Home Equity Explanation

If you own a home, you can borrow against the equity, the difference between your home's appraised (fair market) value and your outstanding mortgage balance, that you have in your home.

For example, you purchased a home at $150,000 five years ago. When you secured the original mortgage, you paid $15,000 as the down payment and secured a mortgage of $135,000. In the five years you've owned your home, you've repaid, $10,000 toward the principal of the original mortgage and the home has increased in value to $170,000. To calculate your equity add the beginning equity, plus the amount of principal paid off, plus the increase in property value or:

$15,000 + $10,000 + $20,000 = $45,000

Your equity in your home is $45,000.

There are two types of equity loans available. A "term" loan is a single lump sum, that is paid back through regular monthly payments over a period of time. These second mortgages are usually for a shorter term than the original mortgage and generally carry a fixed interest rate.

The second type of home equity loan works more like a credit card. With a Home Equity Line Of Credit, a lump sum is not given. Instead, a credit line is opened. If you have $45,000 equity in your home, you might be given a $45,000 credit line. This type of Home Equity Loan is more flexible than a term loan but the interest rate usually varies as does the payment. These lines of credit carry a time limit set by the lender and will require that the amount be completely paid off as that time limit comes to an end.

When deciding which equity loan is right for you, take into account the purpose of the money. Many people use Home Equity loans for home improvements, debt consolidation, or one time big purchases. No matter what the purpose of your home equity loan, be sure to ask questions and establish trust in your lender.


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