First talk a little bit about what equity is. Equity is the value that you have in your home, the difference between the market value of the property and the debt on the property. If you have $100,000 home, a home that’s worth $100,000, you owe $60,000 on that home, you have $40,000 in equity. Simplest explanation, 100,000 minus $60,000 in debt. If you sold the property today, you’d walk away with $40,000. Million dollar home, you have $300,000 in debt, you have $6, $700,000 in equity. One million, pay off the 300,000. The equity that remains is 700,000, which is yours.
Let’s talk a little bit about how to use home equity loans and home equity lines of credit to tap into the equity in your home and to accelerate your wealth building process. First, let’s talk about home equity loans. A home equity loan you borrow at a fixed amount. The payments are fixed. Your interest rate is fixed. The payments are fixed. You get a lump sum today and you are basically making payments over the 10, the 15, the 20-year term of the home equity loan, so you know what your payments are every month, and it’s predictable. No closing cost is listed on this screen, but please pay attention to that. You’re never going to take out a mortgage and have there be no cost. A lot of times, it’s just rolled into the back end. You take out 100,000, but your mortgage goes up by 103,000 or 104,000. There are always going to be costs there. Just pay attention to what they are and how does it affect your overall loan.
Interest, usually tax deductible. As of right now, the current laws in the United States allow for interest on mortgages to be tax deductible. The word usually is thrown in there because who knows if those laws are going to change in the future, but as of right now, interest on mortgage or your mortgage interest expense is tax deductible.
What is the difference between a home equity loan and a home equity line of credit? A home equity line of credit, you do not receive a lump sum. Basically, what you do is you’re basically taking $100,000 and tying that up. You basically are using the equity almost as a credit card. In that sense, you charge or you write a check for $5,000 and then you pay off that $5,000. Now you have $100,000 in available credit once again. You buy a car with your line of credit, and you spend $25,000 on that car. As you slowly pay off the $25,000 loan, that credit becomes available again. It’s like a credit card. It’s a more revolving line of credit than it is a loan. A loan you get a lump sum, payments are equal over the term of the loan. The line of credit acts more like a credit card, and also your interest rates are variable. They are usually capped or tied to an index.
You’ll have, I would say, if you start off with a 6% interest rate, it may be capped at 9, but over the life of this home equity line, you may not know exactly what your payments are. Your payments are going to be based on how much you spent or how much you borrowed and what the interest rate is at that particular time. Why would you use one versus the other? I’ll give you two examples of how they are used by investors to accelerate wealth building. Let’s say, for instance, I have a neighbor who wants to sell their property to me. They’re in no particular rush. I am very interested in the property. It’s maybe a multifamily and I know it’ll cash flow if I can just get in and rehab the property and put it back on the market with some new tenants. I’m going to tell my neighbor, “I’m going to take some equity out of my home, and I’m going to now use that equity as a down payment for a new mortgage so I can buy your property.”
In that case, I’m going to go after the home equity loan. I have a purpose. I already know what my purpose for taking this equity out of my home is to go purchase a new home. I would rather my payments be fixed so I can calculate them and I know what they are every single month. I”ll have two mortgages to worry about, two additional mortgages to worry about, the home equity loan, plus the new property loan. I’m most likely going to use the home equity loan as a down payment for my new loan to purchase my neighbor’s property. Depending on where you are in the country or how much equity you have in your home, if you have enough, you can borrow the entire purchase price from your home equity loan.
Why would I use the home equity line of credit? I do not have a neighbor who’s looking to sell, but I know I want to buy and investment property in the future. I want to have access to the cash. I know that when I make an offer on a property, a lot of times, I have to move quickly. I want to have access to the cash immediately and be able to write a check with no going to the bank. I already want my funds to be available so I can move quickly, and I do not know my purpose as of yet. I’d probably be in that situation be looking for a home equity line of credit that I can take, borrow against my house, and in anticipation of using that for some future purpose.
To sum it up, I would say home equity loan is I understand my purpose. I’m going. My purpose is there. I have an existing need for this money or an existing want. I’m going to go take out the loan. I’m going to make my payments fixed and predictable. I know that I want to do something in the future, but I’m not quite sure what it is just yet, but I want to have access to quick cash, I’m probably going to use the home equity line of credit to do that in the future.
One other way that you can tap into your home’s equity that’s not exactly listed here is doing a cashout refinance. Let’s say you have a house. It’s worth $500,000, and you owe $200,000 on that piece of property. Instead of having two mortgages, instead of having your first existing mortgage and then a home equity loan on top of that as a second mortgage, you basically do a cashout refinance. You want to pay off the existing 200,000 and then take out an additional 100,000 or 50,000 or whatever it may be into one new mortgage. My new mortgage is going to be 300,000, paying off the old mortgage of 200,000, and putting $100,000 into my pocket. That is called a cashout refinance of your mortgage, and that is another way that you can tap into cash, as well.
Hopefully, this was helpful. If you are looking for mortgage brokers that you would like to speak to about home equity loans or home equity lines of credit, we work with some of the best in the business, especially here in Boston. Please click on the link below in the video description. Fill out the quick form. Tell us what you’re looking for. We would love to connect you with some of the people that we work with on a regular basis. Thanks for watching.