How To Use Home Equity to Unlock Your Home’s Value

By taking out a loan using your property as collateral, you can convert your home’s equity into cash that will provide additional monthly funds for living expenses, pay for repairs to your home, fund home improvements, or other purposes. 

While using your home equity can have benefits, remember that you are taking out a loan you’ll have to repay. And because you use your home as collateral for this loan, you could risk losing your home through foreclosure if you fail to make payments or meet other loan requirements. 

You’ll want to understand how to use home equity and when it makes sense. 

What Is Home Equity?

Home equity is the difference between your home’s market value and mortgage balance. It builds over time through your mortgage payments and as your property appreciates. 

For example, if you make a 10% down payment, your starting equity is 10%. As you make payments on your mortgage, you reduce your principal (the balance of your loan) and you build equity. 

You can estimate your home’s equity by determining the amount remaining on your mortgage. (Your lender can tell you your loan balance.) 

Next, estimate how much your home is worth. Look at the sale prices of homes that have sold near you. Subtract the loan balance from your estimated home value to give you a rough idea of how much equity you have. 

Let’s say you owe $120,000 and estimate your home to be worth $200,000. Subtract $120,000 from $200,000, and you have an estimated $80,000 in home equity. A professional appraisal is needed to get the accurate amount, but using the estimate can give you a ballpark number to understand your options.

Strategic Uses of Home Equity

As a homeowner, your home’s equity is a valuable asset. You can use the equity in your home to pay for various expenses.

You can use your home’s equity for: 

• Home Improvement and Renovation Projects. Maybe your kitchen could use new countertops, the bathroom needs updated tile, or it’s time for a new roof. Home renovations can increase the value of your home, and necessary repairs preserve it, so borrowing equity to pay for them makes sense. Plus, certain energy-efficient improvements reduce long-term costs and may even provide tax benefits.
• Debt Management and Consolidation. Using your home’s equity to pay down debt, particularly credit card debt, can be a wise financial decision. The average credit card APR is about 24%, so using a home equity loan to pay off high-interest credit card bills can be a smart way to save on interest in the long run.
• Funding Education Expenses. The cost of education has skyrocketed. Home equity can be a good way to help offset education expenses for your children, yourself, or a spouse. Funds can be used for tuition, room and board, certifications, technology, books, supplies, and anything else you might need. 
• Investment and Wealth-Building Opportunities. Maybe you’ve considered becoming a landlord. You’ll need to fork over a sizeable down payment. Instead of tapping into your savings, you could use your home equity to get the cash you need for real estate or other investment opportunities. 
• Building an Emergency Fund. Ideally, you’d have a separate emergency fund to cover unexpected events. But if you don’t have an emergency fund, your home’s equity can be used to pay for emergent needs. You can set up an option to withdraw money as needed or keep the funds untouched, it’s a financial safety net.
• Retirement Planning. If you’re 62 or older and own a home with a lot of equity, you can supplement your income to help you stay in your home. 

Home Equity Borrowing Options

Accessing the equity in your home comes with options. But knowing your options can help you determine how to use your home equity. One option may be better for your situation, depending on your equity amount, how you plan to use it, and other financial indicators.

Cash-Out Refinance

Cash-out refinancing involves taking out a new mortgage for the current value of your home. You then pay off your prior mortgage and receive the cashback for the amount you have in equity. You essentially replace your mortgage with a larger one and keep the cash difference. 

Most lenders will require you to maintain a certain amount of equity in your home. The amount you’ll have to leave depends on the type of loan you’re seeking, but expect to leave about 20% equity in the house. Cash-out refinancing will likely extend the time to pay off your mortgage. Your monthly payment may increase since you’re replacing your mortgage with a larger loan. 

Home Equity Loan 

A home equity loan is a loan taken out against the equity you have in your home. It’s a second mortgage requiring a separate payment. Home equity loans offer fixed amounts borrowed, rates, and terms for payback. They tend to have higher interest rates than first mortgages, but since you’re using your home as collateral, they have lower interest rates than a personal loan or credit card. 

