We’re lucky to live in Seattle during a time of such rapid economic growth. More money in our community is always a good thing, and prosperity has made Seattle a desirable destination for Americans who are interested in relocating. One of the most obvious effects of this is the recent appreciation of property values throughout the Emerald City. Fortunately for homeowners, higher assessed home values translate into instant equity. Here’s everything you need to know about equity and how to capitalize on this untapped asset.
What is Equity?
Home equity is the difference between your home’s present market value and the amount of money it would take to pay off your mortgage. Let’s say your home is worth $500,000. You have $200,000 left to pay on your mortgage, so your equity amounts to $300,000. If in three years, your home is worth $600,000, you’ve gained $100,000 in equity, aside from the portion of your monthly payments that has gone toward your principle balance. This is great for homeowners in rising markets, and makes the potential for capital gains tremendous.
Regardless of how equity is earned, banks allow people with high credit scores, steady income, and a variable percentage of their mortgage paid off to borrow against their home equity.
A home equity line of credit loan, also sometimes referred to as a “HELOC”, turns your equity into a revolving credit line. This type of credit functions much like a credit card: you spend against the line, and you make monthly payments accordingly. You’re allowed to borrow a portion of your equity, usually 80-90 percent, and draw from that money when the need arises. These loans are popular for a few reasons.
First, they’re tax deductible, which speaks for itself. Second, they allow homeowners access to credit without repayment for 5 to 10 years. This can be a bit tricky, however. It’s important to know that interest rates on these loans fluctuate, and so your monthly payments may vary.
Lastly, these loans require no closing costs. What you see is what you get, which breaks down a financial barrier that is commonly experienced with other loans.
A cash-out refinance loan, as the name implies, is a means of liquidating the equity you have in your home. You’ll be able to walk away with somewhere around 80 percent of your home’s equity in cash, depending on your credit score and the available mortgages offered at the time.
This kind of loan differs from a HELOC in a few ways. First, your interest rate on a refinance loan is fixed. You may end up with a better or worse rate than an HELOC, depending on market fluctuations. The good thing is that you’ll always know how much your monthly payment will be.
The second difference is the availability of money; in this case, you will be getting it all at once. This can be an attractive option if current HELOC interest rates are high. However, with instant money also comes instant payments. You’ll be liable for loan repayment right away.
Lastly, cash-out refinancing has closing costs, which can cost you thousands of dollars and will reduce the amount of money you see from equity.
How To Use The Proceeds
Both loan types offer increased borrowing potential as equity rises. Whenever possible, we suggest investing your capital gains into other ventures that will return a profit. Use home equity lines of credit and cash-out refinance loans to fuel other investments. Reinvesting funds from a cash-out refinance loan is smart when the return is expected to be higher than your monthly payments. Of course, you should speak with a financial advisor, or even two, before making any major financial decisions.
A HELOC can be used in a similar way, but it is better suited for concrete investments, due to its variable interest rate. This can work well for rental investments, as the money that will be generated by your property can be used to cover your repayment. Again, it’s far from risk-free, but it is entirely possible to generate income from a HELOC, if you handle it properly.