount you’ve been approved for, you may want to consider delaying your plans and paying down your mortgage, which also gives your home more time to appreciate in value.
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