In the world of real estate, equity is commonly defined as the portion of an owner’s home that they have officially paid off. In other words, it’s the current difference between A) what the property in question is actually worth, and B) how much money remains on the balance of the mortgage.
By far, equity is one of the most important ways to preserve someone’s wealth because in theory, a home should always appreciate in value over time. Therefore, as the fair market value of the home goes up while the amount remaining on the mortgage goes down, equity continues to build over the years.
A home equity loan is therefore exactly what it sounds like – a way to draw against that wealth by way of a lump sum of cash. They tend to have fixed interest rates with most lenders, which means that paying back that loan is done by way of a specific payment amount that remains the same over time.
Home equity loans can make sense for a wide range of different reasons, particularly if a homeowner needs to cover a large upcoming expense.
Some people use home equity loans for the purposes of debt consolidation, for example. They take the money owed on a variety of high interest credit cards and use the home equity loan to pay them all off. Then, they only have to worry about a single, fixed monthly payment – probably with a lower interest rate than they were dealing with on all of the cards.
Others use home equity loans for the purposes of home improvements. Depending on how much equity you have, taking out a loan could make perfect sense if you were immediately going to put it right back into the house. Renovations like a new kitchen or bathroom could absolutely improve the value of the home – thus essentially building even more equity in the long run.
Home equity loans can be beneficial in other situations, too. Sometimes a person will get hit with a large, sudden expense like a medical bill. In that scenario, a home equity loan could be a viable “backup” plan to pay those costs in the event that one doesn’t have other means to do so. This wouldn’t necessarily be the fastest way to cover an emergency expense as home equity loans tend to have a long approval process similar to a mortgage, but it is an option for most people.
As stated, the process of getting approved for a home equity loan is very similar to that of a traditional mortgage. The lender you’re working with will use, among other information, your debt-to-income ratio, your credit score, your annual income and more.
Because a home equity loan very specifically involves the difference between the current value of your home and what is still left on the mortgage, it stands to reason that those lenders will want to know exactly what the property is worth – which is why in the vast majority of all situations, an appraisal will be required.
During this process, a licensed and trained professional will come to your home and visually inspect both the inside and outside. They’ll collect as much information as they can about any improvements that you’ve made, any issues that are present and more.
They’ll also use comparable properties or “comps” in the neighborhood to see what other, similar homes have recently sold for. They’ll compare the number of bedrooms and bathrooms as well as any additional features to outline anything that they think may impact the value. Exterior improvements like a new pool will also play a big part in this.
Then, they’ll combine that information with data pulled from MLS listings and other sources to come up with an accurate, definitive value of what your home is worth. Your lender will use that report to determine how much you can get approved for in terms of a home equity loan.
In the end, remember that a home equity loan ultimately draws against your house – which means that in the event that you default on it, you could potentially lose your property. Still, if you have a plan in place to pay it back, and if the money is going to something that is truly valuable, it can and often is a good idea in a lot of situations.
If you’d like to find out more information about the appraisal process and its relationship to getting a potential home equity loan, or if you’d just like to discuss your own needs with a team of professionals in a bit more detail, please don’t hesitate to contact AmeriMac today.