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Equity is the portion of your home’s value you own outright. As you pay down your mortgage or your home’s value increases, your equity grows too.
More equity means more profits when you’re ready to sell the house, and it can reduce your monthly mortgage payments. You can borrow against your home equity and turn it into cash for home repairs or to pay off debts.
But how do you calculate your home equity? And how much of it do you need to enjoy all these benefits? This guide will break it down.
In this guide:
- How to calculate your home equity
- How to calculate your loan-to-value ratio
- Do I have enough equity to cancel PMI?
- How do I increase my home equity?
How to calculate your home equity
To calculate your home equity, you need two numbers: your home’s appraised value and your current mortgage balance. If you’re unsure of your home’s current value, consult your local appraisal district, or get a professional appraisal. Online estimates aren’t as accurate as a third-party appraisal. (Keep reading—we’ll discuss this in more detail.)
Once you have your appraised value and mortgage balance, calculating your equity looks like this:
Appraised value minus mortgage balance = home equity
Expressed as a percentage, you can divide your home equity by the home’s appraised value, as you can see in the table below:
|Appraised home value||Outstanding mortgage balance||Home equity ($)||Home equity (%)|
You can have 100% equity when you buy a home in cash or pay off your mortgage. Your equity can also be “negative,” meaning you owe more on the house than it’s worth. This might happen if your home’s value falls or you take out extra debt on the house—through a home equity loan, HELOC, or cash-out refinance, for example.
Are online home value estimates reliable?
An official appraisal is the most accurate way to gauge your home’s value since it involves a physical and market-level evaluation of your property. Online home estimates are better for a general idea of your home’s value rather than a specific number. (If you compare your home’s value across multiple sites, you’ll likely find different estimates.)
Both Redfin and Zillow publish regular data about the accuracy of their estimates. Redfin’s estimates have a median error rate of 2.26% for homes on the market and 7.40% for off-market homes. The error rates of Zillow’s Zestimates are 3.20% and 7.52%, respectively.
How do I get an appraisal, and who pays for it?
To get your house appraised, you’ll need to enlist a professional third-party appraiser and pay for the service yourself. The exact cost depends on your home’s size and location, but the average price is between $313 and $421, according to HomeAdvisor.
If you’re applying for a cash-out refinance, HELOC, or home equity loan, your lender will likely require an appraisal. Most lenders will arrange the appraisal, but you’ll pay for the service as part of your closing costs. We’ll cover home equity loans in more detail below.
Why don’t I have more equity when I pay my mortgage every month?
At the beginning of your loan term, a large portion of each payment goes toward paying interest, which keeps you from building much equity. As the term progresses, more of each payment goes toward the principal balance. This is when you’ll start building equity faster.
If you’re early in your mortgage and want to build up equity faster, consider making extra payments toward your principal balance. This will lower your loan-to-value ratio and increase your equity stake.
How to calculate your loan-to-value ratio
Your loan-to-value ratio (LTV) is your home’s value compared to your mortgage balance. You can calculate it using this formula:
(Outstanding mortgage balance / home’s current value) x 100
LTV is the inverse of equity. The more equity you have, the lower your LTV, and vice versa. For example, if your mortgage balance is $125,000 and your home’s value is $500,000, you’d have a 25% LTV. You’d also have 75% equity in your home.
Here’s a look at four scenarios:
|Loan balance||Home value||LTV||Equity|
Two mains reasons you might want to know your LTV are as follows:
- If your lender requires private mortgage insurance (PMI), you may be able to cancel it once you reach 80% LTV.
- If you’re applying for a home equity loan, refinance, or HELOC, your lender will use your LTV to gauge your eligibility. (For example, if a lender requires your LTV to be under 90% for a home equity loan, all the scenarios above except the last would qualify.)
Do I have enough equity to cancel PMI?
If you make less than a 20% down payment, you might have PMI, which increases your monthly payments. Once you have a certain amount of equity in your home, you can cancel this PMI and reduce your costs.
To do this, you’ll need to contact your lender and request a cancellation. If you have a conventional mortgage and don’t catch it in time, don’t fret: PMI automatically falls off when your LTV reaches 78% (and your equity is 22%).
If your mortgage is government-backed, such as an FHA loan, you’ll need to refinance to a conventional loan once your LTV is 80%.
How do I increase my home equity?
Two significant ways to increase your equity are:
- Improve your home’s value.
- Pay down your mortgage.
An excellent way to do the latter is making extra principal payments. This might look like one additional payment a year (perhaps after getting your holiday bonus or tax refund) or paying an extra $100, $200, or $300 each month.
Here’s a look at the difference this can make with the following terms:
- $300,000 loan.
- 30-year term.
- 5% APR.
Use this calculator to see the difference for yourself.
|No extra payments||$100 extra per month||$300 extra per month||$500 extra per month|
|Total interest you’ll pay:||$279,767||$239,830||$188,027||$155,384|
|You’ll reach 100% equity in:||30 years||26.3 years||21.3 years||18 years|
If you’re looking to increase the value of your home, certain improvements can help more than others. Remodeling’s Cost vs. Value Report lists several options for a high return on investment.
How can I tap into my home equity without selling my house?
While selling your home is one way to cash in on your home equity, it isn’t the only option.
Other choices include:
- Cash-out refinancing (replacing your old mortgage with a larger one and getting the difference back in cash).
- A home equity loan, which offers a lump sum and fixed monthly payments.
- A home equity line of credit (HELOC), which works similar to a credit card. You can withdraw money from a HELOC, but your rates and payments fluctuate.
How much of my home equity loan can I tap into with a home equity loan?
Most lenders allow a combined LTV between 80% and 90%, meaning your home equity loan and your current mortgage balance amount to no more than that percentage of your home’s appraised value.
Here’s how to calculate your combined LTV:
(Desired home equity loan + outstanding mortgage balance) / Appraised home value
And here are two example scenarios—in the first, the homeowner’s LTV qualifies them for a home equity loan; in the second, they don’t qualify based on LTV.
|Desired home equity loan||Outstanding mortgage balance||Appraised home value||Combined LTV||Qualify for a loan with 80% max LTV?|
Do I qualify for a home equity loan or HELOC?
The requirements for a HELOC or home equity loan will depend on your lender.
Most lenders require:
- A combined LTV of 90% or less
- A 45% debt-to-income ratio or lower
- A credit score of 620 or better
Remember: HELOCs and home equity loans are second mortgages, so you’ll make a payment on top of your existing mortgage. Because of this, lenders will look carefully at your income to ensure you can cover your new payment plus your current debts and mortgage.
Author: Aly Yale