What is equity and how can I use it to invest?

Whether you’re looking to invest in property, renovate or pay off something big, borrowing against the equity in your home may be helpful, if you’re across the risks.

The equity in your property can be a valuable resource, as it may allow you to borrow money to achieve your goals, whether they be investment or lifestyle oriented.

If it’s something you’ve been thinking about, here are some pointers to understanding what equity is and how it can be used, with the most important being, if you borrow against your property and can’t make the repayments, you could lose your home in the process.

What is equity and how is it calculated?

Home equity refers to the current market value of your home (which won’t necessarily be the price you purchased it for), minus the amount of money still owing on your home loan.

To give you an example, say your home is valued at $800,000 and you still owe $300,000 on it, you’ll have $500,000 of equity.

Keep in mind that as the market value of your property can go up or down, so too can the equity you have in it rise and fall.

To find out how much equity you have currently, you can organise a property valuation through various banks, lenders and independent agents.

Also note, even if you do have equity in your home, you won’t always be able to borrow against it.

Your lender will look at additional factors, such as your age, income, debt levels, the property’s location and whether you have any children.

This is because all of these factors could affect how much you can afford in repayments.

With that in mind, if you do have equity, you’ll want to find out how much of it is ‘usable’.

What do people use home equity for?

The equity in your home can be used to secure finance for a variety of things, whether it’s a home extension, renovations, investment property, shares, new car or various other big-ticket items.

When you use your home equity, you’re effectively increasing the amount you owe to your lender and using your home as security for your borrowing.

With that in mind, it’s a good idea to think about the long-term impact of taking on more debt.

Investing your money wisely could help you to increase your income, while borrowing money to pay for holidays or things that depreciate in value will come with greater risk.

How can I grow my home equity?

  1. Add value to your property

You can add to the value of your property by renovating, extending or even just making some small adjustments to improve your home’s street appeal.

The key here, however, is to avoid overcapitalising, which is when the cost of the work completed outweighs the value added to your home in the process.

  1. See if the property has appreciated in value

If your property is in a high-growth area or you’ve owned it for a number of years, the property may appreciate in value over time without you doing anything.

However, depending on changes in the property market, the reverse could also happen.

With that in mind, it may be worth keeping up to date with market trends to see how your property is faring.

  1. Reduce your home loan

Another way to increase the equity in your home is by reducing the size of your home loan, which you can do in a number of ways.

For instance, you could pay more than your minimum repayments (if you’re in a position to) or refinance with a different lender if they can give you a better deal that’s going to cost you less.

What should I consider first?

Before you use your home equity to take on an additional loan, or increase the one you have currently, there are questions worth asking:

  • What do you want to use your home equity for and is it a good investment decision?
  • How much will your repayments increase by and will you still be able to live comfortably?
  • Will you need to extend the term of your loan?
  • Have you accounted for a possible rise in interest rates?
  • What happens if your property depreciates in value and your loan is worth more than your property?
  • Do you have a household budget in place to accommodate for additional or unexpected costs?
  • Can you access the equity in your property via your current lender, or will you need to refinance?
  • If you do swap lenders, have you thought about break costs and application costs, including establishment, legal and valuation fees, stamp duty, and when lender’s mortgage insurance may apply?

Accessing the equity in your home could be a smart move in helping you to achieve your goals. However, it’s important to stick to a workable budget, add in a buffer for emergency situations and be committed to making your repayments on time.

Remember, with any debt you take on there will be risks and using your home equity means you could lose your home if you don’t meet your repayment plan.

If you would like some assistance, please contact your adviser.


Source: AMP

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