Home Equity – An introduction

Nov 6, 2020 Topic: Home Equity

At SmartRE, defining home equity is an existential exercise.  As democratizers of the homeownership experience, we spend every moment trying to help our buyers and homeowners mutually benefit from home equity. 

Home equity is the value of a home that is owned by the title holder.  It is defined mathematically by the formula “Home Value – Outstanding Home Debt = Home Equity”.   So, if the home’s value is $1,000,000 and there is a $500,000 mortgage on the home, then the title holder has $500,000 in home equity. 

One portion of the equation – Home Value – is a moving target that fluctuates with changes in neighborhoods, the local, state, and national economies, some home improvements, and consumer taste.  When an economy is doing well and more people move into an area, the number of homes available on the market decrease and the value of all of the homes increase because they are in high demand.  If a school district improves its results, the area in that district will see increased home values.  If a home in Buffalo is the only one in it’s neighborhood that is weatherized, uses solar panels for electricity and geothermal systems for heating and cooling, its value will be higher relative to less efficient homes in the area.  Conversely, if people are leaving an area, or schools are suffering, or a home is in disrepair, the value of the home will decrease.   

Remember, what is paid for a home isn’t necessarily the home’s value in the future.  That is dictated through the factors outlined above.   A home’s value is determined by an appraisal, which compares the home to similar homes nearby. 

The other factor in the equation should be steadily going down over time.  Outstanding Home Debt is another way of saying mortgage.  A mortgage is the loan taken when a home is purchased.  Mortgages require monthly payments of interest and the loan principal.  Depending upon interest rate and the size of payments made, early year payments will pay more interest than principal.  But as payments are made, assuming that the value of the home is constant, the amount of home equity will increase.  Additional loans using the home’s value as collateral, like a second mortgage or a home equity loan, will add debt and decrease home equity.

Let’s look at some examples.  Using the example above, let’s say the home grows in value from $1,000,000 to $1,100,000.  And after ten years, say the amount owed decreases from $500,000 to $400,000.  In this case, the formula becomes $1,100,000 – $400,000 = $710,000.  Now assume that the home decreased in value by $200,000.  Then the equity would be $800,000 – $400,000 = $400,000. 

Regardless of the scenario, home equity is a powerful tool for a family.  As home equity grows, the homeowner has more flexibility to determine their financial future.  There may be a temptation to sell the home or take a home equity loan to take advantage of that home equity, but those moves come with significant costs.  Downsizing has tax implications.  Reverse mortgages have hidden fees, put limits on what you can do with the proceeds, and dictate with whom you can share the home.  Home equity loans just add more debt. 

SmartRE doesn’t pose these issues.  We let you take advantage of your home equity without ongoing costs, closing fees, meetings with realtors and lawyers, monthly payments, and all of the other hidden real and emotional costs associated with alternatives like moving.  At SmartRE, for just a low, one-time fee, a homeowner can cash in their home equity while maintaining complete control of the home, without some predetermined payback period.  Buying back the equity occurs only when the homeowner is ready, either through the sale of the home or the repurchase on our app.  That’s why SmartRE is smarter.