At its core, the concept behind home equity is a simple one. It’s a term that describes the market value of your “unencumbered interest” in your home – meaning, the difference between the fair market or “appraised” value and the outstanding balance of any and all loans that you may still owe. If your home was worth $200,000 and you still owed $100,000, for example, the equity on your home would be $100,000.
What a lot of people don’t realize (especially first-time homeowners) is that it’s possible to remodel your home to look precisely how you want it, and to improve the amount of equity you have at the same time. There are three responsible, budget-conscious techniques in particular that you’re definitely going to want to know more about.
1. Get a Home Equity Loan
A home equity loan is exactly what it sounds like – a loan that you’re taking out against the equity in your home. To continue with the above example, it would be possible to borrow against the $100,000 equity in your home for nearly any purpose you’d like. However, there are a few reasons why it’s a good idea to do so specifically with renovations or other improvements in mind.
If you borrow against your home equity to make improvements that improve your home’s value, you’re creating more equity – and improving your return on investment exponentially. If you make these types of home improvements, continue to pay your mortgage on time, and the value of your home goes up, you’ve created a tremendous amount of equity in a short amount of time.
Just understand that if the value of your home goes down, the amount of equity you have will decrease with it. Therefore, if you’re going to explore this opportunity to fund your next remodeling project, make sure you try to do so during a period when the market is as strong as possible.
2. Consider a Home Equity Line of Credit
A home equity line of credit, on the other hand, isn’t a loan at all. Much like a credit card, it becomes a set amount of money that you can withdraw from as necessary. Payments aren’t going to be due unless there is an outstanding balance – meaning if you never actually withdraw any money, you won’t have to make any payments. However, it also won’t be lumped in with your mortgage to create one easy monthly payment as a home equity loan will.
Home equity lines of credit are typically for projects that are handled little by little over long periods of time. If you were undergoing a massive renovation project like installing an all-new kitchen, you’d probably want a larger (and more immediate) cash injection of a home equity loan. If you were making smaller modifications here and there, however, a home equity line of credit would likely be more appropriate.
3. Understand What Will and Will Not Improve Your Home’s Value
It’s critically important for you to understand that not all renovations will improve your home’s value. A pool may be something you’ve always wanted, for example – but that might not be true of a buyer when the time comes to sell.
Generally speaking, improvements that will increase your home’s value include finishing your basement, creating a home office, updating your kitchen or bathrooms, and anything related to landscaping and/or curb appeal. Provided that you focus on these areas with your home equity loan or line of credit, you’ll find that the effort is worth it by way of your ultimate return on investment.
Focus on the Big Picture
Ultimately, the most important thing to remember is that home equity is something you should consider – but especially when it comes time to remodel your property. The best ways to use home equity to that end are ones focused on the bigger picture. It’s less about short-term gains and more about the types of long-term benefits you can unlock for yourself that would be hard to match via any other technique.