Building home equity means you’re building a monetary value that you can access now or later by selling your home or taking out a home equity loan or home equity line of credit (HELOC). Your home equity is calculated by subtracting what you owe on your mortgage from the current value of your home if you were to sell it today.
Many Americans use home equity to save for retirement or finance expensive events or projects they want to accomplish. For example, someone might use their home equity to pay for a child’s wedding or to put in a pool in their backyard.
The Importance of Building Home Equity
Equity in a home is one of the most significant assets that the average homeowner possesses. This makes it extremely important to understand how home equity works and how you can increase your equity in your home. Maximizing your largest asset can lead to a higher net worth and a more secure future.
According to the 2020 census data, the average person aged 65 or older has $300,000 or more equity in their home. This can be a substantial amount of money used in retirement to fund a better lifestyle or an important event in your life. Whether you need to supplement your retirement accounts or want to pay for your child’s wedding, home equity can be a way of accessing cash as you need it.
8 Tips for Building Home Equity
There are many different ways that you can build equity in your home. Some are important to consider when buying your house, while others can be considered down the road. Each allows you to grow the value of your equity so that you can access the money as you need it, either now or in retirement. Here are some of the best things you can do to build home equity.
- Make a Bigger Than Normal Down Payment
The more cash you put into buying your house, the more equity you immediately have in the home. Making a large upfront payment to buy your house can be an excellent way to lower your monthly mortgage payments, as you’ll be borrowing less, but it can also be used to save money in your home. This becomes even more important if you want to shelter funds, as homes have more protections in many states than liquid accounts would.
- Pay Closing Costs Out of Your Pocket
One thing you can consider doing to increase your equity right away is to pay your closing costs out of your pocket instead of throwing the costs into your mortgage. This can cut down on a few thousand dollars that you’ll need to repay later, with interest. Plus, any amount of cash you put into your home at closing is pretty much always converted into immediate equity.
- Increase Your Property Value
Much of the value in your home comes from natural growth in your market over time. However, if you can increase the value of your home through your own doing, and you can build equity faster. It should be noted that the amount of money you spend improving your home doesn’t always increase the value when you sell; if it does, that value typically isn’t transferred at a 1:1 rate.
Some things that you can do to increase the value of your home are to add another bedroom or finish a basement. Other improvements might be a value-add for specific buyers, such as putting in a pool, but those improvements don’t add equity as an increase in value for everyone. You’ll want to know how much value you’re adding to your improvements before getting started.
- Your Market Matters
The market you buy your home in will almost always matter when you’re looking at the equity you were able to build over a long period of time. Some markets, especially as they grow, can rapidly increase the value of their equity just by being in the right place at the right time. You likely don’t want to buy a home in a declining market as you will struggle to build home equity over time in those markets.
- Stop Paying Private Mortgage Insurance (PMI)
Private mortgage insurance is what a lender may require if you don’t put at least 20% down when you decide to buy a house. This can typically add up to an additional 0.1% to 2% to the total yearly cost of your home. Once you have at least 20% equity in your home, then you may be able to get rid of PMI, but it won’t be done automatically for you. You will need to contact your lender and request that the requirement be lifted from your account.
- Refinance to a Shorter-Term Loan
After you’ve owned the home for some time, typically at least one year, you can refinance your mortgage. If you end up refinancing your mortgage into a shorter-term loan, it means you’ll be paying more each month, but you’ll also be able to grow the amount of equity you have in your home at a faster rate. This can be a great way to pay the loan off as quickly as possible.
- Make More Payments
Another way to build home equity is to make more payments than required. This gives you more chances to grow your equity because you’ll be overpaying on your mortgage. All of the additional money you pay goes against your principal loan, lowering your total amount owed and increasing your equity.
- Avoid Cashing Out Your Equity
If you decide to refinance your mortgage, you will want to ensure you’re not cashing out your equity when you do so. You’ll want to return any money you’ve made in equity to the refinance, thus maintaining your home equity and lowering the total cost of your refinanced mortgage. The longer you can wait to cash out your home equity, the better if you’re looking to maximize your overall savings for later.
- Make a Payment Plan
You can make a payment plan that involves multiple payments per month. This chips away at the total amount of your mortgage, and every dollar paid off is another dollar in your home equity. Making a payment plan allows you to budget these extra payments into your life without worrying if you have enough to pay it down. This is a helpful way to pay less interest and build equity faster.
- Don’t Panic
If the market turns for the worse, it’s important not to panic. If you panic, it could cost you overt ime. For example, if your home is valued at $500,000 and your equity is $50,000, you may want to sell if the economy takes a bad turn. This is especially true after the housing crisis in the late 2000s. Overall, staying positive and not panicking can go a long way to building long-term equity as the market recovers and strengthens again.
The Bottom Line
Home equity can be an important piece of the puzzle when figuring out retirement or other expensive moves. Building equity over time can provide a nice asset to grow your wealth or save for retirement. Ultimately, if you can put more money into your home by paying down your loan or improving the property, you can end up maximizing your total equity value. And one of the best features is that you get access to the monetary value of your equity by taking out a home equity loan or line of credit.