Home equity loans are ideal if you must pay for one big project or expense. Most home equity loans let you borrow up to 80% of your home’s value minus what you still owe on your first mortgage. Terms vary, but you usually have five to 30 years to repay the loan. Home equity loans require upfront costs, including origination fees, titles, credit reports, and appraisal fees.

Home Equity Line of Credit (HELOC) 

Like a home equity loan, a home equity line of credit, a HELOC, is also a second mortgage using your home as collateral. They work more like a credit card than a loan, giving you a line of credit to borrow against your home’s equity, and you repay. Then, you can repeat it by borrowing it again. They are more flexible, allowing you to make multiple withdrawals and only the amount needed. Because your home secures HELOCs, interest rates are typically competitive. HELOCs are generally favored if you have numerous projects or needs occurring over a period of time.

HELOC has two phases: the draw and repayment periods. The draw period is when you can borrow money up to your approved limit, usually 10 years. You have to make interest-only payments, but payments toward the principal are optional. During the repayment period, you can’t take out more money. You make payments on the principal and interest payments until you’ve paid off what you borrowed. The repayment period varies, typically around 20 years.

Shared Equity Agreements

Shared equity agreements, also called home equity sharing, allow you to cash out a portion of the equity in your home in exchange for a partial ownership stake in the property by an investment company. And while the company doesn’t have access to the house, it participates in increasing or decreasing the property’s value. They appeal to homeowners who have built up equity but lack cash or whose credit isn’t strong enough for a home equity loan or a cash-out refinance.

Shared equity agreements are liens against your home, allowing you to sell a portion of your home today for cash. You don’t make monthly payments or have to worry about interest rates. As you receive money, your equity in your home decreases. 

When you agree to a home equity investment, you allow an investment company to buy a portion of your home equity in exchange for cash. The investment company will stipulate how long its stake lasts, typically 10 to 30 years, and how much you’ll be required to pay back at the end of the agreement term. In most cases, you’ll have to pay back the original lump sum plus a percentage of the home’s appreciation over the contract term.

Qualification Requirements You Might Need to Meet

Qualifications for refinancing, obtaining a home equity loan, a HELOC, or a shared equity agreement differ by lender. You’ll want to understand the long-term implications of using the equity in your home. Avoid borrowing more money than you need because you are responsible for paying the money back, plus interest and fees. Loans generally have upfront costs you must pay, which reduce the amount of equity you can use. And taking out a new loan could affect your credit score since it is another debt. You’ll want to weigh your options before deciding. 

You’ll need: 

• A credit score of 620 or higher
• A debt-to-income of 43% or lower
• A maximum loan-to-value of 85%
• Minimum equity stake requirements, usually around 15-20%
• Verifiable income history for two or more years
• Property value assessment process
• Documentation needed for the application

How To Be Successful While Maximizing Your Home’s Equity

Your home’s equity can provide an easy cash source and be a valuable financial tool, but borrowing from your home’s equity puts your home at risk. You’ll want to have a plan for managing the loan and ensuring you stay on track with payments.

If you have a reliable income source and can repay the loan, access to low interest rates and possible tax deductions make a home equity loan a sensible choice. You’ll want to compare different lending institutions’ rates, terms, and fees. Consider talking to a community-based credit union. They often originate loans locally and will take more personal interest in your particular financial situation. 

TFFCU Can Help You Decide if a Home Equity Loan is Right for You

Your home’s equity can help you consolidate high-interest debts, pay for renovations, or make updates to increase your home’s value. 

The Focus Federal Credit Union can help you explore options and choose the right type of home equity financing for your needs. With our Show Your Home Some Love promotion, you can tap into your home’s equity without closing costs, making it a good time to connect. Contact us today, and we will help you understand how to use home equity.

Aiden Ferguson

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